How to Set Up a 401(k) Plan for Your Small Business

Setting Up Your Small Business 401k Plan

Setting up a small business 401k plan can be a great way to attract and retain key employees. These steps can help you get started.

If you’re a small business owner, you know how challenging it can be to attract and retain talented employees. This may be especially true recently as The Great Resignation continues. Yet challenges often create opportunities. As workers demand more from their employers, now may be the right time to consider offering an employer-sponsored retirement plan.

Why Offer a Retirement Plan?

According to a 2020 study by J.P. Morgan, less than half of small businesses offered a retirement plan as an employee benefit. Of the ones who didn’t, more than a third planned to introduce one in the next 12 months.

In general, adding a retirement plan to your small business is optional. However, some states require certain small businesses to help their employees save for retirement. Nevertheless, offering retirement benefits can be a great way to keep your employees happy and attract high-quality candidates.

There are many reasons to consider a small business 401k plan. For example, it can show your employees you’re serious about their future—as well as your business’s future. In addition, offering retirement benefits can help your business compete with other employers who already have a plan in place.

And don’t forget the potential tax benefits. In most cases, you can deduct your employer contributions as well as certain administrative fees. Qualifying employers may also claim a tax credit of up to $500 a year for the first three years of the plan to help offset start-up costs.

Does Your Retirement Plan Need to Be a 401k Plan?

Many private companies choose to offer their employees a traditional 401(k) plan. However, you may have other options when it comes to setting up your small business retirement plan.

For example, if you have fewer than 100 employees, you may want to consider a SEP-IRA or SIMPLE IRA. A SEP-IRA, or Simplified Employee Pension (SEP), allows you to set aside retirement funds for yourself and your employees. Only employers can contribute to a SEP-IRA.

With a SIMPLE IRA, employees can make contributions if they choose. In addition, employers are required to make either matching or nonelective contributions.

While SEP and SIMPLE IRAs tend to have lower contribution limits, they can also be easier to set up than a traditional 401(k) plan. If you’re unsure which plan to choose, a general rule of thumb is if your payroll exceeds $500,000, a 401(k) is likely your best bet.

Setting Up Your Small Business 401k Plan

The following is a high-level overview of the steps to consider when setting up a 401k plan. Before moving forward, you may want to consult a trusted advisor to ensure you’re making the best decision for your employees and your business.

Step #1: Choose the Type of 401k Plan You Want to Offer

First, you’ll want to decide which type of 401k plan you want to offer your employees. In addition to a traditional 401k plan, some employers may be able to offer a Roth or Safe Harbor 401k plan.

  • Traditional 401k plan. Employees make before-tax contributions to their accounts and pay taxes on withdrawals. In addition, employers may choose to match employee contributions up to certain limits.
  • Roth 401k plan. Employees make after-tax contributions, but withdrawals are tax-free in retirement. Employers can choose to match employee contributions up to certain limits.
  • Safe Harbor 401k plan. To qualify, employers must contribute to employees’ 401k accounts. Although employers have a fiduciary duty to ensure the plan is run in their employees’ best interests, they can skip annual discrimination testing.
  • SIMPLE 401k plan. Only available to employers with fewer than 100 employees, a SIMPLE 401k plan has lower contribution limits and requires employers to contribute to employee accounts. However, it also has fewer compliance requirements.

Step #2: Determine Your Policy Details

A small business 401k plan offers you, the employer, a lot of flexibility when it comes to plan details. In other words, you get to decide everything from eligibility requirements and vesting schedules to matching and profit-sharing guidelines.

There’s no one-size-fits-all solution when it comes to setting up your 401k plan. However, when determining your policy details, consider how they align with your company’s values and goals. If you’re not sure where to start, ask yourself the following questions:

  • Do you expect your employees to max out their contributions? Put differently, do you need the higher contribution limits of a traditional 401k, or will a SIMPLE 401k plan suffice?
  • How much can your business commit to contributing to employee accounts?
  • Do you want to offer additional benefits, like the ability to borrow from the 401k plan or profit-sharing opportunities?
  • Do you want to incentivize company loyalty by including a vesting schedule?
  • What administrative costs (money and time) are you willing to accept?
  • When are employees eligible to participate, and when can they enroll?

Step #3: Select Your Small Business 401k Plan Provider

Once you’ve determined your policy details and know what features you want to offer, the next step is to choose your plan provider. If you don’t have many resources to dedicate to overseeing your 401k plan, you may want to consider providers who offer additional services. For example, some providers offer compliance, recordkeeping, day-to-day plan administration services so you don’t have to manage everything yourself.

For many small business owners, choosing a plan provider can be overwhelming. You may want to consider working with a trusted advisor who has experience researching, selecting, and overseeing 401k plan providers on behalf of their clients.

Step #4: Choose a 401k Trustee

By law, you must designate a 401(k) trustee. In short, the trustee has a fiduciary responsibility to the plan and its participants. This individual controls the plan’s assets and is responsible for collecting contributions, investing them, and ensuring the money gets to the participants.

In some cases, your business can be your 401k plan’s trustee. However, depending on your plan provider and policy details, you may need to select a third-party trustee. An ERISA attorney can help you determine the best path for your small business.

Step #5: Develop Your Plan Documents

The IRS requires small businesses to have a written document “that serves as the foundation for day-to-day plan operations.” In general, the document should at a minimum include:

  • Which employees are eligible to participate
  • How employer contributions work
  • Any plan-related fees employees may need to pay
  • When employees can withdraw their money
  • Who employees can contact for more details

Having this information documented can help from a practical standpoint if you expect a lot of questions from your employees. In addition, it can help demonstrate compliance if you’re audited. Fortunately, many 401(k) administrators can prepare any necessary documentation for you.

Step #6: Enroll Your Employees in Your Small Business 401k Plan

Once the administrative details are taken care of, you can onboard employees to your small business 401k plan. Be sure to communicate details to eligible employees and let them know how they can enroll in the plan. You may want to host an information session so that employees also have a chance to ask any questions they may have.

Next Steps: Consider Working with a Trusted Advisor to Set Up Your Small Business 401k Plan

Setting up a retirement plan for your employees can be complex. The good news is you don’t have to go it alone. An experienced financial advisor can help you work through the various details of setting up a 401k plan to ensure you’re in compliance and acting in the best interest of your employees. In addition, firms like Oak Capital Advisors also offer educational programs to help your employees understand their retirement benefits and make smart decisions.

If you’d like to speak with Oak Capital Advisors about setting up a retirement plan for your small business, we invite you to schedule an introductory phone call. We’d be happy to hear from you.

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