Author: Charles Crowley, CFP® AIF®
If you’re a small business owner, chances are you’ve thought about your employer 401(k) offering recently, especially if your business has grown. With more employees comes more responsibility to help them prepare for their retirement years. So, maybe you’re looking to optimize your current offering. Or, perhaps you’re looking to set up a 401(k) plan for your small business for the first time. How do you set up a 401(k) plan? What are the benefits of a 401(k) for your employees? And how much might it cost to offer one? In this blog, we’ll break down everything from helpful tips to follow when getting started to which states require employers to offer a 401(k) plan.
Before we discuss setting up a 401(k) plan for your small business, let’s quickly refresh on what they are. Simply put, a 401(k) is an employer-sponsored retirement plan. Employees have the option to invest a certain amount of their weekly, bi-weekly, or monthly earnings before taxes are taken out. In 2024, the IRS set a limit of $23,000 per fiscal year. There are even recent rules that give investors the power to force $76,000 into a tax-free status. This allows employees to build their wealth over time tax-free if their investments perform well. There are three main options for small business owners to decide from:
As a small business owner, the chance to offer an employer 401(k) plan is a great way to attract and retain top talent in the workforce. For job seekers, a robust 401(k) for employees can contribute to their long-term financial security, potentially reducing turnover rates. On top of the benefits of a 401(k) for employees, setting up a 401(k) at your small business can bring many tax breaks, including the deduction of employer contributions and company matches, saving you money in the long term.
Although setting up a 401(k) plan for your small business can be a win-win for you and your employees, only a certain number of U.S. states require it. If your business currently operates in California, Connecticut, Illinois, Maryland, New Jersey, or Oregon, you will need to establish some form of a retirement plan for your employees. Anywhere outside of those six states, the decision is entirely yours.
Once you’ve decided to set up a 401(k) plan for your small business, there are several key steps to follow. From pre-planning to benchmarking, it is important to ensure you keep an active eye on your plan, as market conditions and other economic factors could shift at any time.
Employer 401(k) plans are designed to be flexible, so ask yourself which type of plan you want to offer. Do you want to go with a traditional plan? Do you prefer the safe harbor option? How much would you be willing to match when employees contribute? These are just a few of the questions you can ask yourself when planning to set up a 401(k) plan at your small business.
One of the most important steps in setting up a 401(k) plan for your small business is arranging a trust for the plan’s investments and assets. The trust will be required to have at least one trustee, so it is important to partner with an advisor or financial management firm like BIP Wealth that you trust.
Once you’ve established which 401(k) route you will follow, you must put together official documentation that will be provided to the IRS. This document should include information such as which employees are eligible, how you will match contributions, and more.
Once your employer 401(k) is up and running, be sure to market it to your employees. Share educational materials, answer any questions your employees may have, and discuss the benefits of participation. As a mutually beneficial offering, a higher participation rate could lead to higher tax breaks for your small business.
After setting up a 401(k) plan for your small business, you will have plenty of opportunities to optimize your plan. Through benchmarking, businesses evaluate and compare the performance of their 401(k) plans against industry standards and data. This can help you find areas for improvement and even cut costs.
This will vary depending on the number of employees you have, administrative fees, and more. It is safe to assume you will spend anywhere from thousands to tens of thousands of dollars to successfully offer a 401(k) plan.
If you’re considering setting up a 401(k) plan for your small business, start by establishing your preferred plan (traditional, safe harbor, automatic renewal, etc.).
A 401(k) is a great way for small business owners and their employees to build retirement wealth tax-free. Compared to other retirement plans, a 401(k) will only be taxed when money is officially withdrawn.
Authors: Charles Crowley, CFP® AIF® and Eric Cramer, CFP®, CFA®
As we’ve written, the Roth IRA may be “The Holy Grail” of investing. Because of this, investors should pay attention to the asset location strategy of their investments for 401(k) plans in 2024. Maximizing the after-tax return through a smart asset “location” strategy can yield meaningfully positive results, which is why Roth IRAs play such a critical role.
Roth IRAs, if handled properly, never create an income tax liability on investment returns, so they can be the perfect vessel for the most tax-burdensome elements of a diversified portfolio.
Going back nearly two decades now, working investors with a company-sponsored retirement plan have found themselves with a new option to consider: the “Roth 401(k)”. This feature, a staple in most plans but not necessarily all, allows a worker to designate a percentage of their elected salary deferral to receive Roth treatment. Rewind a couple of years and the Secure 2.0 Act of 2022 stipulated that this special tax treatment is additionally available for employer matching and non-elective contributions into the plan as well.
So, what is a “Roth 401(k)”? What are the eligibility requirements for Roth 401(k)s? And what is the 2024 401(k) contribution limit? Let’s break it all down.
Creating a 401(k) in 2024 presents businesses and employees with a number of different routes. Over time, employees can forgo the current period tax deduction in order to increase their assets such as catch-up contributions in the tax-free category. Investment returns in a retirement plan accrue to various funding sources, such as pre-tax salary deferral, post-tax Roth 401(k) salary deferral, and pre-tax employer contributions. The investment earnings of the plan that are pro-rated to the Roth source get the identical tax-free status, and the compounding effect means that earnings on the earnings will never get taxed.
With 2024 401(k) rules allowing $23,000 in salary deferral plus $7,500 in annual catch-up contributions for those aged 50 and over by the end of the year, the importance of these choices can overshadow the importance of any choices made about contributions to an IRA (which has much lower 2024 401(k) contribution limits).
But there is yet another important 401(k) 2024 contribution limit that investors should become familiar with; it’s applied to defined contribution plans and is called the Section 415(c)(1)(A) limit. In 2024 the Section 415 limit rose to a whopping $69,000! Let’s take a moment to break that number down.
How in the world, you might ask, can someone get that much money into a 2024 401(k) plan and beyond? You might be lucky enough to have an employer who is making a contribution to your plan, but even if you contributed $23,000 and your employer matched you dollar for dollar (and let’s be real, that’s rare), then that’s still only $46,000 for your 2024 401(k).
You may never have known that the tax code allows employees to make after-tax contributions to their employer-sponsored retirement plans over and above the normal salary deferral of $23,000. Your plan may not even allow it, but it should. The rules allow the employee to add money to their 2024 401(k) plan after tax (so no current period deduction is taken) until the total plan contribution equals the limit of $69,000. Factor in the additional catch-up contribution limit of $7,500, and you’ll find a grand total for older employees of $76,000!
In the past, this was probably not a good move. Remember that just like the Roth 401(k) contribution rules, the money being used for a post-tax contribution has already been taxed. But unlike the Roth contribution, which is also post-tax, the earnings do not retain the same tax status as the contribution. That means that your after-tax 2024 401(k) contribution will build up earnings that will eventually be taxed at your ordinary income tax rate when withdrawn. Annuities work like this, which is why they are often a bad tax move. If that money were simply invested in a taxable brokerage account, investments that grow in value could receive the preferential long-term capital gains tax treatment.
There was an important change to Roth 401(k) eligibility in 2010. Plans can allow after-tax contributions to be converted to the Roth status as an “in-plan Roth conversion”. Since the money has already been taxed, converting to a Roth carries no tax bill if done immediately. In the simplified case where an employee maxes out their 2024 Roth 401(k) deferral and then makes this after-tax contribution up to the limits, they could add $69,000 plus the $7,500 in catch-up contributions to their Roth investments.
Real-world practicalities that limit this approach are worth mentioning though. First, your plan may still not allow Roth contributions. Even if it does, it may not allow after-tax contributions, and if it does then it still may not allow in-plan Roth conversions. All these plan features for a 401(k) in 2024 may add a bit to the cost of administering your plan or it may simply be that your plan administrator hasn’t paid for the latest software upgrade to accommodate this level of complexity.
You should also remember that your ability to make after-tax contributions is reduced by your employer contribution to keep the total at $69,000 plus the catch-up contribution of $7,500, although most people don’t complain about getting free money from their employer. There is also the more complicated issue of a mandatory discrimination test applied to retirement plans called the ACP (Average Contribution Percentage) test, which is designed to make sure higher salaried employees don’t get too good of a deal.
If this leaves you a bit confused, don’t feel like you are alone. Many employers feel burdened by having to explain these options to their employees and just go for the less complicated approach. But as word gets out among financial planners and HR professionals in corporate America, demand for these 2024 401(k) features will rise.
You can be part of a wave of investors requesting access to these benefits if you contact your benefits department and ask some simple questions:
When you get the answers to these questions, give us a call. Our team of experienced 401(k) advisors can walk you through the choices you should consider.
For those investors who earn enough money to increase their savings rate substantially and hit their 2024 401(k) contribution limits, the long-term financial value of growing their Roth assets is a big deal. Investors who are lucky enough to have a pension plan, or who are worried about the income tax obligations of being forced to take required minimum distributions from non-Roth retirement assets once they reach age 70 1/2, should consider this a form of tax diversification that gives them needed flexibility. Even the self-employed and business owners who are looking at plan design issues should think about what this could mean for themselves (and their employees) and ask us for help.
One last note: all of the 401(k) limits mentioned above are for 2024, and one of the great things about the structure of these limits in our tax code is that they are indexed for inflation. That means that the numbers will change over time and keep up with the cost of living. Always check to see what the current numbers are. If you have any additional questions, feel free to contact us to speak with an advisor today.
The 2024 401(k) contribution limits allow for $23,000 in salary deferral and $7,500 in catch-up contributions.
The maximum amount you can contribute in 2024 is $7,500 if you are aged 50 or under. This limit increases to $8,000 for those older than 50.
In 2022, the Secure 2.0 Act passed, allowing for special tax treatment on certain types of 2024 401(k) plans.
In 2024, investors can contribute up to $69,000 ($76,500 if you are over the age of 50).
This communication contains general investing information that is not suitable for everyone and is subject to change without notice. Past performance is no guarantee of future results and there is no guarantee that any views and opinions expressed will come to pass. The information contained herein should not be construed as personalized investment advice, tax advice, or financial planning advice, and should not be considered a solicitation to buy or sell any security. Investing in the stock market and the bond market involves gains and losses and may not be suitable for all investors. Indices are not available for direct investment.
Authors: Charles Crowley, CFP® AIF® and Eric Cramer, CFP®, CFA®
The number of decisions a business owner must make year to year can be daunting. From finalizing budgets and strategic hiring to expanding operational capacity, it can be tough to prioritize all that has to be done. Evaluating the advantages of a 401(k) retirement savings plan is, unfortunately, one of the most impactful decisions often put on the back burner. If you are due to give your company’s type of 401(k) plan a closer look, there are five key aspects of 401(k) benchmarking to focus on to ensure it is set up effectively and efficiently.
In business, things will inevitably change—potentially at a fast pace. This is also true when comparing and benchmarking 401(k) plans. Companies grow, markets evolve, demographics shift, and needs ultimately expand. An important consideration is ensuring the business has not outgrown its type of 401(k) retirement plan offering. Perhaps your employee base doubled, and your current plan structure does not match that growth. There may also be a need to focus on benefits and enticements to attract/retain extraordinary talent for key positions. Maybe there was an increased turnover across your industry, and you want to ensure your retirement plan is set up to account for such trends. You may even find that the average fees for your 401(k) administration plan are no longer sustainable. Whatever your circumstances, the company retirement plan should be evaluated every 2-3 years to ensure the offering still fits the needs of your business and employees.
Arguably, the easiest facet of the 401(k) benchmarking phase is to evaluate the average fees for your 401(k) administration services and plan for the most cost-efficient type of 401(k) plan. Evaluating what best fits your needs can be overwhelming on your own. The sheer number of options, platforms, and features is vast, so it is important to seek assistance from an objective expert to help navigate it all. At BIP Wealth, we encourage business owners to focus on three things when comparing 401(k) plans:
Having excellent solutions to address these three questions when 401(k) benchmarking can reduce much of the operational headaches and time spent fixing issues down the road.
When we sit down with a business owner or leadership committee to discuss the company’s type of 401(k) retirement plan, one of the typical concerns shared is lack of participation. Far too often, employees are not making full use of the advantages of their 401(k) retirement plan and it is either because they do not understand the features of the plan or do not realize how participation benefits their future. Ensuring employees understand these aspects and are aware of the resources available to them when questions arise is a key responsibility of our team as a fiduciary to a 401(k) plan.
The most common feature of a 401(k) plan is, you guessed it, the investments. After all, the primary purpose of any type of 401(k) retirement plan is saving for retirement. However, this is a challenging piece of the 401(k) benchmarking puzzle. Consider this: what investment options are available within your current type of 401(k) plan? Do you feel they are diversified and sufficiently cover the differing risk tolerances, backgrounds, and needs of your employee base? It can be a tough question to answer and is also one of the largest risks for a plan sponsor – the fiduciary responsibility.
When 401(k) benchmarking, deciding how well your plan fits the needs of the participants is highly scrutinized in today’s regulatory world. This responsibility for most companies is often more appropriately managed by partnering with financial advisors, plan administrators, or industry experts. Doing so helps ensure the participants’ best interests are kept in mind while reducing costs and compliance risks for the sponsoring company.
Finally, and possibly the most important aspect to keep in mind when 401(k) benchmarking, is timing. There are key deadlines to consider whether you are altering your current type of 401(k) plan. Some deadlines are platform specific while others are mandated by the government. Nevertheless, it is critical to be proactive when enacting changes. This is especially important if you make changes requiring an adjustment to your plan documents. Give yourself and your team the needed time for appropriate due diligence when consulting with an expert who can guide you through these important decisions. This will help ensure you are not minimizing your options, forgoing benefits, paying higher than average fees for 401(k) administration, or simply locking your business into the status quo for another year. Each of these can have a monetary consequence in tow!
In conclusion, the insights above provide you with a few things to consider as you take a more detailed “look under the hood” when benchmarking your company’s 401(k) plan. If you are a business owner and would like to partner with experienced retirement experts on the evaluation of your plan, consider choosing BIP Wealth.
Click here to schedule a complimentary initial consultation with our team.
401(k) benchmarking refers to the process of evaluating and comparing the performance, fees, and features of an employer-sponsored 401(k) retirement plan against industry standards and peer group data.
To evaluate your company’s 401(k) plan, consider factors such as employee demographics, needs, and retirement goals. You will also want to compare 401(k) plans based on fees and overall cost.
401(k) benchmarking could help your business find areas to improve your existing 401(k) plan. This could save you time and money in the long term.
To start, assess the needs of your company and employees. Then, compare the costs of the 401(k) offerings available to make an informed, cost-effective decision.
This communication contains general investing information that is not suitable for everyone and is subject to change without notice. Past performance is no guarantee of future results and there is no guarantee that any views and opinions expressed will come to pass. The information contained herein should not be construed as personalized investment advice, tax advice, or financial planning advice, and should not be considered a solicitation to buy or sell any security. Investing in the stock market and the bond market involves gains and losses and may not be suitable for all investors. Indices are not available for direct investment.
