As a small business employer, signifying your commitment to employees’ long-term financial goals by offering a tax-favored retirement benefit is a solid way to draw in and retain valuable employees. Retirement plans may seem complex and costly, but there are straightforward and easily-enacted options available that are more affordable than you might think.
The Savings Incentive Match Plan for Employees (SIMPLE) is a tax-favored retirement plan in which both employees and employers contribute to traditional IRAs. As long as an employer has no other retirement plan in place and doesn’t employ more than 100 workers, they are eligible to institute a SIMPLE IRA. Essential aspects of this plan include:
- Tax credits: Employers may be eligible for tax credits of $500 for the first three years of the SIMPLE IRA plan in order to counterbalance the costs of providing and managing the plan.
- Contributions: Employers are required to either make a matching contribution of one to three percent, depending on circumstances, to participating employees, or contribute two percent of each participating employee’s compensation.
- Tax deductions: In most cases employer contributions are tax deductible to the employer.
A 401(k) is a defined contribution plan in which an employer contributes a certain amount of employee’s pay (as chosen by the employee) to the plan. Essential aspects of this plan include:
- Contributions: Unlike SIMPLE IRAs, employers are not required to match contributions. An employee’s contributions to a traditional 401(k) are typically made on a pre-tax basis, with taxes on contributions and earnings deferred until they are distributed, usually upon retirement. 401(k) plans tend to be more appealing to employers than IRA-based plans because the maximum contributions are generally higher.
- Roth 401(k): This is an option in which an employee contributes to the plan on an after-tax basis. Distributions and earnings may be made tax-free in retirement after meeting certain conditions.
- Administrative costs: Because 401(k) plans are more complicated to maintain than SIMPLE IRAs, the administrative costs tend to be higher.
- Non-discrimination testing: 401(k) plans are subject to testing requirements designed to ensure that contributions or benefits provided under the plan do not discriminate in favor of highly compensated employees (in 2020, this is someone who earned more than $130,000 the previous year). Those who fall into the “highly compensated” group can establish a Safe Harbor 401(k) plan in order to avoid nondiscrimination testing.
With a Simplified Employee Pension (SEP) plan, employees receive IRAs that are funded entirely through company contributions. Essential aspects of this plan include:
- Eligibility: SEP plans are more popular among smaller businesses with fewer employees, but employers of any size are eligible.
- Contributions: Employers who institute a SEP plan determine an amount to contribute each year, with a limit set by the IRS.
- Tax credits: Qualified employers may qualify for a tax credit of $500 per year for the first three years of the plan, and employer contributions are tax deductible on the employer’s tax return.
This Roth IRA plan invests in a U.S. Treasury retirement savings bond. Essential aspects of the plan include:
- Contributions: Employees contribute to their account on an after-tax basis through payroll deductions, a checking or savings account, or income tax refunds. Earnings and distributions are generally tax-free.
- Cost: Because employers don’t administer or make contributions to these accounts, the employer only needs to share the information about a myRA option with employees and set up payroll deductions when applicable.