Small Business 401k Primer
· A small business 401k is a great benefit for the owner(s).
· Understand the basics of the Safe Harbor 401k options for small businesses.
· Generous tax credits are helping create a wave of new 401k plans.
· The cost to provide a plan has declined considerably.
· If you already offer a 401k, check how much you are paying.
· The soft-deadline for a new 401k plan is August 1st.
1. The Safe Harbor 401k Concept – It’s Great for the Owner(s)
A Safe Harbor 401k plan is a simplified version of a 401k where compliance requirements have been simplified in exchange for standardized employee contributions (matching and vesting). The goal of the Safe Harbor structure is to incentivize small businesses owners to offer a 401k plan for the benefit of both the highly compensated employees (HCE) AND non-highly compensated employees (NHCE). In exchange for removing the compliance testing requirements (which benefits HCE’s), the safe harbor plans require standardized employer matching contributions and instant vesting (which benefits NHCE’s).
A safe harbor plan is best suited for small businesses because:
· They are low cost and easy to maintain.
· Large income disparities amongst the owners and the employees are mitigated.
· NHCE participation rates are hard to manage.
Traditional, non-Safe Harbor 401k plans are still popular and are typically best suited for larger plans with more than 50-100 employees.
2. There are three types of Safe Harbor plans
They are defined by their matching program:
· Basic: A dollar-for-dollar match of the first 3% of an employee’s compensation and 50 cents on the dollar for the next 2%.
· Non-Elective: A contribution of 3% to all employees. This goes to every employee, even those who don’t contribute themselves.
· Enhanced: The employer matches 100% of the first 4% of an employee’s contribution.
For the three plans listed above, each has immediate vesting on employee match and each allows the owner(s) and HCE’s to maximize their contribution independent of the participation rate among the NHCE’s.
3. The Secure Act 2.0 Tax Credits:
It’s never been cheaper to start a 401k plan for a small business. Two examples:
A 10 employee business with 2 HCE’s can expect about $25,000 in cumulative credits over the next five years.
A 5 employee business with 1 HCE can expect about $15,000 in cumulative credits over the next five years.
A simple review of the credits:
· Start up credit: $250 per NHCE, for three years.
· Matching credit: up to $1,000 per employee for employees earning > $100k, for 5 years, declining incentive schedule.
· Auto enrollment credit: $500 per year, for three years.
There are limitations and phase outs with each credit – check with WLA or your tax advisor to estimate the tax credits your business may be eligible to receive. Credits are only possible for NEW 401k plans.
4. How are 401K costs structured?
I have short-listed a few high quality, low cost plan providers. While the billing methodology varies, the expected cost to provide a Safe Harbor plan is a minimum of about $1250 per year. For each plan, WLA will help you find the best provider and build a financial model to calculate the cost. In years past, the minimum cost to provide a plan was 2 – 4x as much, which is why established plans should check their current pricing.
· Estimated annual plan cost, three examples:
5 employees $1500, 10 employees $2000, 15 employees $2500.
· Above cost estimate does not recognize the tax credits for NEW plans.
If you would like help calculating your current plan costs, just reach out to WLA.
WLA costs per new plan:
· Set-up fee, $250 per eligible employee ($1500 min, $3500 maximum at 14 employees).
· WLA’s set up fee is eligible for the tax credit.
· Advisory fee: 0.50%.
Western Level Advisors LLC helps each business with the plan set up process, plan design options, plan education, employee enrollment, model portfolios, Traditional/Roth401k options and ongoing support.
5. Employers with 5 or more employees will be required to offer a 401k
State legislation is mandating businesses offer retirement plans. CA already does. Nevada’s requirement becomes effective in 2025. Businesses with more than 5 employees are effected.
6. Can a Single Member LLC (no employees) create a 401k plan?
Yes, single member LLCs can create a 401k plan. It is called a Solo or Individual 401k plan. Solo401k’s are very attractive on their own, the Safe Harbor provisions and Secure Act tax credits are not applicable. Contact WLA to discuss – SOLO401k’s are one of the best benefits of a Single Member LLC in terms of financial planning.
7. Employer Matching
Understanding the impact of adding a 401k is important for business owners, assume a 3% increase to payroll expenses or create a financial model for your business.
8. Auto Enrollment
Before committing to auto enrollment, understand the requirements, how employees can opt out and the impact to the profit sharing portion of the plan. Auto enrollment is expected be standard in the near future.
9. Maximum Contribution Amounts
401k contribution limits are set by dollar amount, not percentage of income.
2024 401k limits: If over 50 yrs old
Maximum employee deferral $23,000 $30,500
Maximum employee match/profit share $46,000 $46,000
Total $69,000 $76,500
10. Profit Sharing
Each company is able to decide independently if it wants to add a profit sharing portion to the plan. Businesses can decide in January, it is usually a small up charge for the plan administrator to help with the calculation.
11. Key Dates for new plan start up
When the April tax deadline passes, it’s a good time to evaluate a 401k.
· August 1, 2024: Soft deadline for setting up a new Safe Harbor 401(k) Plan for 2024.
· September 1, 2024: 30-day plan creation notice must be sent to employees.
· October 1, 2024: Safe Harbor 401(k) Plan is effective.
12. Next steps – how to begin the process?
A Safe Harbor plan can be set up in less than a month. Email me and we’ll establish an intro meeting to discuss your business and the options that best suit you.