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

What will life be like when you finally hang up your hat as an entrepreneur? If you’re like many other self-employed professionals and small business owners, you’ve likely imagined what the future beyond work will look like. The good news is that 401(k) retirement plans for small businesses are within reach, and you and your employees can feel better prepared to take that next step.

But why aren’t more small businesses helping their employees and themselves prepare for the future?

Retirement is something we have to plan for, work toward, and eventually earn. Despite knowing this, Americans aren’t saving nearly enough. According to a survey from the Federal Reserve, 28% of working adults don’t have any savings, but only 31% of those who do save feel they’re on track to be financially secure when they leave the workforce.

And entrepreneurs aren’t exempt from the problem. In a Fidelity study, 83% of small business owners realize they aren’t saving enough money to retire. For many, it can be challenging enough to find extra cash to set aside for an emergency fund. Several small business owners struggle to access capital to run their businesses, with many relying on their personal savings to stay afloat.

What most business owners don’t know is that setting up a retirement plan and investing in their businesses aren’t contradicting actions. While it might not have an immediate benefit, like taking out a small business loan to open a new location or hire additional staff, starting a 401(k) retirement plan is still a business investment that’s well worth considering.

In this article, we’ll explore different types of retirement plans and how they can help grow your business. Once you’ve picked the right 401(k) plan for your needs, BambooHR^® Benefits Administration can quickly connect you and your people to their benefits and help everyone take control of their financial future.

4 Reasons Your Small Business Should Offer a 401(k) Retirement Plan

Owning and operating a small business is anything but easy with budget constraints, deadlines to meet, and goals to hit. And for small business owners running on razor-thin margins, there’s little room for discretionary spending. Fortunately, offering your employees a retirement plan isn’t just a charitable write-off—it has concrete financial benefits.

1. Hire and Retain Top Talent

America’s current unemployment rate is relatively low at 3.7%, so you’re likely competing with other businesses to find and retain talented candidates. But just like you would during periods of high unemployment, you want to attract employees who will stay with you through tough times rather than jump ship the minute a better offer comes along.

With a narrower labor supply, businesses have to provide what candidates want to win top talent and build employee loyalty—and what job seekers want are excellent employee benefits. In fact, one in 10 employees would take a pay cut to gain a better benefits package. Many business leaders are taking advantage of these and other workplace trends in their recruiting strategy, giving job seekers greater bargaining power over what they truly want from a potential employer.

As a small business owner trying to improve employee retention rates, keep in mind that not all benefits are valued equally. Cereal bars and free parking are pleasant perks, but employees also have specific demands—like retirement help. In a Society for Human Resource Management (SHRM) survey, employer-based retirement savings and planning sit at a close second to health insurance among the benefits employees value the most.

A strong employer brand makes it easier to attract and retain high-quality talent, which reduces position vacancies and keeps your business running smoothly. It also decreases the time and money you spend on recruiting and onboarding new candidates, which can cost between $7,500 and $28,000 per employee.

2. Enjoy the Tax Benefits

401(k) retirement plans provide tax benefits to you, your employees, and your business. If you choose a traditional plan, you and your employees make pre-tax retirement contributions, which means everyone saves more with less. And when it comes time to ride off into that sweet retirement sunset, your withdrawn money is taxed at an income tax rate—not a capital gains tax rate—giving you a lot more cash.

While these are great benefits for you and your employees to enjoy in the decades to come, you’ll also reap a few immediate fiscal rewards, such as:

• Up to $5,000 in tax credit per year for the first three years when you open your first business 401(k) plan
• Another $500 in tax credit per year for the first three years if your plan includes automatic enrollment
• Tax-deductible employee-matching 401(k) contributions
• Reduced personal tax obligation from the decrease in your taxable income

3. Ease Your Employees’ Financial Worries

On paper, it makes sense to start a small business retirement plan, but it’s even more worthwhile from a human perspective. Money issues give 77% of Americans anxiety, and the majority of those anxious employees worry about having enough money to retire. By relieving some of this financial stress, you’re helping your employees sleep better, work better, and live well.

Offering a retirement plan is a win-win decision—not only does it allow you to help your employees further, but it also helps your business. After all, happy employees are more efficient workers. Studies show happiness can spike employee productivity by as much as 13%. On the flip side, unhappy employees cost $8.8 trillion in lost productivity globally.

4. Save for Your Retirement

Many entrepreneurs pour their blood, sweat, and tears into their company. While your business’s future is important, what about your own? One day, the business will go on without you, but you’ll need to make sure you can go on without the business.

Setting up an employer-sponsored 401(k) retirement plan lets you enjoy pre-tax and employee-matching contributions. As the owner, it can be hard enough to take a deposit out of your business’s profits for your salary. But enrolling in automatic deposits can help make saving feel easier—just set it and forget it.

How to Choose a 401(k) Retirement Plan: 4 Key Considerations

Before you go out and select a 401(k) plan, consider the following key aspects to help make the best possible choice for your business and its employees.

Cost

Small businesses should plan to spend $5,000 to $10,000 a year for a traditional employer-sponsored 401(k) retirement plan. This cost includes $800 to $1,000 in administrative fees, quarterly charges per participant, and other miscellaneous dues. Initial setup fees can range from $500 to $3,000. You’ll also need to decide if your company is going to match a certain percentage of the employee contributions.

These figures might be surprising, but remember that you’ll get to claim fantastic tax deductions. When you open your first business 401(k) plan, you’ll receive up to $5,000 in tax credit—that’s more than enough to cover the setup fees and get things rolling.

Ease of Use

Be sure to shop around and demo different products to judge their ease of use. You don’t want a distracting, clunky experience for you or your team. The software should be straightforward and empower your employees to take ownership of their retirement rather than sit idly on the sidelines.

Flexibility

Various retirement plans are available to choose from, and you’ll want to make sure yours provides the flexibility you and your employees need. For example, if you’re a solo entrepreneur, a solo 401(k) will allow you to contribute more than a traditional 401(k).

Financial Literacy

As a business leader, be sure to factor financial literacy into your plan. Start thinking about what new and current employees will want to know about retirement accounts and what resources they’ll need. In partnership with a financial advisor, your HR department should craft a thoughtful communication strategy about your offerings tailored to employees at different retirement-readiness levels.

Educating your employees on the pros and cons of their 401(k) plan options will help them make the best choices for their situation and see the long-term value of saving for retirement. Plus, a thoughtful, agile HR approach that keeps employees engaged as changes arise can help your workforce feel more confident in your decision to offer a plan—and their choice to participate in it.

How to Set Up a Retirement Plan for Your Small Business

If you’re ready to sponsor a retirement plan, then it’s time to set one up. Getting started with a plan that meets the needs of your small business only takes a few simple steps.

Step 1: Choose a Retirement Plan

When it comes to choosing the right retirement plan, there’s no shortage of options. Several small business retirement plans are available, each with pros, cons, and requirements. The most common tax-deferred small business retirement plans include:

• Traditional 401(k)
• Safe Harbor 401(k)
• Solo 401(k)
• Savings Incentive Match Plan for Employees (SIMPLE) IRA
• Simplified Employee Pension (SEP) IRA
• 403(b)

» For more detail, jump to: The 6 Most Common Types of Retirement Plans

Step 2: Find a Plan Provider and Administrator

Once you’ve done your research, find a service provider who offers the retirement plan you’d like. Also, designate a 401(k) plan administrator for your small business. This professional oversees your retirement accounts, ensuring they’re properly managed and compliant with the latest laws and regulations.

Step 3: Sign Up and Educate Your Employees

For this step, simply follow your plan administrator’s enrollment process.

Once you’re rolling, educate your employees on how the process works and what’s in it for them. They’ll likely have questions about contributions, limits, and other nuances specific to your small business retirement plan options. The more they know about your retirement account offerings, the more confident they’ll feel about participating in your 401(k) plan and saving for a lifestyle beyond their working years.

Getting started is easy—and it’s never too late to set up a retirement plan for your business. Start investing in your employees’ future (and your own) as soon as you can to enjoy the benefits when you ride off into the sunset.

The 6 Most Common Types of Retirement Plans

Traditional 401(k) Plans

A traditional 401(k) is the most common employer-sponsored retirement plan. Practically any business can start offering a traditional 401(k) retirement plan, but nonprofits and solo entrepreneurs may benefit more from other options.

What Is a 401(k) Plan?

A 401(k) plan is a retirement savings plan with tax advantages for both you and its participants. Employees contribute a portion of their salary out of each paycheck to this investment account. With a 401(k) retirement plan, employees enjoy optional automatic payroll deductions, tax-deferred savings, and complete freedom over their contribution amounts and specific investments.

On the business side, you can also contribute, helping your workforce grow a more sizable nest egg while employed. 401(k) plans offer business owners flexible control over eligibility requirements, vesting schedules, profit sharing, and matching. Plus, it’s now easier than ever to outsource the administrative work to a third-party service.

401(k) Max Contribution and Tax Benefits

The 401(k) max contribution is set by the Internal Revenue Service (IRS). This limits the amount of contributions that can go into a retirement plan annually. The IRS recently increased employee contribution limits from $22,500 to $23,000 but the catch-up contribution limit (for employees aged 50 and over) is still $7,500.

With a traditional 401(k) plan, employees make pre-tax contributions. When employees withdraw money in retirement, the IRS will tax the cash at a rate much lower than it would be while they’re still making money at your company.

Compliance Requirements

Businesses need to meet three main requirements to be eligible for a traditional 401(k):

1. Create and run the retirement plan in the best interest of the employees (also known as a fiduciary duty).
2. Ensure all parties have equal opportunity to contribute by passing nondiscrimination tests, such as the Actual Deferral Percentage (ADP) test and Actual Contribution Percentage (ACP) test.
3. Each year, small business owners need to file Form 5500 with the IRS/Department of Labor (DOL).

Safe Harbor 401(k) Plans

A safe harbor 401(k) plan is similar to the traditional 401(k), except employers don’t need to pass nondiscrimination tests. Small businesses can qualify for this retirement plan by committing to employee contribution matching.

Why Choose a Safe Harbor 401(k)?

Annual nondiscrimination testing costs time and money, making the safe harbor 401(k) plan particularly advantageous for small business owners. Bypassing these tests frees up additional funds to match employee contributions—a requirement for those who choose this retirement plan.

Safe Harbor 401(k) Contribution Limits and Tax Benefits

As with the traditional 401(k) plan, employee contributions are capped at $23,000 (with a $7,500 catch-up contribution limit for employees aged 50 and older). However, employer matching doesn’t count towards the cap, allowing employees to save beyond that limit.

Employees make pre-tax contributions to their safe harbor 401(k), and small businesses receive credits and deductions come tax time.

Compliance Requirements

There are three primary requirements for offering a safe harbor 401(k) plan:

1. The business still needs to perform its fiduciary duty.
2. Small business owners must file Form 5500 annually.
3. Employers must meet one of the following criteria:
   1. Matching contributions: The employer matches 100% of the first 3% of the employee’s contributions and 50% of the contributions that exceed 3% (but not 5%).
   2. Non-elective contributions: The employer contributes at least 3% of each employee’s salary, regardless of whether they contribute.

Solo 401(k) Plans

Solo 401(k) plans are designed for business owners without employees. Also called one-participant 401(k) plans, these offer the primary benefits of a traditional 401(k) without the regulatory requirements. It’s the perfect retirement plan option for small business owners flying solo.

Why Choose a Solo 401(k)?

Solo 401(k) plans don’t have strict compliance requirements, providing an advantage to small business owners. Because you don’t have employees, nondiscrimination testing isn’t necessary. This plan can also cover a business owner’s spouse, making it easier to ensure you and your partner are covered throughout your golden years together.

Solo 401(k) Contribution Limits and Tax Benefits

The employee contribution limit for this retirement plan is $23,000, and the employer matching can’t exceed 25% of the salary. The highest amount you could save in a solo 401(k) in a year is $69,000 (or $76,500 for those age 50 and older).

Employees make pre-tax contributions, and withdrawals during retirement are taxed at a lower rate—not a capital gains tax rate.

Compliance Requirements

Fiduciary duty and nondiscrimination tests aren’t necessary for solo 401(k) plans. However, you’ll still need to file Form 5500-EZ each year if the plan has at least $250,000 in assets.

Savings Incentive Match Plan for Employees (SIMPLE) IRA Plans

A SIMPLE IRA is similar to a safe harbor 401(k) in that there’s no nondiscrimination testing, but the contribution limits are lower and the employer can’t have any other retirement plan.

Why Choose a SIMPLE IRA Plan?

If you have fewer than 100 employees, a SIMPLE IRA might be the ideal choice for your business. SIMPLE IRA plans are easy to set up and operate. Plus, they don’t require discrimination testing or vesting schedules, making them a more straightforward, cost-effective alternative to other retirement plans.

SIMPLE IRA Contribution Limits and Tax Benefits

Employees can contribute up to $16,000 annually ($19,500 for those aged 50 and older). Employees make pre-tax contributions, and retirement withdrawals are taxed at a lower rate. Business owners can receive tax credits for sponsoring SIMPLE IRA plans.

Compliance Requirements

To qualify, you’ll need to match employee contributions in one of the following ways:

1. Matching contributions: The employer matches up to 3% of their employees’ compensation.
2. Non-elective contributions: The employer matches 2% of each employee’s compensation, regardless of whether they contribute.

Simplified Employee Pension (SEP) IRA Plans

Employers sponsor and fully fund SEP IRA plans. Businesses get to decide how much they’ll contribute, and employees must enroll on their own to receive the benefit.

Why Choose a SEP IRA Plan?

SEP IRA plans are great for smaller companies who want to contribute to their team’s retirement. Under this plan, you can make contributions that will benefit you and your employees. Plus, the annual contributions are flexible and administration costs are low, which is great for businesses that typically experience cash-flow issues during the year.

SEP IRA Contribution Limits and Tax Benefits

The primary difference between a SEP IRA plan and others is that employees cannot contribute—it’s up to the employer to fund the accounts equally for each eligible team member. Employers can make contributions up to $69,000 annually or 25% of an employee’s compensation, whichever is lower. And these contributions are 100% vested (owned) by the employee.

This retirement plan is exempt from catch-up contributions and elective salary deferrals. When employees withdraw the funds later, they’ll be taxed at the income tax rate. Businesses may claim contributions as business expenses when filing taxes.

Compliance Requirements

The only requirement is that businesses contribute the same percentage of employees’ compensation to all participants.

403(b) Plans

Tax-sheltered annuity (TSA) plans, or 403(b) plans, are similar to traditional 401(k) retirement plans, but they’re only for educational institutions and select 501(c)(3) tax-exempt organizations. This includes public schools, colleges and universities, charities, home health agencies, churches, and others.

Why Choose a 403(b) Plan?

A 403(b) plan allows employees to defer a portion of their salary into individual accounts. These contributions remain untaxed until they’re distributed in retirement. Alternatively, employers can select a Roth 403(b) plan where salary contributions are taxed but distributions are exempt.

Employees may be allowed to take out loans and hardship distributions if the plan agreement allows.

403(b) Contribution Limits and Tax Benefits

Contribution limits and tax benefits for 403(b) plans are the same as a traditional 401(k). However, some plans may include a provision for the 15-year rule. This states that qualified employees with at least 15 years of service with the same organization may make additional catch-up contributions of up to $3,000.

Compliance Requirements

As with the traditional 401(k) retirement plan, businesses must follow fiduciary duties, pass nondiscrimination testing, and file Form 5500 with the IRS.