How to Set Up a 401k Plan for Your Business

The benefits package you offer employees is an important part of finding and retaining talent at your business. Learn how to get your business set up with its first 401(k) plan in this guide.

 

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What is a 401(k)?

A 401(k) is a type of company-sponsored retirement plan designed to help employees save for retirement. Employees contribute a portion of each paycheck pre-tax to their 401(k), and employers can also commit a certain amount of funds depending on the type of account. 401(k)s are tax-advantaged, so taxes are deferred until employees withdraw money from the account. Funds in a 401(k) are traditionally invested in different mutual funds to help the investment grow over time.

Related: What Does Compensation for Work Actually Mean?

 

Benefits of offering a 401(k)

It is easier than ever to sign up for a company 401(k) plan, with advances in technology helping lessen traditional fees and complex administrative processes. Offering a 401(k) has several key benefits for small business owners:

 

Staying competitive

Having a 401(k) or another retirement plan to offer employees can help you be competitive as an employer. When top candidates look for a new job, they often want to work for a company that invests in their future through a 401(k). Having a good retirement plan available can be the deciding factor for an employee to decide to work for you or for a competitor.  

 

Building company culture

Retirement is a huge financial stressor, and showing employees that you care about their future helps build a strong company culture. By investing in your team, you demonstrate that you care about their quality of life, which can result in happier, more productive employees.

 

Encouraging longevity

When employees know that they have retirement savings growing in a 401(k), they may be more likely to stay with the company long-term. Some 401(k) plans have terms where the employer will only match contributions if the employee stays for a certain number of years or longer, so the employee has an additional financial motivation to stay committed to their role.

 

Types of retirement plans

As an employer, you can sponsor several different types of retirement plans for your employees:

 

Simplified Employee Pensions

Simplified Employee Pensions (SEPs) have a simple administration process and allow employers to make contributions. Employers fill out a two-page form (5305-SEP) to set the account up for each of their employees and contribute the same percentage for each employee. SEPs are affordable, easy to set up and flexible, with the option to change your contribution each year.

 

SIMPLE IRA

A SIMPLE IRA is a type of retirement plan that is only available to small business owners with 100 employees or fewer. With SIMPLE IRAs, employees use payroll deductions to pay into a retirement account. Business owners can either match the contribution or make a fixed contribution. SIMPLE IRAs have low administrative costs, options for automatic enrollment, and simple, manageable paperwork for business owners.

 

Traditional 401(k)

With a traditional 401(k), employees have the option to defer some of their salaries into a retirement account.  401(k)s have a range of options for how much you want to contribute and when payments will vest, making them a great option for business owners who want to customize their plan. 

 

Safe harbor 401(k)

Safe Harbor 401(k) plans let you contribute the maximum amount to your own retirement account without going through nondiscrimination testing. Small businesses with highly compensated employees can benefit from the increased amount they are allowed to contribute, so they can grow their retirement account without limits.

Read more: Retirement Savings Plan Options for Your Small Business

 

How to start a 401(k) plan for your business

Follow these steps to set up a 401(k )at your company:

 

1. Decide which plan is right for you

You’ll need to choose a 401(k) plan with terms that you can afford and that has the flexibility to change with your business. When choosing a 401(k) plan, consider these questions:

  • How much can my business commit? Determine how much you can afford to contribute to your employees’ retirement. If you are able to match employee contributions, you will need a different type of plan than if you can’t afford to make a contribution.
  • How much do my employees want to contribute? Ask your employees about what they are looking for in a retirement plan and how much they want to put in to the account. Highly-paid employees with more expendable income will likely want an account that allows them to save more, while employees with a lower salary may not have the budget for higher contributions.

 

2. Designate administrators

Record keeping is essential for an organized and compliant retirement plan. Unless you choose a financial institution that handles recordkeeping for you, you will need to hire a 401(k) administrator or designate a current employee to be a record keeper. As a business, you are responsible for:

  • Tracking contributions
  • Monitoring plan investments
  • Recording withdrawals
  • Registering new hires and compensation changes

 

3. Create a plan document

A 401(k) plan document is a legally binding financial agreement that outlines the terms of your company’s 401(k) offerings. If you are outsourcing your retirement plan to a financial institution, they will usually provide the plan document. It should follow the guidelines set in the Internal Revenue Code and include information on:

  • Employment eligibility
  • The system for making contributions
  • How funds will be distributed

Consider consulting with a tax professional for help on creating a compliant 401(k) plan document that meets all of your needs as an employer.

 

4. Set up a trust

Next, create a trust that can act as a holding account for your employees’ retirement funds. During this process, choose someone to act as a trustee to manage contributions, distributions and investments,

 

5. Inform your employees

Provide your employees with the plan information and guide them through the process of setting up an account. Make sure your employees know their eligibility requirements and the benefits of signing up. Any time you make changes to the plan, update your employees about what changed and how it will impact them. Every year, give participating employees a copy of their individual benefit statement to show them their account balance.

 

6. Maintain the plan 

Once you have signed up your employees, make any promised contributions, adjust the payroll to make any deductions, perform the required testing and submit an annual form to the IRS. You may need to pay service fees, investment fees and administration costs depending on the terms.

 

Frequently asked questions about 401(k)s

Here are some frequently asked questions about employer-sponsored 401(k) plans:

 

How much do companies typically match on 401(k)?

Employer matches on 401(k)s vary from company to company, but the most common match is 50 cents per dollar up to 6% of employee salary. That means that the employer puts in 50 cents for every dollar an employee contributes.

 

What does a 6% 401(k) match mean?

If an employer offers a 6% match, that means they will contribute 6% of an employee’s salary to their 401(k) if the employee contributes the same amount.

Are employer contributions tax-deductible? 

Your contributions to employee 401(k)s are tax-deductible business expenses.

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