What to Expect When You’re Expecting a 401(k) Plan


The time has come: You are expecting to have a 401(k) plan. All your business-owner friends have raved about having one, and you’ve been the one excluded from their group conversations and in most cases you’ve been confused by some of the things they’ve said. What do they mean about matching costs? What do they mean about possibly doing a profit-sharing at the end of the year? Employees have to work how long before they are eligible to participate? The bigger question is what commitment is having a 401(k) plan going to be on you? Will you be able to pay for the benefit? Here is a good summary of questions to consider as you prepare to have a 401(k) plan:
  • How many employees do you have?
  • Do you plan on putting in a matching contribution?
  • What is your budget?
  • How much time is this going to take?
  • What do you have to do each year?
Now that you’ve done your research and are ready to take the leap and have a 401(k) plan, let’s go through some of the questions listed above to help expound on what you need to know.

How many employees do you have?

This question seems pretty straightforward, but the reason behind it has to do with cost and the type of plan you want to sponsor as an employer. If your company is you and your spouse/partner, then you may not need to have a 401(k) plan, and your goals could be accomplished with a Solo K (get more information on a Solo K). If you have employees other than you and your significant other, or you plan on having employees, you would want to go the route of having a 401(k) plan. Another thing to consider is the demographic of those you have hired or will be hiring. This doesn’t take away from the fact of having a 401(k) plan, but this does help in narrowing down what type of 401(k) plan offering fits your company. Ultimately, offering a 401(k) plan does add extra value for those individuals you’re trying to employ. If it was a choice between your company that was offering a 401(k) plan and one that wasn’t, you would have the competitive advantage.

Do you plan on putting in a matching contribution?

It’s important to consider whether you will be matching your employees’ deferral contributions or not. This is why it’s good to know an estimate of cost. Matching contributions would go into the 401(k) plan pre-tax, which does help you with your tax burden and also provide a benefit, but how much of reduction will this be, and also what do you anticipate in terms of participation from employees? Making the decision to match employee deferral contributions is the first step as it increases the benefit and value of your 401(k) plan. After all, those who have retirement in mind or saving for the future will also see the “free money” going in as a match and padding their total account balance. For example, if an employee is deferring 3% of their pay, and you’re matching up to 3% of that same pay, he/she is getting a total of 6% going into the 401(k) account.

Are you planning on participating?

This question may seem out of place, but it’s actually an important one. If you have a small business and you want to participate in a 401(k) plan with your employees, you would want to have a Safe Harbor plan. A Safe Harbor plan (if followed specifically) provides an exemption to required nondiscrimination testing that takes place every year. If you didn’t have a Safe Harbor plan you could, and most likely would, fail the nondiscrimination testing, and would be required to refund your contributions and/or make a contribution to those employees that are eligible to participate in the 401(k) plan. Almost all the Safe Harbor plans require 100% vesting of your employer contribution. In other words, what you put in for the participating employee is his or hers for retirement. Here are the primary Safe Harbor plan options: Basic Safe Harbor: Employer is required to match 100% up to 3% and 50% of the next two percentage points up to 5%. In other words, if the participating employee defers 3% of their pay, you as an employer would match 3%; if it was 4%, you would match 3.5%; 5%, 4%. These employer contributions would be 100% vested. Enhanced Safe Harbor: Employer is required to match 100% up to 4% or 5% or 6%. Basically, you would have to choose one of those three caps (up to 6%) that you would match. If the participating employee defers 4% of their pay, you as an employer would match 4%; if it was 5%, you would match 5%; 6%, 6%. These employer contributions would be 100% vested. Qualified Automatic Contribution Arrangement (QACA): This is basically a Safe Harbor auto-enrollment. The difference is the matching formula. The employer is required to match 100% up to 1% and then 50% up to 6%. In other words, if the participating employee defers 1% you would match 1%; 2% it would be 1.5%; 3%, 2%; 4%, 2.5%; 5%, 3%; 6%, 3.5%. 3.5% is the total amount you would match. This can be under a vesting schedule, as long as 100% vesting is given with 2 years credited service.

What is your budget?

This question is important in relation to whether you want to provide a match or not because you have to also consider the fees/expense outside of that. How much does the setup cost? Are there these fees?
  • Setup/Startup Fee
  • Document Fee
  • Record-keeping Fee
  • Financial Advisor Fee
  • Other Service Provider Fee
All of these add up and should be considered. Keep in mind, there are some new tax credits that are available for which you can take advantage. Here is an article telling you everything you want to know about the new law: https://www.linkedin.com/pulse/getting-know-secure-act-jared-porter-qka/ If you have to pay thousands of dollars upfront to start the 401(k) plan, then you should make sure you’ve budgeted for that cost as well as putting in a match (if you’re going the route of a Safe Harbor plan). If these fees aren’t upfront when you’re asking about them, then I would suggest doing additional research before moving forward. After all, as a business owner, you are a fiduciary for your company and employees. Here is an article telling you everything you wanted to know about being a fiduciary: https://www.linkedin.com/pulse/everything-you-didnt-want-know-being-fiduciary-more-jared-porter/

How much time is this going to take?

This is actually a very relevant question. Your time is valuable. It should be clear how much time and money this whole thing is going to take. Ask this question from the get-go. Traditional options typically take 8 weeks to get up and running. Also, there could be multiple service providers involved that require information. Make sure you’re not duplicating efforts and wasting your time. The most time-consuming part of the process is reviewing what your 401(k) plan will look like. Is it a Safe Harbor plan? How long does an employee have to work before he/she can enter the plan? Are you excluding anything from pay (bonus, commissions, etc.)? Do you want to allow for loans? I would always suggest asking questions and making sure you know what any of this means. Whether you’re getting help during this process or not, be very aware of your choices.

What do you have to do each year?

As the employer that is offering the 401(k) plan, you are the trustee. Your responsibility would entail everything from notifications to employees that are eligible to join the plan, annual notices, nondiscrimination testing, and even the Form 5500 tax filing for the 401(k) plan. All of that would be your responsibility, but that doesn’t mean you can’t get some help from someone. Simplicity, clarity, and cost should be your driving motivation when picking a service provider to help you. You should know what is covered, how they will help you, the costs, and then what you would have to do as you’re still the business owner. I know there are lots of options out there, and the overwhelming feeling of complexity and cost may deter you from having a 401(k) plan, but let me tell you right now that once you have a 401(k) plan and see the benefit and value it adds to your company, you will wonder why you didn’t have one sooner!

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Jared Porter
Jared is 401(k) expert and early-morning basketball enthusiast. He enjoys explaining complicated retirement issues in simple ways.

Learn more about our 401(k) options optimized for small and medium sized businesses.