One of the most common retirement investment options offered by employers in the United States is the 401(k) plan—and it’s popular for a good reason. For more than 40 years, these plans have provided employers and employees an easy, flexible way to save money for retirement.
If your business does not currently offer a 401(k)—or you’re considering switching to a new plan provider—it’s essential to understand the basics from the employer, or plan sponsor, perspective first. This includes types of plans, the benefits employers receive, and the regulations employers must follow.
What is a 401(k)?
A 401(k) is a type of retirement plan known as a defined contribution plan, meaning your benefit at retirement is based upon the contributions you and your employer contribute to the plan (plus earnings). They allow employees to save for retirement by contributing a percentage of their salary directly to an account associated with the plan.
Deferred contributions are usually made to traditional 401(k) plans on a pre-tax basis and are taxable when the plan participant makes a withdrawal, typically beginning at retirement. Deferred contributions offer plan participants the opportunity to save on taxes as well. Some 401(k) plans also offer Roth deferral contributions.
Roth contributions are made with after-tax dollars, meaning that, if certain conditions are met, those contributions and related earnings are not taxed upon distribution.
An employer can also contribute to an employee’s 401(k) account. Both employee and employer contributions to 401(k) plans are typically invested in a portfolio comprising a combination of mutual funds, stocks, bonds, money market funds, or other investment options.
Is a 401(k) plan mandatory for employers to offer?
Not exactly—or maybe more accurately, not yet. There’s no current federal law requiring private-sector employers to provide a retirement plan, but some states have begun making their own rules. California, Washington, and Illinois, among others, have passed laws requiring businesses to offer retirement plans to their employees.
Rather than a traditional 401(k) plan, many states are requiring businesses to enroll eligible workers in a state-sponsored Roth individual retirement account (IRA) plan—or offer employees a qualified retirement savings plan, which may include a 401(k).
Massachusetts hasn’t yet passed a law requiring small private employers to offer a retirement plan, but it does have the Massachusetts Defined Contribution CORE Plan, an optional state-facilitated multiple employer plan (MEP) for nonprofit employers. Given that over 17% of employees in Massachusetts work for a nonprofit as of 2018, offering those organizations an easy retirement plan option made sense.
Employer benefits of offering a 401k
Companies offer 401(k) plans for three good reasons:
To help attract and retain the best employees
To take advantage of potential tax benefits
To help their employees prepare for retirement
Providing a well-designed 401(k) can help recruit and retain top talent at every level of the organization. In terms of recruitment, a 2022 survey of more than 2,000 adults, commissioned by Human Interest and conducted by OnePoll, found that retirement plans are the most-wanted benefit after health insurance.
And according to Human Interest internal data from 2022, offering a 401(k) plan may lead to lower turnover rates, particularly for small to medium-sized businesses.
Employees may appreciate a 401(k) because it is an easy, cost-effective way to save for retirement while deferring income tax on traditional pre-tax contributions. But the tax benefits of a 401(k) aren’t just for employees. Employers can deduct matching or profit-sharing contributions made to participants’ 401(k) retirement accounts, making them a more affordable way to help attract and retain employees.
Additionally, the federal government offers financial incentives to qualified small businesses for starting 401(k) plans. Eligible small businesses can take advantage of a startup costs tax credit of up to $5,000 per year, for the first three years of the plan, to cover some of the costs of starting a new 401(k) plan. If your plan includes an automatic enrollment feature, there’s also an additional $500 tax credit per year for the first three years.
How to start a 401(k) for your startup
Starting a 401(k) plan can be an important first step in helping secure a better financial future for your employees. Setting a 401(k) for your small business can be easier than you might think because you can usually outsource some of the work.
When starting a 401(k) plan, you can choose to customize several aspects of your company’s plan, including:
How long you want an employee to wait before becoming eligible for the plan
Whether you’ll allow Roth deferrals.
Whether you want to match employee contributions or contribute a fixed percentage of their salary.
401(k) vendors or service providers can help take care of things, like:
The plan document, which outlines the rules of your 401(k).
The adoption agreement, which allows you to customize the plan to meet your company’s needs.
The trust, which is a legal entity created to hold plan contributions.
During your search, there are several factors to keep in mind when taking stock of different 401(k) providers, including:
Easy setup options that decrease HR workload
Robust technology including payroll integration capabilities
Compliance support, including preparing nondiscrimination testing, annual notices, and more
Superior customer service for employer administrators and employees
Flexibility for plan design options
Learn more about setting up a 401(k) for your startup with Human Interest
Human Interest offers an affordable, full-service 401(k) that’s designed to streamline much of the manual work of plan administration, particularly for small and medium-size businesses. We offer traditional and Roth 401(k)s, 403(b)s, safe harbor plans, and profit-sharing plans—that can be set up in minutes. And by integrating with leading payroll providers, we’re able to automate tasks, cutting costs and saving you time. Get in touch and we’ll help you figure out what’s right for you.
About the Author - Human Interest is an affordable, full-service 401(k) and 403(b) provider that seeks to make it easy for small and medium-sized businesses to assist their employees with investing for retirement. For more information, please visit humaninterest.com.