A Quick Overview of 401(k) Benefits for Employers
Today, we are going to talk a little bit about the most common type of retirement plan and the one you are used to hearing about most—401(k) retirement plans. Having been around since the 1990s, 401(k)s are likely the most prolific type of retirement account currently available. It is estimated that at least four in ten employees offer at least a 6% match of revenue for their employees, and six in ten employers offer a 401(k).
Save for Retirement with 401(k)
401(k)s stand out from Simple and SEP IRAs in several key ways, offering more complexity and a wider range of regulations. This complexity, however, translates into greater control and flexibility for employers.
Just like with the Simple IRA, employees have different eligibility requirements that they can put on 401(k)s to make their employees eligible for them. Unlike Simple and SEP IRAs, you have much more control over what these are. You have to comply with federal minimums, but there is a lot more control over hours worked, time involved in the company, and things of that nature.
There are even age requirements that you can establish that do not exist with Simple IRAs. Depending on your 401(k) setup, you will be able to take into account hours worked so that any part-time or seasonal workers you may have can be excluded from participating in your 401(k) – something that you can not do with a Simple IRA.
Employer Matching Percentages and How They Work
You also have a lot more flexibility when matching your employee contributions, meaning that you can contribute a straight percentage match to employees, or you can do whole and half matches. The most common route employers take is doing a whole 3% match – meaning that if the employee contributes 3%, you contribute 3%. If an employee contributes 2%, you only have to match that 2%.
If an employee contributes 4%, you only have to match 3%. When doing whole and half matches, you can offer your employees a 3% whole match and a half percent match for an additional two, three, and so on percent.
This allows the employer to ease out of what you are putting in based on what the employees are putting in. This means that if you are doing a 3% whole match with a 2% half match, you are contributing a total of a 4% match. An example of this would be if an employee contributes 4% to their 401(k), then you match 3.5%.
While 401(k)s have a lot more flexibility regarding eligibility and employer matching contributions, they are a lot more highly regulated and more complicated to establish. You have to complete an extensive legal document to ensure your 401(k) is set up correctly and a good bit of reporting that you must do at the end of each year.
Managing your 401(k) Accounts
Most employers will hire a third-party administrator to manage their 401(k). Also, unlike other retirement accounts where your cost is fairly minimal and, in some cases, you only have to pay for the retirement accounts, you are likely going to be paying for the administration fees along with the retirement account fees.
In our professional opinion, third-party administrators are a crucial part of the 401(k) process, ensuring compliance with all associated laws. Similar to using a CPA or an accountant, third-party administrators ensure adherence to financial laws and all legal and financial regulations for the 401(k), making them a necessary expense. While they may be the most expensive option for a retirement account, the benefits they provide justify this cost.
You can defer the most significant amount of money by putting it into a 401(k). Individuals can put 23,000 in 2024 into their accounts independently. Remember that just like other retirement accounts, the IRS updates this number yearly to account for inflation.
You can always check those amounts here. If you are looking at a 401(k) and putting in money as the employer and you are the boss, you can do matching.
Still, you can also look at putting in a profit-sharing 401(k) and set that profit-sharing up to substantially increase or even max out the amount of money going into your 401(k). For 2024, individuals under 50 have a maximum contribution of $69,000 per year. If you are age 50 or older, that number increases to $76,500 – substantially more than what you could do with any IRA account. This is additional 7,500 in catch up total contributions.
The contribution dollar limits do have a secondary limitation—your wages. If you do not make $69,000, you can not put $69,000 into your 401(k). However, if you make $48,000, your employer could contribute $48,000 in addition to or in combination with what you, as the employee, are contributing. 401(k)s are definitely one of the quickest ways to accumulate retirement, especially if you are looking to defer some taxable income. Starting in 2025, the 401(k) employee deferral limit will jump to $23,500, up from $23,000 in 2024.
Pre Tax or Post Tax? Which Works Best for You?
Another benefit of 401(k)s is that you can either go the traditional route or the Roth route. This works just like traditional and Roth IRAs. Traditional is tax-deferred, meaning you are going to save money on taxes this year and pay taxes on your retirement income when you pull it out of the account.
Roth, you will pay the taxes now, but it is going to grow and gain all of that interest and capital gains. All of that will be tax-free when you finally retire. You also have the option to split your contribution. You can do part to the traditional and part to the Roth; you just can not exceed the $69,000 contribution limit.
A 401(k) can be a huge draw to potential employees and help with employee retention overall, especially when offering a match. Sure, with a Simple IRA, you can also offer that 3% match, but you are limited to just that 3%. With a 401(k), you can offer a lot more. Some employers even provide 10%+ matches on their 401(k)s, which is a strong draw for some employees.
On the employee side, 401(k)s also offer a lot of flexibility. Employees who choose to leave have multiple options on how they want to handle their 401(k). They could either cash it out and take the tax hit on it or roll that 401(k) into their own personal traditional or Roth IRA based on how it was invested into the 401(k). They could also roll it over if their new employer offers a 401(k).
In some cases, they could just leave the funds with their old employer and let it continue growing. However, they will not be able to make any new contributions if they leave it with their old employer.
Time Limits & Withdrawing Contributions
There is also no time limit on 401(k)s. Unlike with a Simple IRA, employees could be participating in a 401(k) for only six months and then leave their employment and can immediately take that money with them. They do not have to wait another year and a half to be able to touch those funds.
Just like any other retirement account, if you or an employee cashes out before 59 ½, you must pay both the income tax burden on whatever your account is and the 10% penalty. All retirement accounts are set up this way, so there is no getting around this.
Like traditional IRAs, 401(k)s have a required minimum distribution (RMD) amount and age; you will not be able to let the money sit there forever and continue to grow while you keep investing. As of 2024, at 73, you will be required to take that minimum distribution.
The laws and regulations on the RMDs do have the possibility to change. 401(k) have been around for a little over 40 years now, and there have been modifications on when RMDs have to occur since 401(k)s came about.
Understanding your Retirement Savings Plan
There is a lot that goes into a 401(k). Still, of all the retirement accounts that we’ve covered over the last three weeks, while this one comes with a higher cost, more paperwork, and increased regulations, it also allows you and your employees to have more control over contributing to your futures and provides a large basis for annual contributions.
You can always check out the IRS website for further details, and it is always recommended that you talk with a financial advisor if you have specific questions about 401(k)s and how they work. If you need a recommendation, we have plenty of people and third-party administrators we can connect you with.
Check out our youtube video 401(K) Basics For Business Owners – How It Benefits You And Your Employees! with James to give you a first hand recap.If you are still determining which plan works best for you or need additional help or have any questions, Waterford Business Solutions is happy to help. Feel free to call us at 864-351-0852 or email us at Info@WaterfordBusiness.com.
If you are interested in discussing how a 401(k) can benefit your employees and your business, such as the tax benefits and even tax write-offs you can take advantage of, feel free to contact us. Call us at 864-351-0852 to schedule a free consultation or schedule a meeting with us on our calendar.
