In competing for the best employees, many small business owners are under the misconception that while they may be able to match salary offers with their counterparts at larger firms, they cannot compete when it comes to benefit packages, especially employment retirement plans.Typical perceived roadblocks to creating retirement plans for employees include:
- Retirement plans are too expensive. A retirement plan is an ongoing commitment (unlike a bonus) that some business owners feel is too burdensome.
- Excessive paperwork and time commitment. When establishing and implementing a plan, the business must adhere to strict IRS and Department of Labor rules and be in compliance with the Employee Retirement Income Security Act (ERISA). Time and money must be spent to ensure that the plan conforms to regulatory requirements.
- All employees in the firm are given roughly the same benefits package. That makes it harder to single out important employees or family members for extra benefits.
These roadblocks may be overcome through proper planning.
Most employees expect certain benefits, including medical, life and dental coverage. Employers must look at what they can financially afford beyond these basic benefits. While more complex retirement packages exist, for most small businesses a 401(k) plan is the answer.
These plans are easy for employees to understand and inexpensive to install and administer. Employer contributions are 100 percent tax deductible and contributions by employees are tax-deferred until withdrawn at retirement. Plus, the plans encourage employee loyalty and thus retention. Even with a modest plan, the employer enjoys a sizable tax advantage and the ability to retain employees.Investing in plans
Retirement plan costs vary depending on the number of employees and the type of benefits selected. Small businesses with fewer than 25 employees can create a solid 401(k) plan for about $1,500 in annual costs (excluding start up costs). When increased employee retention and tax incentives are considered, the plans can actually save the employer money in the long term.
Business owners should expect to pay a fee for plan design. This fee for a small business can cost up to $1,000 or more depending on the complexity of the plan.
Plan installation is the next expense. An attorney must draft a trust document that outlines the legal wording of the plan. Following its drafting and preparation of collateral materials, time must be taken to explain and enroll employees into the plan.
Annual plan administration, (ensuring the plan stays in compliance with regulatory guidelines) is another expense. An adviser or a third party administrator can administer these elements. The investment option package that is selected for the 401(k) must also be reviewed by the adviser from time to time to ensure that it is performing adequately.
The advisor should also be available to talk with employees who have questions about their individual accounts. This also requires an annual fee. The smaller the number of employees, the smaller these costs will be. It is usually 1 to 2 percent of the account balances per year.
Pensions, 401(k)s and individual retirement accounts are all known as "qualified plans," whereby all employees participate equally. Employers can customize these plans based on years of employment, position within the company and salary level. Further benefits for certain employees can be created under a "nonqualified plan."
When using nonqualified plans, the employer does not receive a current tax deduction, and instead receives a deferred deduction, but benefits can be offered to only certain individuals instead of the entire employee base. Why would an employer use nonqualified plans? To give an additional incentive to, and thereby ensure the continued loyalties of key employees, and to create added financial security for family members working within the company.
Qualified and nonqualified plans each offer six to eight different kinds of retirement options. Consequently, a company can have between 20 and 30 different benefit configurations to choose from.
The first step for business owners creating a retirement plan is to talk with the company's financial adviser to formulate clear objectives for the plan, determine the amount of funding desired and decide on the type of plan or plans to implement.
The financial adviser will take into account the number of people who work at the company, how much each one earns, their age and how long they have worked for the employer.
The adviser will then create several retirement models and present them to the business owner. Some examples include a 401(k) plan with or without a match contribution, a defined contribution plan, defined benefit contribution plan, qualified or unqualified profit sharing and plans that include safe harbor rules.
The financial adviser gives the business owner the pros and cons of the plans and the employer has the option of mixing and matching plan elements.
By far, the setup period requires the most time commitment from the business owner. Once the retirement plan is established, the financial adviser (or third party administrator), CPA and fund family can manage the plan.
Richard H. Linsday AEP, RFC is managing principal of the Westlake Village-based Planned Estate Services Inc. He can be reached at Richard_Linsday@plannedestate.com.
Entrepreneur's Notebook is a regular column contributed by EC2, The Annenberg Incubator Project, a center for multimedia and electronic communications at the University of Southern California. Contact James Klein at (213) 743-1759 with feedback and topic suggestions.
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