- Offering retirement plans to employees is a good way to attract and retain top talent in your industry.
- The IRS provides tax incentives to small businesses that offer retirement plans.
- There are several different plan types for small businesses, from simple plans that anyone can open to employer-sponsored plans for businesses with two to 100 employees.
- This article is for small business owners looking to learn more about retirement plan options for their employees.
What are employee retirement plans?
Employee retirement plans help provide workers with income after they retire. These are viewed as a form of workplace benefit, and there are various ways that employers might structure their retirement plans and contribute to them on behalf of their employees.
Editor’s note: Looking for the right employee retirement plan for your business? Fill out the below questionnaire to have our vendor partners contact you about your needs.
Choosing the right retirement plan for your small business starts with researching all of the options available to you and your employees. Analyze who your employees are and what retirement plan options make the most sense for them, then choose one that aligns with your small business needs and values.
If you already know which type of plan you want, check out our recommendations for the best employee retirement plan providers.
What are the types of retirement plan types?
Employers have options when it comes to offering retirement plans to their workers based on the size of their business, employees’ needs and other considerations. Here, we take a look at the various plans available.
Several different types of small business retirement plans are available and plan providers have affordable, accessible options designed for even very small businesses. There are also some tax advantages that can offset the expense of sponsoring a small business retirement plan.
This is perhaps the best-known type of retirement plan. The difference between individual retirement account (IRA) and 401(k) plans is that 401(k) plans allow employees to contribute a higher dollar amount to their accounts, to take out loans from their retirement savings and, usually, a choice of pretax and Roth contributions:
- Cost per employee: Varies by plan provider. Look for all-inclusive providers that work with small businesses. Most charge a setup fee, monthly (or annual) administrative and per-participant fees and an investment or advisory fee. Plan participants pay exchange-traded fund (ETF) and mutual fund expense ratios as well as fund trades.
- Contribution structure: Employee participation is optional and often allows them to make pretax contributions through salary deferrals or after-tax Roth contributions. Employer contributions are optional, but you can set a vesting schedule that allows you to reclaim a percentage of the business’ contributions if an employee leaves the company before a set time.
- Roth 401(k) vs. traditional 401(k): A Roth 401(k) is a variation of the traditional 401(k) that allows plan participants to make after-tax contributions rather than pretax salary deferrals. After-tax contributions aren’t deductible since employees have already paid income tax on them. The advantage is that their money grows tax-free, so it isn’t taxed when they withdraw it.
- 2023 contribution limits: $22,500 for employees or $30,000 for employees age 50 and older. Employers can contribute up to 25% of the employee’s compensation, but the contribution totals ― employee and employer contributions ― must not exceed $66,000 or $73,500 for employees age 50 and older who make catch-up contributions. This plan is subject to nondiscrimination testing, which ensures it doesn’t favor highly compensated employees. As such, the business owner and high-earning employees may need to reduce their contributions to pass this test.
- Type of filing: You’re required to submit an Annual Return/Report of Employee Benefit Plan ― also known as IRS Form 5500 ― with this plan. As mentioned in the point above, this plan requires nondiscrimination testing.
- Ideal for established small businesses that wish to use a vesting schedule to encourage talent retention or prefer not to match or contribute to employee retirement accounts.
Safe harbor 401(k)
A safe harbor 401(k) is a variation of the traditional 401(k) plan that isn’t subject to an annual IRS nondiscrimination test. This allows the business owner and highly compensated employees to make maximum contributions to their retirement accounts. However, employers are required to match or contribute to employee retirement accounts and these funds are immediately 100% vested:
- Cost per employee: Varies by plan provider, but those offering all-inclusive plans for small businesses tend to be less expensive. Most charge a setup fee, monthly (or annual) administrative and per-participant fees and an investment or advisory fee. Plan participants pay ETF and mutual fund expense ratios, as well as fund trades.
- Contribution structure: There are three types of safe harbor plan structures. Employers are required to meet one of the following to qualify as a legal safe harbor plan:
- Basic match where employee matches 100 percent of the first 3 percent of deferred compensation and a 50 percent match on the next 2 percent.
- Enhanced match is when the company matches or exceeds the basic option. Typically, the employer gives a 100 percent match on the first 4 percent of deferred compensation.
- Nonelective where the company contributes 3% or more of an employee’s compensation whether or not the worker opts for elective deferrals.
- 2023 contribution limits: $22,500 for employees or $30,000 for employees age 50 and older. Employers can contribute up to 25% of the employee’s compensation, but the total contribution, including employee and employer contributions, must not exceed $66,000 or $73,500 for employees age 50 and older who make catch-up contributions.
- Type of filing: As with the traditional 401(k), you’re required to submit IRS Form 5500 with this plan. Nondiscrimination testing isn’t required.
- Ideal for small businesses whose owners and high-earning employees want to invest aggressively in their retirement accounts.
The safe harbor 401(k) is similar to a traditional 401(k), except that it requires employer matching programs and is not subject to an annual IRS nondiscrimination test.
A solo 401(k) is a retirement savings plan designed for self-employed individuals who want to maximize their retirement contributions. It’s also referred to as an individual 401(k) or i401(k). Only the business owner and their spouse may participate in this type of plan; business owners with employees do not qualify for it:
- Cost: Fees vary, depending on the plan provider. Some charge a setup fee and have monthly or annual administrative and advisory fees. Others don’t charge these fees but instead have ETF and mutual fund expense ratios and trading commissions. Some retirement plan providers require a minimum opening investment and charge service fees if your account balance doesn’t meet a certain threshold.
- Contribution structure: You can contribute to this account as both the employee and employer. A Roth option for the employee contribution may be available, depending on the plan provider.
- 2023 contribution limits: $22,500 for the employee contribution, plus a $7,500 catch-up contribution if you’re age 50 or over. The employer contribution limit is up to 25% of your compensation. However, the total defined contribution limit, which includes both employee and employer contributions, is $66,000 for 2023, not counting catch-up contributions.
- Type of filing: If your plan has $250,000 or more in assets, you must submit IRS Form 5500-SF or 5500-EZ. Because you don’t have employees, nondiscrimination tests are not required.
- Ideal for sole proprietors who wish to take full advantage of retirement savings opportunities.
A Savings Incentive Match Plan for Employees (SIMPLE) IRA is a small business retirement plan that is easy to set up and has low contribution and matching requirements for employers. It allows employees to contribute more than they could with traditional or Roth IRAs:
- Cost per employee: There are usually no setup fees for this type of plan. Participating employees pay fund trades and expense ratios. Depending on the plan provider, there may be account service or maintenance fees.
- Contribution structure: Employees have the option of contributing to their accounts through elective deferrals. There is no Roth option for this plan. Employers must either contribute 2% to all employee accounts or match 3% of employee contributions. Contributions are 100% vested. Self-employed people who choose this plan can contribute to it as both employee and employer.
- 2023 contribution limit: $15,500 for employees; employees who are 50 and older can make an extra $3500 catch-up contribution. Employers aren’t allowed to exceed the 2% contribution or 3% match.
- Type of filing: This plan doesn’t require employers to file IRS Form 5500 or submit to nondiscrimination testing.
- Ideal for small businesses with 100 or fewer employees that want to keep their costs low and allow employee contributions.
A Simplified Employee Pension IRA (SEP IRA) is a retirement savings plan that’s inexpensive for employers to establish and easy to maintain. Employer contributions aren’t required annually, making it a good option for business owners who only want to contribute during high-profit years:
- Cost per employee: There are usually no setup fees for this type of plan. Plan participants pay trading commissions and fund expense ratios. Depending on the plan provider, there may be account service or maintenance fees.
- Contribution structure: Only employers may contribute to employee accounts. Contributions must be the same percentage of compensation for every participant. Employers aren’t required to contribute to accounts every year. Contributions are immediately 100% vested.
- 2023 contribution limits: Up to $66,000 or 25% of compensation, whichever is less. There are no catch-up contributions allowed for this plan type.
- Type of filing: The plan doesn’t require employers to file IRS Form 5500 or submit to nondiscrimination testing.
- Ideal for businesses of all sizes that want a plan that is easy to set up and maintain and allows employers the flexibility of choosing which years they make contributions to employee accounts.
A SEP IRA is designed for employers who want to choose when they make contributions to the plan as annual contributions are not required. For example, it allows them to only make contributions only during high-profit years.
IRAs are the simplest type of retirement accounts to set up. Furthermore, nearly everyone is eligible ― freelancers, business owners and even people who already have employer-sponsored retirement plans. This type of plan is a popular option for people who have 401(k) assets from previous jobs that they need to roll over into a new retirement account. There’s usually no cost to set up an IRA, but you will pay trading fees and fund expense ratios.
This type of retirement account allows you to make annual tax-deductible contributions, depending on your modified adjusted gross income and whether or not you have a workplace-sponsored account. Earnings on principal and interest accumulate on a tax-deferred basis:
- 2023 contribution limit: $6,500. If you’re age 50 or older, you can contribute up to $7000.
- Contribution rules: You can contribute to your account until age 70.5, at which time required minimum distributions (RMDs) apply. You can withdraw funds penalty-free at age 59.5. You must start taking distributions by April 1 of the year you turn 72.
- Ideal for individuals who anticipate that their tax rates will be lower during retirement years, as this account allows you to defer taxes until you withdraw your money.
This type of retirement account differs from traditional IRAs in that contributions aren’t deductible. Instead, you’ve already paid income taxes on the money you invest, allowing interest to grow tax-free. It also has no age limits on contributions and has different withdrawal rules:
- 2023 contribution limits: $6,500. If you’re age 50 or older, you can make a $1,000 catch-up contribution.
- Contribution rules: There’s no age limit on contributions so, unlike with traditional IRAs, you can continue contributing to your account past age 70.5. In addition to waiting until you’re age 59.5 to withdraw your funds, you must have established the account at least five years before you make withdrawals. However, there are no RMDs during your lifetime.
- Ideal for individuals who expect higher tax rates during retirement years. Since Roth contributions have already been taxed, your money grows tax-free and there are no additional taxes to pay when you withdraw it.
As with all major financial decisions, consult your certified public accountant, tax advisor or financial advisor for retirement and investment advice specific to you and your business. The information in this article is general and shouldn’t be considered financial, legal or tax advice.
What are the best small business retirement plan options?
Small businesses have a number of retirement plan options to consider. Here, we take a look at some of the best employee retirement plan options for small businesses.
USA 401k is a small, independent retirement benefits provider that offers services through a subsidiary of MassMutual. What sets them apart is their transparent pricing. (See USA 401k review)
Paychex is an all-in-one human resources (HR) payroll and benefits solution that offers 401(k) and retirement services for businesses of all sizes. Small businesses can work with Paychex to build a customized plan based on their — and their employees’ needs. (See Paychex Flex HR Software review)
ADP really stands out as the best employee retirement benefits provider for small businesses because of its comprehensive payroll, HR outsourcing and benefits services, which can all be integrated through the company’s SMARTSync Comprehensive Plan Automation. (See ADP Employee Retirement review)
A dedicated employee retirement benefits provider that offers cost-effective and user-friendly services online. Employers can choose from three plans — Essentials, Complete and Concierge. (See our Human Interest Employee Retirement review)
Fidelity provides a wide array of services, including individual retirement accounts and employer-sponsored retirement plans.
A relatively new company that has a particularly strong safe harbor 401(k) offering.
One of the oldest and largest mutual fund companies in the world, Vanguard offers a wide range of mutual funds and ETFs for account holders to choose from.
What are the retirement plan tax advantages for small businesses?
The government offers the Retirement Plans Startup Costs Tax Credit to help small businesses offer retirement plans to their employees. It allows you to deduct up to 50 percent or $500 of plan startup and administration costs for the first three years of your plan.
If you match or make contributions to employee accounts, that money is also tax deductible. It allows you to contribute to your own retirement savings plan and, like your employees, you have the option of elective deferrals that may allow you to lower your income tax bracket. Also, depending on your income, you may qualify for the Saver’s Credit.
Additional tax credits may soon be available as federal lawmakers seek to make retirement plans more accessible and affordable for small business owners. For example, one bill under consideration would provide a tax credit to small businesses that auto-enroll their workers in their retirement plans. [Related article: Retirement Savings Rules See Big Changes: What You Need to Know]
Do small businesses have to offer employee retirement plans?
The short answer is no. No private businesses in the United States are required to offer retirement plans to their employees. Many companies offer retirement plans as part of benefits packages to help attract and retain talent. For smaller companies, offering retirement plans may help bring in new workers, but it also may be the right thing to do for your existing employees.
Depending on your situation, it’s important to consider how retirement plans will impact your business and its employees. Benefits like retirement plan options or healthcare can be a major tipping point for employees who are waffling between staying loyal to your company and taking their talents elsewhere.
What type of employee retirement plan should I choose?
If you have employees and want …
- To set a vesting schedule that encourages employee retainment, check out a traditional 401(k).
- To avoid nondiscrimination testing, so you and your highly compensated employees can aggressively save for retirement, think about a safe harbor 401(k).
- A simple plan that allows your employees to make contributions, look into a SIMPLE IRA.
- To choose which years you contribute to employee retirement accounts ― for example, if your business profits fluctuate from year to year ― consider a SEP IRA.
If you’re a sole proprietor and want …
- To save as much money for retirement as allowed and contribute as both an employee and the employer, look into a solo 401(k).
- To save as much money for retirement as allowed, but only want to make employer contributions, check out a SEP IRA.
- For a simple retirement plan that’s easy to set up, consider a traditional IRA.
For a simple after-tax plan that allows your money to grow tax-free, look into a Roth IRA.
Small businesses of all types have a wide selection of employee retirement plans, including traditional 401(k), SIMPLE IRA and solo 401(k) plans.
Offer a benefit that keeps on giving
Small businesses can earn big benefits from offering employees retirement plan options to ensure a comfortable retirement. With many plan options available, you’re sure to find one that meets your company’s ― and your employees’ needs.
Linda Pophal contributed to this article.