A 401(k) plan is an employer-sponsored qualified retirement savings plan that offers employees the opportunity to put their own money away into the plan through payroll deductions. Employees can contribute either pre-tax or post-tax dollars, and these amounts will either grow tax-deferred or tax-free, respectively.
It is a great way to attract and retain the best and brightest employees. Employees want to know that you care about them and their future. This is a terrific way for any business owner to demonstrate that! By adding a safe harbor contribution or company matching contribution, you are effectively giving your employees a bonus. But, instead of putting it into their “take-home" pocket, where they may end up spending it, you are putting it into their “retirement-plan" pocket.
If a business owner layers on a safe harbor contribution and a profit sharing contribution, that business owner can put away a maximum of $66,000 into the plan for 2023. If they are over the age of 50 and they maximize their 401(k) contributions, this amount could be as high as $73,500.
By first understanding what their current or projected tax situation is, the plan can be designed in such a way that the business owner is minimizing their tax liability as much as possible. Depending on how the plan is structured, any and all expenses associated with the plan and any and all employer contributions made into the plan will be fully tax deductible to the company. In addition, for new plans that have just been set up, the IRS allows up to a $500 credit in each of the first three years of the plan.
If a business owner elects to sponsor a 401(k) plan, they have effectively become a fiduciary to that plan. If you are a fiduciary to the plan, you are personally liable if something goes wrong. Most business owners are not aware of this fact.
Adopted in 1974, the Employee Retirement Income Security Act (ERISA) sets the rules for these plans. This act was essentially designed to protect employees from having employers advantage themselves at the disadvantage of their employees.
Under Regulation 408(b)(2) that was enacted by the Department of Labor in 2013, the plan sponsor is now required to understand AND benchmark all of the fees that are associated with the various service providers attached to the plan (e.g., pension administrator, recordkeeper, financial advisor, investment manager, etc.). Also, Regulation 404(a)(5) says that once the plan sponsor understands and benchmarks the fees in the plan, they are then required to communicate this information to each of the participants in the plan.
In addition, the plan sponsor is responsible for making sure that all of the participants in the plan have been given the proper education to understand how the plan works and what benefits are offered in the plan. Furthermore, the plan sponsor MUST provide an opportunity for the participants to be educated about the investments being offered within the plan. The plan MUST also have an ERISA bond that will protect the plan assets from theft.
The plan sponsor needs to make sure that they have surrounded themselves with a competent team of advisors, including a pension administrator, a CPA, and a 401(k) consultant who advises on the plan and shares the fiduciary liability with the business owner.
The pension administrator will handle all of the administration of the plan and prepare all of the tax filings required by the IRS. They are also responsible for running numbers to illustrate the various plan designs that will help the business owner maximize what they want to contribute into the plan for themselves and minimize what needs to be paid out to the rest of the employees.
The CPA’s role is to help assess the tax situation for the business owner. Knowing the tax situation greatly helps with determining how much a business owner may want to contribute into the plan, and therefore what the design of the plan is going to be.
The 401(k) consultant specializes in ensuring that plan sponsors understand their responsibilities and are given the tools needed to make good decisions. The consultant acts as the quarterback to help coordinate the work of all these other advisors. The consultant should also state in writing that they are acting as a fiduciary to the plan.
Note that a plan sponsor can limit their fiduciary responsibility, but they can never eliminate it.
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