The Advantages of Offering a 401(k) Plan for Your Small Business

Author: Adam Bush, QKA, AIF® / Reviewer: Callie Adams Farnsworth, QKA, CAFCA
20 Mar 2023 / 401(k) Plan Information

If you’re wondering whether or not offering a 401(k) plan is worth it, you’re in the right place. We’re breaking down how a small business 401(k) can benefit you, your employees, and your business.

Benefits for individuals.

Small business owners and employees can benefit personally from saving in a 401(k) plan in many ways:

• Efficient, disciplined savings through automatic payroll deductions
• Higher contribution amounts than permitted in SEP or SIMPLE IRA plans
• Access to a broad range of investment options
• Option to take a loan from retirement savings
• Ability to move assets to other retirement arrangements if changing jobs or retiring

Tax savings and options

One of the main financial benefits of a 401(k) plan – for both you and your employees – is how these retirement plans can affect personal and corporate taxes. Individuals can enjoy:

• Reduced taxable income through pre-tax salary contributions
• Control over when taxes are paid on retirement assets (pre-tax versus post-tax Roth contributions)
• Tax credits for some employees

A big one to bear in mind is tax-deferred growth

Tax-deferred growth happens when any investment gains (a.k.a., interest) earned within the plan are not subject to federal income tax until they are withdrawn. This growth, which occurs year over year, is also known as compounding interest. When you invest in a 401(k), the money you add generates interest. This interest compounds year after year, as you earn interest on your interest.

Here’s an example¹ . Let’s assume a very modest ability to save and a so-so economy returning just 5%. If you were to contribute $5,000 this month and add just $100/month to your 401(k), in 30 years’ time you could have $105,924 saved for retirement. Not bad.

However, if you saved the maximum contribution of $66,000 for 2023 and contribute at least that much every year for 30 years, you’d be sitting on $4.87 million or more for retirement. That’s a lot better!

• Traditional 401(k): In a traditional 401(k) plan, contributions are made on a pre-tax basis, and any investment gains are tax-deferred. When the employee withdraws the funds from the plan, they are subject to federal income tax.
• Roth 401(k): In a Roth 401(k) plan, contributions are made on an after-tax basis, and any investment gains are tax-deferred. When the employee withdraws the funds from the plan, they are not subject to federal income tax.

Your small business benefits too.

Tax credits

Small business 401(k) plans may make a business eligible for some juicy tax credits, including:

• Automatic Enrollment Tax Credit: This provides a credit of up to $500 per year for the first three years of the plan when you add automatic enrollment.
• Retirement Plan Start-up Cost Tax Credit: The Retirement Plan Start-up Cost Tax Credit provides a credit of up to $5,000 for the plan’s first three years. Plans qualify to receive 50% if you have under 100 employees; however, plans with under 50 employees qualify for 100%.

Tax-deductible contributions

Did you know you can make tax-deductible contributions to your employees’ 401(k) plans? This means that the contributions your company makes aren’t subject to federal income tax or payroll taxes.

Improved retention and recruitment

Offering a 401(k) plan can also benefit you when it comes to minimizing your turnover costs because it assists with retention and recruitment.

• Employee Retention: Employees are more likely to stay with an employer who offers a 401(k) plan. It shows that you’re invested in the employee’s future and values their contributions to the company–which helps you keep top talent at your small business.
• Employee Recruitment: A 401(k) plan can also help your small business attract top talent. After all, it makes your business’s benefits package competitive with those of much larger
• businesses.

 

1 Calculations performed on https://www.forbes.com/advisor/banking/compound-interest-calculator/

Ubiquity is not a registered investment advisor and no portion of the material herein should be construed as legal or tax advice. Please consult with your financial planner, attorney and/or tax advisor for advice.