Types of Retirement Plans
The key to a successful retirement plan begins with careful analysis of the organization's goals and available financial and human resources. We meet with each of our clients to review their demographics, management philosophy and compensation strategy. From that starting point, we can look at the different types of plans available and design a plan that is attractive to both employers and employees.
Profit Sharing Plans
A profit sharing plan is a defined contribution plan in which the employer has discretion to determine when and how much the company pays into the plan. The amount contributed is allocated to each individual participant account, usually based on the salary level of the participant.
The employer contributions, and any investment earnings, accumulate on a tax-deferred basis--the IRS will tax these benefits as income only when distributions are made from the plan.
The employer does not need profits in order to make contributions to a profit sharing plan. Contributions to the plan are discretionary. If contributions are made, the legal plan document will have a set formula for determining how the contributions are divided. Back to Top
An age-weighted or cross-tested plan is a profit sharing plan that favors older, long-term employees, who are closer to retirement. Unlike traditional profit sharing plans, which usually provide a flat dollar amount or a flat percentage to each participant, these types of plans can be designed to take into consideration the age, service and compensation of the participants.
Under these plan designs, the percentage of the plan contribution allocated to the accounts of owners and other highly compensated employees can be much higher than under a traditional profit sharing plan. However, special nondiscrimination testing is necessary for these types of formulas, which can make the administration more costly. Back to Top
When a profit sharing plan is enhanced to allow employees to contribute into it from their own compensation, the plan is operated under Internal Revenue Code Section 401(k). The IRS mandates a specific maximum amount that can be contributed by the employee each year. Employee contributions can be made either on a pre-tax basis, or as after-tax Roth contributions.
Rules relating to 401(k) plans require that contributions made under the plan meet specific nondiscrimination requirements. In order to ensure that the plan satisfies these requirements, the employer must perform annual tests, known as the Actual Deferral Percentage (ADP) and Actual Contribution Percentage (ACP) tests, to verify that deferred employee wages and any employer matching contributions do not discriminate in favor of highly compensated employees. Back to Top
Safe Harbor 401(k) Plans
A safe harbor 401(k) plan is similar to a traditional 401(k) plan, but it must provide for employer contributions that are fully vested when made. These contributions may be employer matching contributions or employer nonelective contributions that are made on behalf of all eligible employees. In return for making the required employer contribution, the safe harbor 401(k) plan is not subject to the some of the complex annual nondiscrimination testing that would otherwise apply to a traditional 401(k) plan. Back to Top
A 403(b) plan (also referred to as a Tax Sheltered Annuity – TSA) is similar to a 401(k) plan, but it is available to employees of educational institutions and certain non-profit organizations as determined by Section 501(c)(3) of the Internal Revenue Code. Contributions and investment earnings in a 403(b) plan grow tax-deferred until withdrawal, at which time they are taxed as ordinary income. Participants can contribute on a pre-tax or Roth after-tax basis and the contributions may be invested into annuities, variable annuities or mutual funds. Back to Top
Employee Stock Ownership Plans (ESOPs)
An Employee Stock Ownership Plan is a tax-qualified retirement plan that invests primarily in employer securities of the sponsoring employer. Companies set up a trust fund for employees and contribute either cash to buy company stock, contribute shares directly to the plan, or have the plan borrow money to buy shares. If the plan borrows money, the company makes contributions to the plan to enable it to repay the loan. Employees pay no tax on the contributions until they receive the stock when they leave or retire. They can then either sell the stock on the market or back to the company.
Because the shares of stock in the ESOP Trust are allocated to employee accounts, the employees become “owners” of the company through the ESOP Trust. Since the value of the stock is tied to company performance, and the employees own the stock, they have incentive to ensure the company is profitable. Back to Top
Prevailing Wage Plans
Federal and state prevailing wage laws require certain employers that work on federal or state contracts to pay their employees a “prevailing wage” amount, which is essentially a combination of a base rate (often expressed as an hourly wage rate) and fringe benefits. Rather than paying the fringe benefit amounts as wages, employers can reclassify them as retirement plan contributions. This reclassification reduces the company payroll, which in turn reduces the FICA, FUTA, and SUTA costs to the company. Reducing the direct labor costs also reduces the employers workers’ compensation premiums. Additionally, if the employer is currently making a profit sharing contribution to their 401(k) plan, the prevailing wage contributions may be used to offset the calculated profit sharing contribution to the related employee thereby further reducing plan costs. Back to Top
For more information, view our resources or contact us to discuss how we can help you meet your business and retirement plan goals.