What plan sponsors need to consider when starting a 401(k) plan

More Ohio employers are becoming financially stable after the Great Recession. These same business owners are earning high compensation and looking for additional ways to defer taxes. This has led to an increase in companies desiring to start a 401(k) plan.

The 401(k) plan is not only good for retention and recruiting, it’s also a great way to lower taxable income. Plans today are a good blend of benefiting both rank-and-file and highly compensated employees.

“However, when designing the plan, a big pitfall is when an employer doesn’t understand the provisions and how to operate the plan going forward — that can get plan sponsors into a lot of trouble,” says Heather Taylor, QKA, QPA, Manager, Sales and Business Consulting, at Tegrit Group. “Sponsors must stay engaged after the plan is implemented. It’s not just quickly scanning the document and signing. You really need to understand it, because the biggest risk is not operating a plan the way it’s written.”

Smart Business spoke with Taylor about what to know when setting up a 401(k) plan.

What common mistakes do you see when plan sponsors set up 401(k) plans?

Plan sponsors should consult with a third-party administrator (TPA) or consultant to identify a plan design that meets the company’s needs. Too often, providers put plan sponsors in a design that may be easy to administer but does not necessarily meet their goals and objectives. Don’t let a provider put your plan into a ‘box’ to make their job easier. If someone isn’t taking the time to sit down and talk through what you want to accomplish in detail, it’s a sign they may not implement the right plan for you.

Remember to take advantage of annual tax credits. Companies with fewer than 100 employees starting their first qualified plan are eligible to receive up to a $500 tax credit each year for the next three years to offset start-up and installation costs. Employer contributions may be deductible as well.

During the start-up process, don’t rush. Why would you want to offer a bad 401(k)? Ask lots of questions and take time to understand the plan’s limits, testing, reporting and required disclosure notices.

Be sure to give a complete picture of your organization, including discussing other entities you own or plans to acquire or merge with other companies. The more information you provide, the better. You may not think it’s important, but let the experts decide if it’s relevant. For example, controlled group and affiliated service group testing is complex. Your TPA will need to determine if employees at the holding company or other organizations you own (if you are above certain ownership percentage thresholds) must be included in the plan.

What’s key to know about employer contributions?

If you’re setting up a safe harbor plan, employer contributions are mandatory. Take a survey to see which staff will make contributions to get an idea of what your obligation is going to be. In contrast, many traditional 401(k) plans have a discretionary match or discretionary profit sharing contribution, which isn’t required every year.

Safe harbor plans are more common today. They allow highly compensated employees to put away maximum contributions without plan testing. It doesn’t bypass all testing, but is a good option if you’re concerned about discrimination.

Once the plan is set up, what’s next?

You can rely on the experts to perform the above functions, but review the plan regularly. Be aware of and adhere to:

  • Not giving participants investment advice.
  • Timely deposits. For plans with less than 100 participants, the employee deferral deposit time frame is seven business days from the time the payroll is effectively segregated from corporate assets.
  • ERISA fidelity bond coverage. Persons handling plan funds or other plan property generally must be covered by a fidelity bond to protect the plan against loss resulting from fraud and dishonesty.
  • Compliance requirements to avoid penalties and fees.
  • Maintaining updated salary deferral and beneficiary designation information.

You’re also obligated to ensure employees who have satisfied eligibility requirements are given the opportunity to participate by the effective date of the elective deferral component. Failure to do so can be costly in terms of lost earnings and penalties.

Heather Taylor, QKA, QPA, is a manager of Sales and Business Consulting at Tegrit Group. Reach her at (330) 983-0519 or [email protected].

Insights Retirement Planning Services is brought to you by Tegrit Group