In the midst of the Great Resignation, many employers are looking at benefit offerings that may be attractive to current and future employees. As financial well-being is a high priority for those looking for jobs, a retirement savings plan could put employers in a place of advantage in hiring and retaining good employees. Employer-sponsored retirement savings plans also may provide a significant tax benefit to the employer. Given these positive reasons, employers who have not yet implemented an employer-sponsored retirement savings plan may want to consider the different plans to see which one would fit their business, and think through the details and expense of setting up and administering a plan.
Types of Employer-Sponsored Retirement Savings Plans
Retirement savings plans are highly regulated by the federal government and are not a “one-size-fits-all”. However, the basic premise is that employers are helping eligible employees build savings for their retirement. There are two primary retirement savings plan categories that are covered by the Employee Retirement Income Security Act (ERISA) – the defined contribution plan and the defined benefit plan. Most of these are considered qualified plans because they comply with the Internal Revenue Service (IRS) requirements, invested income accumulates on a tax-deferred basis, they offer tax benefits to employers, and provide asset protection from creditors. However, some of them are nonqualified plans which are not subject to ERISA’s funding, reporting, disclosure, or fiduciary laws and the benefits provided by these plans are not protected.
The defined contribution plan is typically based on the premise that eligible employees contribute a defined dollar amount each payroll period up to the maximum allowed, with some exceptions. Employers may or may not contribute to these plans. If they do, it’s often at a pre-set rate. Employees are not guaranteed a certain amount of money when they retire and will only get the amount of their contributions reflecting any investment gains or losses. There are multiple types of defined contribution plans that employers may select. The most common plans include:
- 401(k) Plans – The 401(k) plan is perhaps the most well-known retirement savings plan. It benefits employers through flexibility, low pricing, and potential tax incentives. Eligible employees may elect to defer part of their pre-tax wages through a payroll deduction. Based on the details in the plan document, employers may contribute an amount to match employee contributions.
- 457 Plans – The 457 deferred compensation plan is similar to the 401(k) plan, but is only for non-for-profit organizations and public agencies. However, the 457 plan is usually a non-qualified plan and does not have limits and reporting requirements as outlined by ERISA.
- 403(b) Plans – The 403(b) plan is a qualified tax-sheltered annuity plan (TSA) for employees of public schools and non-for-profit organizations. It is similar to the 401(k) plan, letting eligible employees defer a portion of their pre-tax wages through payroll deduction to their individual accounts.
- Savings Incentive Match Plan for Employees (SIMPLE) IRA Plans – A SIMPLE IRA plan is for businesses with less than 100 employees. They provide a tax benefit for employers and have no federal filing requirements, but they may not be combined with other retirement savings plans. Eligible employees may defer some of their pre-tax wages through payroll deduction. Employers must make either a matching contribution of up to three-percent of each employee’s pay, or a non-elective contribution of two-percent of each eligible employee’s pay.
- Simplified Employee Pension (SEP) Plans – A SEP plan is geared toward small business owners or the self-employed. It is uncomplicated and very flexible both in timing and amounts to contribute. There are no filing requirements, and it does not have the start-up and operating costs of other plans. Only employers may contribute to SEP plans and Individual Retirement Accounts (IRAs) are set up to receive employer contributions.
- Profit-Sharing Plans (PSPs) –A PSP may provide a qualified retirement savings plan opportunity for employers to reward eligible employees based on how the business has performed. PSPs are similar to SEP Plans in that only employers may make contributions into the employee accounts.PSPs offer employers a great deal of flexibility and employers may offerPSPs in conjunction with other retirement accounts, but the plan may not discriminate in favor of highly compensated employees.
- Employee Stock Ownership Plans (ESOPs) – An ESOP, such as a stock bonus plan or money purchase plan, is a qualified defined contribution plan. PSPs differ from other plans as these are a way to reward employees with investments in company stock.
Defined benefit plans provide for a guaranteed monthly payment after retirement, but they are less popular now compared to the past, due to the less expensive defined contribution plans. There are two primary defined benefit plans, listed below, both of which are protected by the Pension Benefit Guaranty Corporation (PBGC).
- Pension Plan – A pension plan has employer-only contributions that promises a fixed and pre-established amount in retirement for eligible employees using a formula that considers factors such as length of employment and a past record of wages for a certain number of years.
- Cash Balance Plan – The cash balance plan is a hybrid between the defined benefit and defined contribution plans. It defines the amount of money an eligible employee will receive at retirement based on the pre-taxed account balance. Typically, a “pay credit” and an “interest credit” are placed in an employee’s account annually. Any increase in the value of the investments or risk of decrease are assumed by the employer and don’t influence the employees’ benefit amounts.
One additional plan category to note is the Non-Qualified Deferred Compensation Plan (NQDC), such as Rabbi Trusts, where contributions are put into an irrevocable trust for executive employees.While NQDCs have different structures, NQDCs may be set up to provide investment options, matching contributions, and vesting schedules as either a defined contribution or defined benefit plan. There are also lesser-known retirement savings plans employers may want to consider.
Before employers decide to offer a retirement savings plan to employees, they need to research the details of the plan and the administration of the plan document. Although it may add cost, smaller businesses may opt to have a third-party be the plan manager, thus assuming a fiduciary role. A fiduciary is a person or organization that acts on behalf of a person or persons and is legally bound to act solely in their best interests. (https://www.investopedia.com/terms/f/fiduciary.asp). Therefore, this person or organization has the skill, judgment, and attentiveness to the employees and may not create conflicts of interest that would not be in the employees’ best interest. Employers should note that new regulations from the Department of Labor (DOL) on Class Prohibited Transaction Exemption 2020-02, “Improving Investment Advice for Workers & Retirees,” state that employers still have fiduciary responsibilities, such as determining to outsource the fiduciary and plan management responsibilities, even if they utilize a third-party for plan administration, record keeping, and investment advice to employees.
For additional information on this topic, please contact us at www.newfocushr.com.
Written by: Kathi Walker, SHRM-SCP, PHR
Sr. HR Consultant
- The U.S. Department of Labor (DOL) – https://www.dol.gov/general/topic/retirement/typesofplans
- The Internal Revenue Service (IRS) – https://www.irs.gov/retirement-plans