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401k/Profit Sharing/SEP

For every business owner, a periodic review of your companies qualified plan is extremely important.  These reviews are designed to make sure your plan is compliant with ERISA rules, that the fees are reasonable and the investment choices are meeting qualified plan guidelines.  In addition, and probably of most importance, is making sure you and your company are not unnecessarily exposed to certain liabilities.

Let’s take a quick look at some options for employer sponsored retirement plans:

401k Plans

Since its inception in 1978, the 401(k) plan has grown to be the most popular type of employer sponsored retirement plan in America. Millions of workers depend on the money that they have saved in this plan to provide for their retirement years, and many employers use their 401(k) plans as a means of distributing company stock to employees.

401k Plan Highlights

  1. The deferral limit for the participant is $18,000 for 2016 ($24,000 for ages 50 and older).
  2. 401k plans allow for company matching; the total employer/employee contribution limit is $53,000 for 2016 ($59,000 for ages 50 and older).
  3. Plans can offer participants the ability to borrow against their account
  4. Participants can rollover your 401k to another 401k or IRA
  5. Distributions are taxed as ordinary income (penalty for withdrawals taken before 59 ½)
  6. Plans can offer automatic enrollment
  7. Multiple investment options
  8. 401(k) plans charge fees for administrative services, investment management services, and sometime outside consulting services. They can be charged to the employer, the plan participants or to the plan itself; and the fees can be allocated on a per participant basis, per plan, or as a percentage of the plan's assets.

Profit Sharing

Profit sharing refers to various incentive plans introduced by businesses that provide direct or indirect payments to employees that depend on company's profitability in addition to employees' regular salary and bonuses. In publicly traded companies these plans typically amount to allocation of shares to employees.

The profit sharing plans are based on predetermined economic sharing rules that define the split of gains between the company as a principal and the employee as an agent. For example, suppose the profits are x, which might be a random variable. Before knowing the profits, the principal and agent might agree on a sharing rule s(x). Here, the agent will receive s(x) and the principal will receive the residual gain x-s(x).

These are often used in conjunction with 401(k) plans.

SEP IRA

SEP IRAs are adopted by business owners to provide retirement benefits for themselves and their employees. There are no significant administration costs for self-employed person with no employees. If the self-employed person does have employees, all employees must receive the same benefits under a SEP plan (which can be cost prohibitive).

SEP IRA Highlights

  1. Contributions are made on a pre-tax basis. The total contribution to a SEP-IRA account should not exceed the lesser of 25% of income (20% for self-employed before self-employed tax deduction is included); or $53,000 (2015)
  2. SEP-IRA contributions are treated as part of a profit-sharing plan. For employees, the employer may contribute up to 25% of the employee's wages to the employee's SEP-IRA account. For example, if an employee earns $40,000 in wages, the employer could contribute up to $10,000 to the SEP-IRA account.
  3. Distributions are taxed as ordinary income (penalty for withdrawals taken before 59 ½)
  4. All employees must receive the same benefits under the plan
  5. The deadline for establishing the plan and making contributions is the filing deadline for the employer's tax return, including extensions.

Simple IRA

A Simple IRA is an employer sponsored plan, like better-known plans such as the 401(k) and 403(b) (Tax Sheltered Annuity plans), but offers simpler and less costly administration rules

Simple IRA Highlights

  1. The employee contribution limit is $12,500 for 2016 ($15,500 for ages 50 and older). Contributions are made on a pre-tax basis
  2. Employees are NOT required to make regular contributions
  3. Employer required matching: The plan requires a certain minimum contribution from the employer. The employer may either match the contributions of employees dollar for dollar up to 3% of the employee's compensation or the employer may contribute a flat 2% of compensation for each employee with at least $5,000 in compensation for the year, regardless of the amount the employee contributes.
  4. Distributions are taxed as ordinary income (penalty for withdrawals taken before 59 ½)
  5. Unlike a 401(k), a SIMPLE IRA cannot be rolled over to a Traditional IRA without a waiting period (two years from the date the employee first participated in the plan).
  6. SEP IRAs and Traditional IRAs (among other retirement plans) cannot be "rolled over" into a SIMPLE IRA.