Barbara’s Blog

According to the annual Employee Benefit Research Institute (EBRI) Survey, “employer-sponsored retirement savings plans are an important savings vehicle for American workers.” In addition to helping employees save for retirement, employees increasingly turn to their companies to inform them about retirement issues.

You can help to meet employee needs by sharing certain information.

1.    Active participation status

If your company has a qualified retirement plan covering employees, you are required to report this on W-2 forms. More specifically, active participation status of employees is denoted in Box 13 of Form W-2.

Why is this information important for employees? It tells them whether they are subject to an IRS income limitation for making deductible IRA contributions. If they are active participants, they cannot deduct such contributions unless their modified adjusted gross income is below set limits.

Even if they are active participants, they can still save for retirement using a Roth IRA. Again, income limits apply here, but being covered by a retirement plan is not. Direct employees to IRS Publication 590 for details on IRA contributions.

2.    Opt out elections

If you have an automatic enrollment feature in your company’s 401(k) plan, you must give employees the right to opt out or to reduce the default salary reduction contribution. Usually this is done at least 30 days but no more than 90 days before the start of the plan year (most small businesses run their plans on a calendar year). Find more about the opt-out feature from the IRS; this includes the notice form you give to employees.

3.    Employer contributions

Depending on the type of qualified retirement plan used by your company, you may or may not be required to make any contributions on behalf of employees. Certainly, this is information that employees want to know.

If you make contributions and plan to change them in any way (e.g., reducing the percentage used to figure your contributions; changing the timing of contributions to an annual lump sum for employees still on the payroll at that time), you must notify employees in writing. You’ll find notice requirements buried in the IRS Checklist (it may be too late for changes for 2013, but check with your tax advisor).

4.    Loan options

Your qualified plan may permit participants to borrow money from their accounts. The tax law limits how much can be borrowed and requires repayment in level amounts over a period of no more than five years (with the exception of borrowing to buy a home). The plan sets the interest rate on the borrowing.

Tell employees, through a form letter or in the employee manual:

•  Who to contact (the plan administrator) if they want to take a loan.

•  What the loan means for plan participation. Usually, they are barred from contributing while the loan is outstanding.

•  Whether interest is deductible. This usually depends on whether the participant is an owner or other key employee.

5.    Special distributions

Usually, qualified retirement plans must bar distributions until employees retire or leave the job. However, distributions can be taken earlier (without disqualifying the plan) under certain circumstances:

•  Hardship distributions can be made if a participant has a serious financial need, such as paying funeral expenses for a spouse or dependent. The distribution is taxable to the participant (and subject to penalty unless a penalty exception applies).

•  In-service distributions to a participant age 62 or older who is still working for the company. Again, the distribution is taxable to the employee, but not subject to a penalty because he or she is over age 59½ (a penalty exception).

•  Distributions pursuant to QDROs (qualified domestic relations orders) for a participant who is getting a divorce or legal separation. The court can direct that benefits be paid to an “alternate payee,” such as the spouse. Such amount is not taxable to the participant but rather to the alternate payee.

Conclusion

If employees ask questions about your company’s retirement plan or their retirement planning that you can’t answer, consult with a tax or financial advisor.

If you have a qualified retirement plan for your business, determine whether your plan is meeting your objectives and complying with the law. If you don’t yet have a plan, consider adopting one now.

Is your current plan the best one for you?

There are several types of retirement plans that a small business can use; the one to choose depends on your personal situation.

Factors to consider in plan selection (or in changing from an existing plan to a new one) include:

1. Profitability of the business (how much can you afford to put into the plan each year).
2. Number of employees (which affects the cost of company contributions and whether to use a plan that places the contribution on owners entirely or primarily on your staff).
3. The number of years to your retirement (how anxious you are to sock away as much as you can for your own retirement).

Review your plan options in IRS Publication 560, Retirement Plans for Small Business. Talk things over with your tax/financial advisor or consult with a retirement plan expert for guidance in choosing a better plan and terminating your existing one.

Are your investment choices satisfactory?

The stock market remains volatile and interest rates are at historic lows, which may make your returns look anemic. In view of these factors, do your plan’s investment choices continue to meet your needs? Work with a financial advisor to realign your plan portfolio.

Is your plan in compliance with tax laws?

Tax laws on retirement plans have changed over the past several years, particularly since the Pension Protection Act of 2006. Are you up to date? Use a checklist for your particular type of plan (e.g., SEPs, 401(k)s) to see whether you’re in compliance.

If you discover problems (e.g., you’re not covering all of the employees you should), you may be able to correct the problems with little or no penalties or other IRS charges using the Employee Plans Compliance Resolution System (EPCRS). Talk to your tax advisor about this option if needed.

You can stay up-to-date on future changes and other retirement plan developments by subscribing to Retirement News for Employers. This free quarterly newsletter reports on plan law changes, new forms, and other plan-related items you’ll want to know about.

Retirement is a choice based on personal and economic factors. For many small business owners, running a business is a way of life as much as it is a way to earn a living. But the economic downturn has certainly impacted retirement plans for about 60% of small business owners.

According to a Wells Fargo / Gallup Small Business Index poll released on October 1, 47% say they don’t plan to retire until health reasons force them to; another 41% plan to cut back but stay involved. Only 10% plan to retire altogether.

Delayed retirement
Many owners have indicated that their target retirement age has risen: 69% now say 65 or older, versus 41% in 2005 and 52% in 2007. Only 11% plan to retire before age 60, down significantly from prior polls.

Less comfortable retirement
Before the recession, eight in 10 of small business owners thought they’d have enough money to live comfortably in retirement. Now, that number is fewer than one in three. Only one third view the value of the sale of their business as a major source of retirement income; 28% do not even view it as a source.

Money isn’t everything
While the survey clearly shows that financial concerns are impacting retirement decisions, it also indicates that small business owners love what they do. More than half (51%) would continue working full- or part-time in their current business if money was not an issue and 18% would start another business.

Where do you fall on this spectrum?

A report by the SBA’s Office of Advocacy found that fewer than 2% of small business owners had a Keogh (self-employed) plan and only 18% participated in 401(k) plans.  Only about 36% had IRAs, and just one-third of them made an annual contribution for the 2005 tax year (the most recent year in the report).

What does this say about small business owners?  The report does not indicate the reasons for not contributing, but here are some that I can think of:

1. Owners are unaware of the tax advantages to saving for retirement through qualified plans and IRAs;
2. Owners are cash-short and unable to fund these plans;
3. Owners are too tightfisted to contribute on behalf of employees, something they would have to do in most cases if they wanted to personally benefit from retirement plans;
4. Owners don’t want to bother with the paperwork, investment responsibilities, and other details of having a plan;
5. Owners expect to sell their businesses as a way to create retirement funds.

The report did find that busness owners were more likely to have a retirement account if they were older, non-minority, better educated, and with an established business or more than one business.  The report also learned that being a male busines owner reduced the probability of IRA ownership from 35.6% to 31.2% but increased the probability of having a Keogh or participating in a 401(k) plan from 1.7% to 3.7% and from 17.4% to 20.3%, respectively.

Even though the deadline for setting up a 401(k), profit-sharing, or most other types of qualified retirement plans for 2009 ended on December 31, 2009, if you have not yet filed your income tax return for 2009 and determine that your business was profitable in 2009, you can still create and fund a Simplified Employee Pension (SEP) until the extended due date of your return.  For example, if you are a sole proprietor with a filing extension for your 2009 return, you have until October 15, 2010, to put tax-deductible funds into a SEP for 2009.  Your contribution limit for 2009 is up to $49,000, but your actual contribution depends on your earnings and funds on hand for making the contribution.  If you have employees, you’ll have to contribute to accounts for them.  For details about SEPs and other retirement plans, see IRS Publication 560, Retirement Plans for Small Business.

If you want to save for retirement on a tax-advantaged basis, you can use a qualified retirement plan. Contributions you make on your behalf and for employees usually are tax deductible. Earnings grow tax-deferred and are not taxed until withdrawals are made.  There is still time to select a retirement plan for 2009, a move that makes sense if you’ll be profitable this year. Or you can get ready for 2010.

Here are some choices to consider:

Plan options for 2009

Plans can be set up with brokerage firms, mutual funds, banks, and insurance companies. As a general rule, you must sign the paperwork with one of these financial institutions to set up a qualified retirement plan for your business for 2009 by the end of the year (assuming you report on a calendar year). You then have, in most cases, until the extended due date of your return to fund your plan by adding contributions for the year.

Your choices for 2009 include a profit-sharing plan, a 401(k) plan, and a defined benefit (pension) plan. You can also set up and fund a Simplified Employee Pension (SEP) plan through the extended due date of the return for which the contributions relate. A sole proprietor, for example, could set up a SEP for 2009 as late as October 15, 2010, and add the contribution for 2009 by that date. 

It’s too late to set up a SIMPLE retirement plan for 2009. Notice requirements fixed the deadline for this plan for October 1, 2009.

Plan options for 2010

In addition to all of the current plan options—SIMPLEs, SEPs, profit-sharing plans, defined benefit plans—there is a new hybrid plan called a DB(k). It is a combination of a modest pension plan (which promises a fixed monthly payment at retirement funded entirely by employer contributions), plus a 401(k) component (which is funded by employee contributions and retirement funds are dependent on investment performance). The DB(k) is limited to “small businesses” (those regularly employing 500 or fewer workers).

Making the best choice

Your decision should be based on your objectives and what your business can afford to pay. Keep in mind that employees must be allowed to participate after meeting modest conditions; depending on the type of plan you select, their participation can cost your business a little or a lot. If you want to maximize contributions on your own behalf, you’ll have to be generous to employees; plans have nondiscrimination rules preventing favoritism toward owners. Some types of plans have annual reporting requirements (an administrative cost to you); others do not.

Best strategy: Meet with a knowledgeable employee benefits expert to discuss your options and make a timely selection in light of your profitability and personal objectives. The IRS has a new website called the IRS Retirement Plans Navigator to help small business owners make their plan selection.