Making the choice between state-sponsored retirement plans and traditional 401(k)s
The National Institute on Retirement Security’s most recent report found that the average working U.S. household has virtually no retirement savings, despite the recent economic recovery. As the U.S. retirement savings crisis continues to grow, legislators are taking steps to ensure all employees have access to formal retirement savings programs.
So far 10 states, including California, Illinois and Oregon, have enacted legislation implementing state-sponsored retirement plans of various types. State plans are generally facilitated by employers and funded by employee investments via payroll deductions into a Roth IRA. Failure to comply with these state-mandated programs could result in penalties for employers.
Your small business clients will likely be turning to you to help them understand these new laws and make sure they are meeting the state requirements. So, it’s in your best interest to be up to date on the current laws regarding employee retirement savings.
Knowing they’ll have to provide some type of retirement plan for their employees, employers must weigh the benefits of relying on state-sponsored plans or offering a more traditional plan of their choosing. You can help them navigate their options.
There are several key differences between these state-sponsored and employer-sponsored plans, including:
Investments: The investment firm for a state-sponsored plan is chosen by a state-selected board, while an employer-sponsored 401(k) utilizes a wide range of investment firms offering numerous investment options at various levels of risk chosen by employer or by an advisor. Employees may also direct their own investments in an employer-sponsored 401(k).
Deferral limits: State-sponsored retirement plans carry a $6,000 annual salary deferral limit compared to the $19,000 annual salary deferral limit of employer-sponsored 401(k)s and $13,000 for SIMPLE IRAs.
Tax benefits: Most state-sponsored retirement plans are set up as individual Roth IRAs, which use after-tax dollars and lack an employer contribution feature. In 401(k) plans, employers benefit from employee’s pre-tax deductions and can also make tax-deductible profit sharing or matching contributions. Plus, both employer-sponsored IRAs and 401(k)s come with tax credit benefits for plan start-up and administration costs. New plans are eligible for tax incentives of up to $1,500 ($500 per year for 3 years). Plus, 401(k) expenses and contributions may be deducted on business taxes.
Administration burden on employer: Employers who opt for state programs will be responsible for all the related administrative tasks such as updating of employee demographics, editing payroll lists, submitting contributions every pay period and many more. In addition, the business will be responsible for ensuring funds are moved to the appropriate accounts and potentially subject to audit. By comparison, a traditional retirement plan administrator will manage these tasks for employers, saving employers time and ensuring accuracy and compliance with regulations.
Keeping up with regulations is a constant task for today’s small business owners. Armed with a knowledge of state retirement laws, you can provide your clients with the information and resources they need to make the best decisions for their business and valued employees.