Retirement Plan Options

Experts estimate that Americans will need 60 to 80 percent of their pre-retirement income – lower income earners may need up to 90 percent – to maintain their current standard of living when they stop working. So, now is the time to look into retirement plan programs. As an employer, you have an important role to help your employees save for retirement.

What are the tax advantages?

A retirement plan has significant tax advantages:

● Contributions are deductible by the employer when contributed;

● Employer and employee contributions are not taxed until distributed to the employee; and

● Money in the retirement program grows tax-free.

Are there any other incentives?

In addition to helping your employees, recent tax law changes have made it easier than ever to establish a retirement plan. They include:

● Higher contribution limits so your employees, and the owners, can set aside larger amounts for retirement;

● "Catch-up" rules that allow employees aged 50 and over to set aside an additional $500 (or $1,000, depending on the type of plan) for 2002;

●Tax credit for small employers that would enable them to claim a tax credit for part of the ordinary and necessary costs of starting a SEP, SIMPLE, or certain other types of plans. The credit equals 50 percent of the cost to set up and administer the plan, up to a maximum of $500 per year for each of the first 3 years of the plan; and

● Tax credit for certain low- and moderate income individuals (including self-employed) who make contributions to their plans ("Saver’s tax credit"). The amount of the credit is based on the contributions participants make and their credit rate. The maximum contribution eligible for the credit is $2,000. The credit rate can be as low as 10 percent or as high as 50 percent, depending on the participant’s adjusted gross income.

Types of Retirement Plans

Simplified Employee Pensions (SEPs)

A SEP allows employers to set up a type of IRA for themselves and each of their employees. Employers must contribute a uniform percentage of pay for each employee, although they do not have to make contributions every year. For the year 2002, employer contributions are limited to the lesser of 25 percent of pay or $40,000. (Note: the dollar amount is indexed for inflation and will increase.) Most employers, including those who are self-employed, can establish a SEP. SEPs have low start-up and operating costs and can be established using a two-page form. And you can decide how much to put into a SEP each year – offering you some flexibility when business conditions vary.

SIMPLE IRA Plans

This savings option is for employers with 100 or fewer employees and involves a type of IRA. A SIMPLE IRA plan allows employees to contribute a percentage of their salary each paycheck and requires employer contributions. Under SIMPLE IRA plans, employees can set aside up to $7,000 in 2002 (increasing by $1,000 increments each year thereafter until the limit reaches $10,000 in 2005) by payroll deduction. Employers must either match employee contributions dollar for dollar – up to 3 percent of an employee’s compensation – or make a fixed contribution of 2 percent of compensation for all eligible employees. SIMPLE IRA plans are easy to set up. You fill out a short form to establish a plan and ensure that SIMPLE IRAs (to hold contributions made under the SIMPLE IRA plan) are set up for each employee.  Additionally, administrative costs are low. Employers may either have employees set up their own SIMPLE IRAs at a financial institution of their choice or have all SIMPLE IRAs maintained at one financial institution chosen by the employer. Employees can decide how and where the money will be invested, and keep their SIMPLE IRAs when they change jobs.

401(k) Plans

401(k) plans have become a widely used retirement plan.  With a 401(k) plan, employees can choose to defer a portion of their salary.  These deferrals are deposited into a separate account for each employee. Generally, the deferrals (plus earnings) are not taxed  until distributed.

401(k) plans can vary significantly in their complexity. There are employer- paid administrative fees, and the plan is subject to discrimination testing which may limit the amount that the highly compensated employees can contribute.  A Safe Harbor 401(k) plan can be established to eliminate the discrimination testing.  If all of the requirements are met, this plan will provide the highest deferrals for the highly compensated employees.

Profit-Sharing Plans

Employer contributions to a profit-sharing plan are discretionary. Depending on the plan terms, there is often no set amount that an employer needs to contribute each year. If you do make contributions, you will need to have a set formula for determining how the contributions are allocated among plan participants. The funds go into a separate account for each employee. As with 401(k) plans, profit-sharing plans can vary greatly in their complexity.

Money Purchase Plans

Money purchase plans are defined contribution plans that require fixed employer contributions (contributions are not discretionary). With a money purchase plan, the plan document specifies the employer contribution that is required each year. For example, a money purchase plan may specify a contribution of 5 percent of each eligible employee’s pay. The employer needs to make a contribution of 5 percent of each eligible employee’s pay to a separate account within the plan for each employee each year.

Defined Benefit Plans