If you run your own small business, you may
well be in need of a good retirement plan. At one time, you
might have considered a 401(k), only to discard the idea when
you realized that some of the costs and burdens—such as
testing requirements to ensure fair contributions to all
employees—might prevent you and your key employees from
fully benefiting from the plan. But now, you’ve got a
"safe harbor" in which to place your 401(k), away
from the uncertainties of whether you will benefit.
The Safe Harbor 401(k), created by the
Small Business Job Protection Act of 1996, could help you
build resources for your own retirement—and attract and
retain employees. Like all 401(k) plans, the Safe Harbor
401(k) offers tax-deferred growth of earnings, the ability to
make pre-tax contributions (which can lower a plan participant’s
adjusted gross income), the opportunity for employer matching
contributions and a variety of investment choices.
Furthermore, a Safe Harbor 401(k) permits
discretionary profit-sharing contributions. And your
contributions are considered business expenses, so they are
tax-deductible. Plus, if your business had no plan, you may
qualify for a tax credit to offset administration fees for the
plan’s first three years.
Clearly, all these features are good for
you and whatever employees you might have. But what really
makes the Safe Harbor 401(k) a benefit to small businesses is
less "testing." You don’t have to deal with any
non-discrimination testing to identify whether "highly
compensated employees" (generally, business owners and
management employees) contributed too much, as long as you
adhere to the following contribution and matching guidelines:
You must contribute at least 3 percent of
compensation to all "non-highly compensated
employees." All non-highly compensated employees are
entitled to this money, even if they don’t elect to
contribute to the plan. You can choose whether or not to
provide this contribution to highly compensated employees, so
you, as the business owner, can receive this contribution.
You must provide each non-highly
compensated employee who participates in the Safe Harbor
401(k) with a dollar-for-dollar match on salary deferrals up
to 3 percent of compensation, and a 50-cents-on-the-dollar
match on deferrals between 3 and 5 percent of compensation.
Alternatively, you can simply choose to make a
dollar-for-dollar match on the first 4 percent of
compensation. Keep in mind that this match is up to 4 percent
of compensation—so if you have employees who contribute less
than 4 percent of their compensation, you only have to match
the amount contributed. Again, as the business owner, you also
can receive this contribution.
The percentage of matching contributions
for any highly compensated employee—including yourself, as
the business owner—cannot be higher than the percentage
provided to non-highly compensated employees.
However, a Safe Harbor 401(k) does offer a
distinct advantage to highly compensated employees, because
they are guaranteed the ability to defer from their pay the
maximum amount ($13,000 in 2004, or $16,000 if they’re over
50) regardless of how much the non-highly compensated
employees contribute. In a "regular" 401(k), this
figure might have been reduced by the amounts the non-highly
compensated employees chose to defer.
A Safe Harbor 401(k) is typically
inexpensive to set up and maintain—and, with the absence of
testing requirements, the benefits you can receive from the
plan can be maximized and are predictable. To determine if
this retirement plan is appropriate for your needs, contact
your investment representative, who can work with your tax or
business adviser. But don’t wait too long—the quicker you
get your retirement money into a "safe harbor," the
less time it can take for your ship to come in.
Jesse Abercrombie specializes in
helping electrical contractors with their financial
planning needs and is an advocate to the electrical and
construction industry. For any questions or comments,
please contact him at (972) 241-8059.
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