There’s no denying that when a company offers its employees meaningful benefits, the company is more successful. In fact, according to the Society for Human Resource Management, companies that use benefits as a strategic tool for recruiting and retaining talent enjoy better overall company performance and above-average effectiveness in recruitment and retention compared to organizations that don’t.
As the founder and CEO of Guideline, a lot of small business owners ask me about the first steps involved in offering their employees a retirement plan.
But once a business owner determines the type of plan they want to offer and work through the checklist, one of the final things they have to decide is if they’ll offer their employees a match (i.e. an employer contribution to a 401k plan). Determining whether or not you’ll offer a match is a big decision and there are many factors to consider when it comes to how the match is actually offered. My hope is for this post to demystify the process and help business owners understand how it works.
While an employer contribution isn’t required by law, it’s a great way to show you’re invested in employees’ long-term happiness and financial security. Whether you’re rolling out a retirement plan for the first time or brainstorming ways to upgrade your benefits package, here are the big factors to consider before introducing a 401k match, and what you need to know if you decide to offer one.
To Match or Not to Match?
Many small businesses think they can’t compete with larger companies, whose deep pockets seemingly afford everything—including a generous profit sharing or 401k match program. But in the retirement savings world, this isn’t always the case. More than half of the small businesses that offer their employees a Guideline 401k offer a match. Here are some reasons why a match program might be a good idea for your small business:
Employer contributions to employees’ 401k accounts are not subject to federal, state, and payroll taxes. Further, employer matching and profit sharing contributions are 100 percent tax deductible (up to 25 percent of eligible compensation).
Recruitment and Retention
It’s no secret that the best talent expects the best compensation packages. Studies have shown that people are twice as likely to be satisfied with their jobs when they’re happy with the benefits. What’s more is that many seasoned professionals expect not only a great 401k, but a plan that includes an employer 401k match.
Happy employees perform better and generate higher profits. Think about it – any person is more productive when he or she isn’t faced with an uncertain financial future. Nine out of ten households believe a 401k makes it easier to save and think long-term, and employer contributions offload some of the pressure to set aside disposable income.
If you’re making the effort and investment to offer a great benefit like a 401k, ideally your employees will use those benefits. According to research, participation rates among workers who are offered a 401k varies depending on a variety of factors. If you’re seeing low participation rates among your employees, offering a match is a great way to encourage enrollment.
Know Your Options: Types of Employer Contributions
Businesses have a few options when it comes to offering a match. Here are the major types:
For Peace of Mind: Safe Harbor Contributions
A Safe Harbor 401k is designed to ensure all workers receive fair opportunity to benefit from the plan. A Safe Harbor match requires making contributions to an employee’s 401k as a percentage of their salary. It’s a costly upfront option, but it alleviates a lot of the pressures involved in compliance testing each year. Employer contribution types include:
- Basic Match: Contribute 100% of employee 401k deferrals up to the first 3% of salary, then 50% of deferrals of the next 2% of each employee’s salary.
- Enhanced Match: Contribute 100% of employee 401k deferrals up to 4% to 6% of their salary.
- Non-Elective Contribution: Contribute at least 3% of each employee’s salary, regardless of their 401k deferral.
For Flexibility: Discretionary Matching Contributions
With discretionary matching contributions, you decide what percentage of employee 401k deferrals to match and what percentage of pay to match up to, with the flexibility of adjusting the matching rate as your business needs change. For example, some plans choose to match 50% of deferrals up to 6% of compensation. Keep in mind that a matching level will be easy to increase over time, but difficult to reduce without negatively affecting employee morale.
For (More) Flexibility: Nonelective Contributions
Each pay period, you have the option of providing a contribution to your employees’ 401k accounts based on salary, regardless of their contribution amount. A common type of nonelective contribution is profit sharing, which can either be a percentage of an employee’s salary or a lump sum, typically after year-end. This option is ideal when profits aren’t consistent, but you want to share success with employees when the company does well. The IRS allows for the following types of profit sharing formulas:
- Dollar Amount: For example, you allocate $1,000 to each eligible employee.
- Pro Rata (Comp to Comp): You allocate a fixed contribution amount among employees based on their relative salaries.
It’s important to note that some companies do not provide a match at all. It’s not required by law. You can always start a 401k plan without matching, and decide to add one down the road when it makes sense for your business.