SECURE Act impact on small business retirement plans
For small business-owning clients, ensuring their employees have access to a retirement plan - without incurring huge costs - is a particular challenge. Fortunately, the SECURE Act, passed in December 2019, created several opportunities to that can help employers establish retirement plans, as well as to expand on their current plans.
As with any regulated changes, it presents some obstacles to overcome and adjustments to be made. But when advisors familiarize themselves with the new regulations and recognize who can benefit, they can set up clients for success.
Tax credit increase for establishing a new retirement plan
Prior to the SECURE Act, the startup tax credit for small businesses adopting a new retirement plan was 50% of the eligible startup costs, up to a maximum of $500.
Under the new regulations, the maximum amount has increased to $5,000 and is effective for tax years beginning Jan. 1, 2020. The maximum tax credit a small business is eligible to claim, however, is limited to the greater of $500 or the lesser of (a) $250 multiplied by the number of non highly compensated eligible (NHCE) employees eligible to participate in the plan or (b) $5,000.
The credit can be carried forward for up to three tax years and can be claimed for any employer-sponsored plan such as a 401(k), 403(b), SIMPLE IRA or SEP IRA.
To be considered an eligible small business, the company must meet the following requirements:
- Have 100 or fewer employees who made at least $5,000 in compensation in the previous year.
- Have at least one NHCE employee.
- Not have employees who, in the past three tax years, were substantially the same employees who received contributions or retirement benefits from a plan implemented by the same employer, predecessor or member of a controlled group.
Qualified startup costs on a plan can vary and are loosely defined as any incurred costs associated with establishing or administering a plan. Costs that come with educating plan participants can also be included.
New credit for adopting auto-enrollment on a retirement plan
A new tax credit of $500 is available for plan sponsors who added auto-enrollment to their existing or new retirement plans on Jan. 1 or later. (This is a separate tax credit from the startup tax credit mentioned above.)
For example, if a small business were to start a new plan Jan. 1, 2021, and was able to claim the maximum $5,000 for the plan, it could also claim a $500 credit if the plan automatically enrolls participants.
To illustrate the value of the SECURE Act to your client in this respect, you could explain that a small business owner would have a potential tax credit of $5,500 in the first year of implementing a retirement plan for employees, compared with the previous maximum of $500.
This credit can be applied to any employer-sponsored plan with salary deferrals, such as SIMPLE IRA, 401(k) and 403(b) plans.
Employers are also permitted to claim the credit for a total of three tax years, assuming they maintain the provision in the plan for those three years.
Auto-enrollment improves retirement plan participation because employees are more likely to remain in a plan in which they are automatically enrolled rather than one that requires them to sign up on their own. In this regard, business owners can help themselves while helping their employees.
Deadline extension for qualified retirement plans
Previously, Dec. 31 was the deadline to establish a qualified retirement plan for that tax year.
The SECURE Act changes the deadline to the employer's tax filing deadline, including extensions (if an extension is filed for).
One important note: Although employers have more time to establish a qualified retirement plan, contribution deadlines have not changed.
For many small businesses, financials are often tallied after Dec. 31, therefore the shift provides additional time for employers to determine where they stand, then establish and fund specific retirement plans in order to enhance tax deductions and save more for retirement.
Simplified safe harbor rule notice requirements
Among the many responsibilities involved in the administration of qualified retirement plans, one of the most important is providing participants with proper disclosures.
Previous regulations required all safe harbor plans to include an annual notice, before the start of the year, alerting participants to their rights.
As of Jan. 1, plans no longer need to provide this safe harbor notification if they are making nonelective contributions (of at least 3% of compensation) to eligible participants.
Nonelective employer contributions are made to eligible participants regardless of their participation in the plan. Plans with elective employer contributions are still required to provide the participant notice.
In a related change, plan sponsors also have flexibility regarding when they can adopt certain safe harbor provisions.
They can now do so any time up until 30 days before the plan's year-end. Previously, safe harbor provisions had to be adopted before the beginning of the plan year.
Plans intending to make elective safe harbor contributions must still adopt the provisions before the beginning of the plan year.