The Setting Every Community Up for Retirement Enhancement Act of 2019 (SECURE Act) made significant changes to the rules governing retirement plans to encourage more employers to sponsor workplace plans, as well as to encourage individuals to save more for retirement. Many of these changes are effective for plan or tax years beginning January 1, 2020. In the coming months, Benefit Trust will provide details on the changes that will affect 401(k) plans, employers, employees, and retirement plan service providers.
Studies have shown that workers are less likely to save for retirement if they don’t have an opportunity to save through a retirement plan at work (e.g., make salary deferrals into a 401(k) plan). Congress and retirement plan industry lobbyists have long sought to address the retirement savings crisis by increasing the number of workers covered by a retirement plan at work. The employers least likely to sponsor a retirement plan are small businesses. These employers may find that cost and/or administrative responsibilities are prohibitive to adopting a retirement plan. This is a problem for American workers trying to save for retirement because small businesses employ almost half (47.3%) of private sector employees in the U.S.1 In fact, 99.9% of all U.S. businesses are small businesses (defined as fewer than 500 employees).1 The SECURE Act provides incentives designed to address the concerns of small businesses and encourage them to adopt workplace retirement plans.
Incentive #1: Increased Plan Start-up Tax Credit
Before the SECURE Act, small employers could take a tax credit for qualified start-up costs for establishing a SEP plan, SIMPLE IRA plan or qualified retirement plan. A tax credit could be claimed for up to 50% of the plan start-up costs, up to a maximum tax credit of $500 per year for three years.
The SECURE ACT significantly increased the amount of tax credit available, beginning with the 2020 tax year. A small employer establishing a retirement plan may take a tax credit between $500 – $5,000 per year for three years. The credit is now calculated as 50% of plan start-up costs up to the lesser of
- $5,000 or
- $250 multiplied by the number of nonhighly compensated employees eligible to participate in the plan.
Eligibility to claim the tax credit is the same as it was before the SECURE Act:
- The employer must have 100 or fewer employees earning at least $5,000 per year.
- The plan must include at least one rank-and-file employee.
- The employer cannot have maintained a qualified retirement plan during the three years preceding the first credit year.
Employers can use this tax credit to offset much more of their initial plan start-up expenses and the costs to educate their workers about the retirement plan.
Incentive #2: New Tax Credit for Automatic Enrollment
Before the SECURE Act there was no tax credit available to employers who added an automatic enrollment feature to their retirement plan.
The SECURE Act creates a new tax credit for small employers that add an automatic enrollment feature to a new or existing 401(k) plan or SIMPLE IRA plan, starting with the 2020 tax year. These employers may claim a $500 per year tax credit for up to the first three years the automatic enrollment provision is in effect. To be eligible, an employer must have 100 or fewer employees earning at least $5,000 per year, including at least one rank-and-file employee.
Employers can claim this credit in addition to the plan start-up tax credit to help offset plan costs for the first three years an automatic enrollment feature is in place.
Incentive #3: More Time to Establish a Retirement Plan
Before the SECURE Act, the deadline to adopt a retirement plan for the year was the end of the business’s tax year (typically December 31). Many small employers do not know by December 31 if they will have the net profits to pay for plan administration or contributions, and they put off establishing a retirement plan.
The SECURE Act changed the deadline for establishing a qualified retirement plan to give employers more time to make these determinations and establish a plan for the year. Beginning with the 2020 tax year, the deadline to establish a workplace retirement plan is now the business’s tax-filing deadline, plus extensions. This is the same deadline by which employers must deposit any employer contributions made for the tax year. (401(k) plan elective deferrals may only be made prospectively, so employers still need to establish the 401(k) feature of a plan before the start of a plan year for any employees to defer compensation into the plan for the full year.)
EXAMPLE: Pizza Pete wants to establish a retirement plan for his 20 employees at the pizzeria. Pete has never sponsored a retirement plan because he’s never been sure of his profit margin before the end of the year to ensure he could afford to operate and fund a retirement plan. After the SECURE Act, however, he may wait until his 2020 profits are determined to decide whether to establish a plan for the 2020 tax year. This means, he could potentially have until October 15, 2021, to establish a retirement plan for the 2020 tax year. If he makes an employer contribution, he could take a tax deduction for the 2020 tax year. He would also qualify for the plan start-up tax credit for his 2020 tax year. Pete’s employees could not begin making salary deferrals until after the plan is established in 2021.
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These additional incentives may provide the funding boost some small employers need to adopt a retirement plan for their employees. Employers who are considering adopting a retirement plan should consult with a financial advisor to help them explore plan types, features and costs.
1 U.S. Small Business Administration Office of Advocacy, FAQs, September 2019, https://cdn.advocacy.sba.gov/wp-content/uploads/2019/09/24153946/Frequently-Asked-Questions-Small-Business-2019-1.pdf