How to Start a 401K for My Small Business in 7 Steps

Employers do not have to offer retirement plans to their employees. However, retirement plans are an added benefit for many companies. Most employees look forward to what types of benefits their employers offer. In return, employees are more likely to stay with a company longer and increase their productivity for businesses that have a great benefits package.

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The reason why many companies choose to offer their employees a 401K plan is that not only does it benefit them but also the business. A 401K plan is popular with many companies as employees contribute to their plans with pre-tax dollars. Because of this, an employee's tax liability is decreased and they are able to save for retirement. Therefore, many companies, especially small businesses, should determine what reasons they have for wanting to offer a 401K plan. For many owners, once they know why, they can begin to determine how to start a 401K for my small business.

What is a 401K plan?

A 401K plan is an employer-sponsored retirement plan to which employees can directly route a portion of their paychecks. This setup allows employees to automate their retirement savings, thus making 401K plans a highly demanded benefit. 401Ks are also popular because employers often match their employees’ paycheck contributions up to a predetermined limit.

401K plans benefit employers too, as they may provide tax breaks and competitive advantages for your company. These 401K plan employer benefits will be explained in more depth later.

What are some reasons business owners decide to set up a 401K plan?

  1. To compete with their competitors - Many companies offer a retirement plan for their employees, specifically a 401K plan. If you do not offer one but other companies in your market do, then your employees may leave you for your competition. Therefore, by offering a 401K plan you look more attractive to potential employees and your current employees will want to stay.
  2. To make their employees feel valued - Employees will work harder if they feel valued by their employers. Their productivity may increase as any worry about their life after retirement can decrease. By offering a 401K plan, your employees will know that you care about their future.
  3. To take advantage of tax benefits - In a small business that has less than 100 employees, they can benefit from the $500 tax credit that is given to balance out administrative fees. If a business increases its annual contribution over the limit of $56,000, this could also increase the company's retirement tax benefits.

What are the different types of 401K plans that businesses can offer?

  • Traditional - Employees make contributions from their income before taxes. You do not have to meet an employee requirement to have this type of plan. Businesses can determine if they want to contribute for everyone enrolled in the plan, match their contributions, or do both.
  • Simple - There are a number of requirements a business must meet to have this type of 401K plan. First, this type of plan is for small businesses as they have to employ under 100 employees. An employer has to make contributions for everyone enrolled in the plan.
  • Roth - This is similar to a traditional plan, however contributions are made after taxes are taken out of an employee's gross pay. You do not need to have a certain number of employees in your company. You can choose to contribute to your employee's plans if you would like. If you offer a Roth plan you also have to give your employees the choice of enrolling in a traditional plan.
  • SEP (Self Employed Plan) - This type of plan is for a business that doesn't have any employees. This is why this plan is also known as a Solo plan as it is for those individuals that are self-employed.

What are the contribution limits for each type of 401K?

As of 2021 , here are the contribution limits for each plan as stated on

  • Traditional and Roth - $19, 5 00 + $6, 5 00 (for those over age 50 in catch up contributions)
  • Simple - $13, 5 00 + $3,000 (in catch up contributions)
  • SEP - can't exceed the lesser of 25% of compensation or $ 58 ,000

The benefits of 401Ks for small businesses

Among the reasons that small businesses like yours should set up a 401K plan include the following:

  • Retirement savings . This is, of course, the obvious reason to set up 401K accounts for your company, but you shouldn’t neglect it. Although it can be tempting to view 401Ks as solely for your employees, you too can start a personal 401K from within your business offerings.
  • Tax breaks . Small business owners like yourself always benefit from paying fewer tax dollars, and 401Ks come in handy in that realm. All employer 401K contributions are tax-deductible, and on a personal level, all earnings on the money you put into your own 401K are tax-deferred.
  • Financial growth . Another personal benefit of 401Ks: In the long-term, you’ll likely earn money on what you invest. This growth makes 401Ks a better retirement option than just stashing cash away somewhere safe in your house.
  • Competitive advantage . As mentioned earlier, an employer who offers 401K plans may have an easier time recruiting and retaining employees. That’s because not all companies offer retirement plans in their employee benefits packages. With this offering, you give potential employees more reason to choose you over your competitors and lessen the chances that an employee will leave you for a competitor.

What steps are necessary to start a 401K for a small business?

1. Determine what your company's purpose is for setting up a 401K plan

Your reasoning for why you are setting up your 401K plan will dictate how you want your 401K plan set up. Realizing your goal for having a 401K plan will give you a clear focus and provide you with direction so that you won't get off track, which would be a waste of time and resources.

Now that you know what your purpose is and have your goal set, you can determine which type of 401K plan you would like to offer.

2. Build your plan and consider details such as:

  • What types of contributions are necessary?
  • How will eligibility be determined?
  • How will the money be distributed when an employee is terminated?
  • Will your company allow for loans on an employee's 401K plan?

3. Ask several questions before choosing a 401K provider

Before choosing the company with which you’ll set up your 401K, find several potential providers and ask them the following questions:

  • How will you invest the money in our accounts? A good 401K account includes a wide breadth of assets. This means that you’ll want any money you put into your 401K to go toward, stocks, bonds, mutual funds, and index funds. A 401K plan with few investment options may limit how quickly your investments will grow and improperly mitigate the risks inherent to investing.
  • What fees do you charge? 401Ks often come with fees for administration, record keeping, investing, and more – you might even encounter some pesky hidden fees. To make sure that you don’t lose too much on your deposits, ask all potential 401K providers upfront about their fees.
  • How does plan administration work? Since you’re overseeing retirement accounts for all your employees, you’re in charge of plan administration. With certain plans, administration is almost entirely hands-off, but with others, you’ll have certain tasks to attend to on a regular basis. Ask all potential providers what you should expect.

4 . Find the right partners/record keepers

Recordkeeper - A recordkeeper does exactly that. They will keep track of all information pertaining to your 401K plan such as who is enrolled and any money associated with it. The top recordkeepers of 2019 according to The Balance are:

  • Charles Schwab
  • Employee Fiduciary
  • Paychex
  • ADP
  • Vanguard
  • T.Rowe Price
  • Fidelity Investments
  • American Funds

Payroll system - Your payroll system should work together with your recordkeeper to make sure an employees' salary is being correctly distributed to their 401K plan.

Third-Party Administrators (TPA) - A TPA will handle the administrative tasks related to your 401K plan such as any annual forms, documents and more. Depending on the recordkeeper you might not need a TPA as they sometimes provide these services.

401K Advisors - According to, an advisor will help to make setting up a 401K plan for your business easier. They will be able to answer your questions and your employees' questions related to the plan. An advisor can also take on the responsibilities of a TPA. Having an advisor is also good because they can assume the legal responsibilities for your investments. They also help to build and monitor your investments such as mutual funds.

5. Name a trustee for your 401K plan

After you find partners for your 401K plan, you’re not quite done establishing your plan. You’ll also need to determine someone within your company who will oversee all plan assets and keep you updated on their growth or contraction. This person is your 401K plan’s trustee.

6. Double-check that your payroll is indeed deducting employee contributions

It’s one thing to find a payroll system capable of deducting your employees’ 401K contributions from their paychecks. It’s another to ensure that deductions will indeed be taken. Reach out to your payroll software provider to confirm that you’re properly set up your deductions. Take this time to automate your employer match contributions if you’re enabling those as well.

7. Formally introduce your finalized 401K plan

With all the above steps complete, you can consider your 401K plan finalized and concrete. However, you still have one last step to take: making sure your employees know about your plan.

To effectively communicate your plan’s details to your team, send an email that includes the following information:

  • Which employees can contribute
  • When enrollment begins and how employees can enroll
  • How much, if at all, you’ll employer-match
  • 401K basics such as contribution limits, personal tax benefits, withdrawals, fees, and vesting (the process of employer contributions formally becoming the employee’s money)

Will your company have to do any nondiscrimination testing?

You will need to conduct this type of testing if you elect to use a traditional 401K or a Roth 401K plan. A nondiscrimination test is conducted to make sure that any contributions aren't only benefiting the owners or highly compensated employees. The tests conducted are called Actual Deferral Percentage (ADP) and Actual Contribution Percentage (ACP). It is used to compare the salary deferrals of highly compensated employees and non-compensated employees.

These tests must be completed annually but some businesses like to do them throughout the year. If your business happens to fail the test, there are several ways of correcting any mistakes so that your company will pass. One of the most popular methods is to make corrective distributions. This is when a company refunds its contributions from HCEs until they pass.

Making the decision to offer a retirement plan to your employees is a big decision. The steps needed to build a 401K plan for small business owners can take some time. However, it is very beneficial. As a result of setting up a 401K plan for your employees, they will feel appreciated which increases productivity. There are also many tax benefits, especially for small businesses. Once you determine your purpose for creating a 401K plan you can follow the steps needed to build your plan. Ensuring that you have the right partners while building your plan will save a lot of time and money.