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Small Business Owners 401(k) Options During a Crisis – Episode 224

small business owners 401(k)

IRA Financial’s Adam Bergman discusses the options small business owners have with their 401(k) plans during the current financial crisis.

In his latest podcast, Mr. Bergman focuses on small business owners 401(k) plans and the affect the Covid-19 pandemic is having on them. He discusses the three most popular types of 401(k) plans. Lastly, he talks about the option you have, as an employer, in regards to funding the plan.

Types of 401(k) Plans

Solo 401(k) – The Solo 401(k) plan is designed specifically for self-employed individuals and owner-only businessmen and women. One can utilize this plan only when certain criteria are met. One, you must have self-employed income. This can be from “gig” work, contracting work or from your own business. Secondly, you cannot employ any other full-time employees, other than a spouse or partner. Obviously, you are in control of the plan, its investments and when and how much you contribute. During a financial crisis, you may choose to not fund the plan. Further, there’s no one to tell you what you can and can’t do with your money.

Traditional 401(k) – A traditional plan is one that is found at many businesses that have several full time employees. These types of 401(k) plans are subject to ERISA plan testing. Testing includes deferral and contribution testing and top heavy testing. Essentially, the plan must adhere all rules set forth by ERISA and that all employees are getting fair benefits under the plan. These plans are generally geared for larger companies because of the complexities and costs involved.

Safe Harbor 401(k) – The safe harbor plan is best for small business owners. They are not as expensive or as strict as traditional plans. Highly paid employees and/or owners can max out their contributions. However, the owners will contribute on behalf of all employees covered by the plan. Generally it’s a 3-5% contribution, which is based on each employee’s salary.

Options During Financial Crises

Obviously, families and businesses alike are suffering due to the current Coronavirus pandemic. Non-essential businesses are closed across the country. These are hard financial times for small business owners. If you are a business owner who utilizes the safe-harbor 401(k) plan, you must make 401(k) contributions for all of your employees. What do you do if the business is not making money? Or worse, not open for business! You do have options.

Most employers will fund the employee plan via their payroll system. So if an employee receives $2000 into his or her 401(k) plan every year, that amount is spread across the entire year, with a portion being added for each pay period, until the entire amount is contributed.

However, the business has until they file their tax return to make the full contribution. Therefore, option one is to delay contributions until the business is up and running. If taxes are filed in April, you still have a full year to make the safe harbor 401(k) contributions. Pausing contributions is probably your best bet if you are suffering financially from this crisis. You will need to give your employees 30 day notice if you choose this option.

Employees can choose to continue to contribute to the plan on their own. However, the minimum 3% employer contribution can be delayed up until the taxes are filed for the business.

What if You Want to Pause the Plan for the Foreseeable Future?

You may be thinking there’s no way you’ll have the fund to contribute to the plan before tax filing. You do have an option of pausing the plan altogether. However, you will still have to pass the testing. If the owners and highly-compensated employees have contributed a lot to the plan, you will likely be too “top-heavy.” This mean, the top contributors far outweigh the regular employees. Those who have contributed the most may have to withdraw their contributions.

This type of discrimination testing was paused after the 2008 financial crisis. The American Retirement Association is asking for similar rules due to the Covid-19 pandemic.

One last, albeit bad, option is to terminate the plan. You don’t have to go through any discrimination testing whatsoever. You will have to continue to fund the plan until the date of termination and there will be fees for terminating. This should be done as a last resort. 401(k) plan should be forever, meaning once you start one, you should keep it, for better or worse. You risk losing employees if you cancel the plan. Try pausing contributions until you see what happens in the coming months and year.

Stay Strong

It’s a tough time for everyone, including IRA Financial, as we’re all working from home. However, at least we have jobs where we can do that. You may not be that lucky. Small business owners 401(k) plans help attract better employees and also give you a way to save for retirement. If you cannot fund the plan right now, it’s understandable. However, stay strong and keep a level head before deciding to get rid of the plan altogether. Hopefully, we’ll have more word from the government soon for what exactly will be allowed with your plan.

Thanks for watching/listening to “Adam Talks.” Be sure to check out our SoundCloud page for all of our podcasts and YouTube, which has lots of great videos about the current economic situation. Practice social distancing and let’s get back on track when this terrible situation is over!


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