How to start a 401(k) for a small business

Starting a 401(k) is mostly a sequence of decisions, not a single purchase. This page sets out what an employer actually has to decide and do, who does what once the plan is running, and which tax credits are available — with the government sources for each.

The four steps to establish a plan

Joint IRS and Department of Labor guidance is specific about the starting point. One early decision is whether to set the plan up yourself or use a professional or financial institution. Beyond that, there are four initial steps for setting up a 401(k) plan:

1. Adopt a written plan document. Plans begin with a written document that serves as the foundation for day-to-day operations. Whoever provides it, the employer is bound by its terms — which is a good reason to read it rather than file it.
2. Arrange a trust for the plan's assets. 401(k) plans are funded through a trust that holds and invests plan assets, with at least one trustee responsible for the trust and its assets.
3. Develop a recordkeeping system. The system tracks contributions, earnings and losses, investments, expenses, and distributions, participant by participant.
4. Provide plan information to employees eligible to participate. The plan has to be communicated, not merely adopted.

Alongside the document, an employer chooses the type of plan — a traditional 401(k), a safe harbor 401(k), or an automatic enrollment 401(k) — and then the design details within it: who is eligible, whether the business will contribute, and how contributions vest.

Who does what once the plan is running

Several distinct roles exist. One organization may hold more than one of them, which is why they are easy to confuse.

Employee deferrals must be deposited as of the earliest date on which they can reasonably be segregated from the employer's general assets, subject to an outer limit set by regulation.

What a pooled arrangement changes about that list

In a pooled employer plan, the plan already exists. An employer joins it rather than establishing one, so the four setup steps are largely already done: the plan document, the trust, and the recordkeeping system belong to the pooled plan, and a pooled plan provider holds the plan administrator role for every participating employer at once.

What does not change is that the employer still selects and monitors that provider, still supplies accurate data, and still deposits deferrals on time. A pooled arrangement shortens the list; it does not empty it.

Tax credits for starting a plan

A new plan can attract two separate federal credits. The figures below are the IRS rules as published; whether and how much a particular business can claim depends on its own facts, so treat this as the starting point for a conversation with a tax adviser rather than as a calculation.

Retirement plan startup costs credit

• Up to $5,000 per year, for three years, for the ordinary and necessary costs of starting a qualified plan such as a 401(k).
• For employers with 50 or fewer employees: 100% of eligible startup costs. For employers with 51 to 100 employees: 50%.
• In either case the amount is capped at the greater of $500, or the lesser of ($250 × the number of eligible non-highly compensated employees) or $5,000.

Automatic enrollment credit

• $500 per year for a three-year period, beginning with the first taxable year the employer includes an automatic enrollment feature.

Who is eligible

• No more than 100 employees who received at least $5,000 in compensation in the year before the first credit year;
• at least one plan participant who is a non-highly compensated employee; and
• in the three tax years before the first credit year, your employees were not substantially the same employees who received contributions or accrued benefits in another plan.

What remains the employer's responsibility

Whichever route an employer takes, some duties do not move. The employer supplies accurate hours, compensation, hire and termination dates, and deferral elections; deposits employee deferrals promptly, since only the employer can segregate them from its own assets; selects any service provider through a documented process and monitors that choice over time; and makes the business decisions about the plan itself.

Plan costs are worth understanding before signing anything, and are best compared against real filed data rather than marketing material. That analysis lives on thinknirvana.org.

Common questions

AIPEP 401(k), at aipep401k.com, is a pooled employer plan operated by ThinkNirvana Foundation, a Maryland nonprofit corporation acting as pooled plan provider under ERISA §413(e) (registration in process).