401(k) Plan Basics
401(k) plans are complex retirement planning vehicles, ideal for businesses of all sizes. To make them easier to understand, we’ve broken them down into 401(k) basics, including different plan options, cost structures and more. Here’s what you need to know before setting up a 401(k) plan.
There are thousands of providers who can set up a 401(k) retirement plan for your company and your employees. Providers can be:
- Insurance companies
- Mutual fund companies
- Registered investment advisors (RIA, like Synergy Financial Management)
- Third-party administrators (TPA)
Despite some variations, whether they are fees or investment options, these providers offer very similar 401(k) plans.
The main distinction is whether a plan provider (or vendor) is billed as a full-service provider, or as an unbundled provider.
Full Service Providers
Full service providers, or “bundled plan providers,” offer the entire range of administrative services and 401(k) investments to a Plan Sponsor (i.e., Employer). Think of full service providers as a one-stop source for a 401(k) plan.
Full service providers can be:
- Mutual fund companies
- Insurance companies
- Third-party administrators (TPAs)
These make up the bulk of full service providers, but online services, payroll providers and HR outsourcing firms may also fall into the realm.
Some full service providers actually outsource to other parties. For example, you may work with a TPA for a 401(k) plan and that TPA may provide you with all of the services your plan needs. But the TPA may outsource to a mutual fund company in order to offer those investment options to you.
The advantage of a bundled plan is that you get everything you need from one provider. The biggest downside is that you don’t have many options within the plan. For example, if you go with a mutual fund company, you may have to invest in their funds. With a TPA, you may have a larger variety of investment options from different fund companies, but you still have to stick to what they offer as far as services and fees.
If your provider has any restrictions, particularly with investment options, be sure that you are satisfied with those choices. If not, we recommend shopping around.
Synergy Financial Management can work with any provider that meets your needs. We will help you evaluate the best options to meet your company’s needs.
Unbundled Service Providers
Unbundled plans offer flexibility since 401(k) plans designed on your terms. This option used to be difficult to implement, but now it is one of the best options available when done properly.
This is the direction we see most companies moving toward. It allows employers to shop for the best providers at the best possible price. Not sure what 401(k) options are right for your company? Synergy Financial Management often consults with employers like you to help them explore and evaluate the many 401(k) plan options and investments available.
Here are several tips to keep in mind when shopping around for a 401(k) plan provider.
– How long have they been in business?
– What types of clients do they typically serve?
– Do they have clients that have 401(k) plans similar to the one you want to set up?
Take into account their overall service. This includes consistent, timely reporting and continuous monitoring of investments. On the participant side, make sure that they have representatives available 24/7, or a website where employees can log in to review their account and investment performance.
How does the provider educate Plan Sponsors and Participants (i.e., software, seminars, printed material, online material)? How thorough is the training? This may be the first time many of your employees are participating in a 401(k) plan, so education and training will be important to their success and percent of participation.
Record Keeping and Plan Administration
Record keeping and administration responsibilities are required, whether your vendor handles it or outsources it. A 401(k) vendor should have access to the latest technology to handle this in a timely and accurate manner.
Although your Plan Provider won’t act as your lawyer, it should assist you when it comes to 401(k) laws and regulations and it should be fully compliant with Employee Retirement Income Security Act (ERISA).
There will be a number of fees associated with any retirement plan. The fees should be outlined and broken down for easy understanding and reference.
How much will a plan cost you?
How much a plan costs is too broad of a range to pin down, since it depends on a number of variables, but there are standard fees and expenses that make up the total cost of a plan.
You only have to deal with set-up fees once. They cover the cost of establishing the plan and transferring Plan Assets if you had a prior vendor, entering participant data, and preparing the Plan Document detailing your plan and plan provisions.
Most small businesses pay somewhere around $1,000 for this, but the Department of Labor sets the range at $500-$3,000. This is a big range, because the cost depends on how much work has to go into establishing your individual plan. It is usually a set fee in addition to a per participant fee.
Administrative fees are recurring fees that cover the cost of record keeping, compliance testing, loan processing, withdrawals, etc. A big chunk of administrative fees is made up of record keeping fees, which cover individual account maintenance for Plan Participants.
Investment Management Fees
These recurring fees account for a large portion of your overall fees and expenses – generally up to 80%. These fees cover the buying and selling of stocks and the research and expertise that go into it.
These fees will pay for an important part of your plan – the training and education of your employees about their 401(k) plan. It also covers services like Internet access or call center. It is usually a one-time fee of about $500 and could include a per-participant fee.
These are standard expenses that make up the total cost of a plan, but your plan may have additional fees as well. Other expenses could include special services (additional training, a toll-free help number, etc.).
Make sure you know how these fees are charged, especially the recurring fees and expenses. They may be charged to you as the employer or to your employee’s individual account. For example, investment management fees are commonly deducted from participant’s accounts while administrative fees are charged to and covered by the employer.
To identify your plan’s costs, refer to your 408(b)(2) Fee Disclosure, required by the Department of Labor, that Plan Providers are required to furnish. This disclosure to all plan administrators details all fees being charged.
Controlling a 401(k) plan’s costs requires extensive price comparison while shopping for a plan and close monitoring of the plan after it’s in place. Pay particular attention to the broad range of fees that your vendor will charge now and in the future.
Something as simple as communicating with your employees (i.e., Plan Participants) can reduce your costs. Find out what they want from a 401(k) plan. If you decide to pay extra service fees for Internet access and a toll-free number just to find out later that they aren’t interested in that, it’s a waste of money.
Saving your business money could include cutting back on Employer Contributions (Profit Sharing or Matching Contributions), or not contributing at all. If your main goal is getting employees to contribute, then cutting back in this area could cut back on participation. Instead, consider cutting back or making additions that are in the best interests of your company and its employees. If you’re not sure where to best control your costs, contact Synergy Financial Management for input. We specialize in helping employers streamline their plans.
An Employer’s Role
As an employer, you’ll be faced with some important decisions when setting up your 401(k) plan. The two most important ones are choosing the investment options that will be available to your employees, and deciding whether or not to match employee contributions.
Perhaps the most attractive feature of 401(k) plans to employees is the investment opportunities it can provide them. With 401(k) plans, employees have the opportunity to significantly grow their savings with various investment options.
Most employers hire a mutual fund, insurance company or bank to assist with the record keeping of the 401(k) retirement plan. But you’ll often find that in order for your plan provider to offer you those services, you must agree to offer funds only from their portfolio of funds.
If you want more flexibility or a different set of investment options, you can hire a third-party administrator (TPA) to help with the record keeping and administration of the plan. TPAs have generally formed alliances with fund companies, which allow them to earn commissions, rebates or other incentives for directing clients to use funds from “partner” fund companies.
There are also brokerage firms, as well as some mutual fund companies, that will allow your employees to choose any fund they like (yes, this means any fund in the whole world). The drawback though is that having too much to choose from can confuse employees and prevent them from enrolling in your 401(k) plan.
According to guidelines in Section 404(c) or ERISA, an employer must offer a “broad range of investment alternatives.” In order to achieve that specification, you’ll want to be able to present your employees with a diverse range of investment funds that have different risk and return characteristics. Employees can minimize the overall risk of the portfolio by diversifying their contributions into funds with varying levels of risk and return.
Employers have a number of options when it comes to contributing to their 401(k) plans. You can contribute a flat monthly fee to each participant’s account, contribute a certain percentage of an employee’s salary, or fully match the amount your employee decides to contribute, which is currently limited by the U.S. government to 15% of the employee’s total gross salary.
Matching an employee’s contribution is the most common way of contributing to an employee’s plan. Matching an employee’s own contribution simply means that you agree to kick in additional money for every dollar the employee contributes to his own plan, usually within limits that you’ve set.
The standard match for companies is 50% up to 6% of salary. That means for every dollar your employee contributes up to 6% of their pay, you will contribute fifty cents, increasing your employees’ returns by 50%
If you do decide to offer Matching Contributions, you can do so on a vesting schedule. That means your contributions become property of the employee over time.
A vesting schedule is a tactic used by employers to encourage employee retention. For example, if your employees are 100% vested from the moment they enroll in the plan, this means that they can quit any time and can walk away with any of the money you’ve contributed thus far.
If you put them on a vesting schedule, say of four years, the money that you’ve contributed gradually becomes theirs over time. If they quit after the third year, they might receive only 75% of what you’ve contributed. They won’t be 100% vested until the four years is up.