Types of Plans
Qualified retirement plans provide an outstanding vehicle to allow you and your employees to save for retirement on a tax-deferred basis. There can be great advantages to implementing a plan or adding a 401(k) provision to your existing profit sharing plan:
- The ability to attract and retain top quality employees
- Greater retirement savings than under a traditional IRA or SEP
- Contributions to the plan are tax-deductible and can provide significant tax savings
- Employees share the cost of funding for their retirement with the employer
- Contributions grow on a tax-deferred basis
Generally, qualified plans can be categorized as either defined contribution plans or defined benefit plans.
Defined Contribution Plans
A defined contribution does not provide a specific benefit for participants upon retirement. Rather, the participant’s account balance is determined by the contributions made to his account by the employer and/or employee, along with the related investment gains/losses that have occurred in his account. Under these types of plans, there are many options available to plan sponsors that can provide great flexibility in determining the contributions under the plan, investment options and other design features. All of the following types of plans are defined contribution plans:
Profit Sharing Plan - A profit sharing plan is a plan where the employer can make contributions to the plan each year on a discretionary basis. Sometimes, contributions are based on employer profits; however, the amount can be determined on any other basis as well. Contributions are “allocated”, or divided among plan participants, based on a formula that is outlined in the plan document. A profit sharing plan may also include a 401(k) arrangement.
Traditional Profit Sharing Plan – This type of plan divides the employer contribution amoung the eligible employees based on either a straight percentage of compensation or by using an “integrated” formula.
Cross-tested Profit Sharing Plan – This type of plan divides the employer contribution amoung the eligible employees based on a formla that typically provides greater benefits to certain key employees.
401(k) Profit Sharing Plan - A 401(k) plan is a profit sharing plan that also includes an option where the employees (participants) can also make contributions to the plan. The employee contributions (called “401(k) contributions” or “deferrals”) are made on a pre-tax basis to the plan through payroll deduction. Often, the employer also will make a matching contribution to the plan based on the employees’ deferral amounts. 401(k) Plans can also include either a traditional profit sharing component or a cross-tested formula.
Employee Stock Ownership Plan (ESOP) - Under an employee stock ownership plan, the investments of the plan consist solely or primarily of the stock of the plan sponsor.
Money Purchase Pension Plan - A money purchase pension plan is a plan that provides a fixed annual contribution, which is defined in the plan document. This contribution must be made by the employer each year and is typically stated as a percentage of compensation. This type of plan is subject to certain funding requirements.
A defined benefit plan provides a specific benefit for participants upon retirement based on a pre-determined formula outlined in the plan document. Typically, an actuary calculates the amount that the plan sponsor must contribute to the plan each year to achieve these benefits.
Which type of Plan is best?
Many factors determine which type of plan is best suited for a particular company. A successful overall plan will achieve the company’s goals, which could include a variety of factors, such as:
Attracting, retaining and rewarding employees
Maximizing benefits for key employees
Proving employees with a vehicle for saving for their own retirement
Minimizing employer cost associated with the plan
Offering quality investment options
After gathering important data concerning the company and it’s plan (if applicable), WRS will review the information and work with you to help design a plan that will best suit your company’s needs.