There are several types of employer sponsored retirement plans and your employer likely provides ONE of these. You don’t have a choice but you want to have a basic understanding of the plan being offered to you and you want to participate as a way to maximize your retirement investing. Employers have these plans in place as a benefit that helps then attract better employees. By making use of the plan, there is typically a tax savings to you. In prior years, the money that went into the plan was contributed by the employer but that’s less and less true. Most employer sponsored retirement plans now call for contributions from the employee such as 401k plans in for-profit companies and 401 and 403 plans in non-profits.
Employer sponsored retirement plans are called qualified plans because they comply with section 401(a) of the Internal Revenue Code. Employer contributions are tax-deductible and may be subject to vesting schedules. Participant contributions are always immediately vested. All contributions (employer and participant) and earnings are tax-deferred until they’re withdrawn.
Money purchase plans
A money purchase plan is a pension plan that has a mandatory annual contribution by the company. Company contributions can be as high as 25% of wages, up to IRS limits which change annually. The contribution formula is set by the plan terms. Contributions can be subjected to a vesting schedule. For example, if you leave after 2 years of employment, you may get 20% of your accounts value, after 3 years, 30% of your account value, and so on.
Profit-sharing plans
This is not a good name because profit sharing plans have nothing to do with sharing profits. In fact, with a profit-sharing plan the company management arbitrarily decides how much to contribute to the plan each year, up to 25% of wages. Vesting typically applies as described above as it does with most any employer sponsored retirement plan where the employer is contributing money.
401(k) plans
Most popular in for profit companies is the 401k because the company does not need to contribute anything to the plan, although many companies do. These employer sponsored retirement plans allow you, the employee, to contribute funds for your retirement, similar to putting money in an IRA but you can contribute more to a 401k. By making pretax contributions, participants have an opportunity to reduce their current taxable income while saving for retirement. Some 401k plans also allow Roth contributions (no tax deduction today, but all earnings are withdrawn tax free, thereby maximizing retirement income). Some companies provide a matching contribution as an extra incentive for the participants to contribute.
Participant deferrals do not count toward the deductible limits. Matching contributions may be subjected to a vesting schedule. Both participant and employer-matching contributions are subject to discrimination testing which is a way that the government insures that the plan is benefiting many employees, not just the highly paid.
Other employer sponsored retirement plans:
Simplified Employee Pension plans (SEP)
SEP contributions are funded with employer discretionary contributions and can be up to 25% of pay for each eligible employee. Participant contributions are not allowed except for some SARSEP plans still in existence. All employer contributions are made to IRAs for the benefit of the eligible employees and are 100% immediately vested. Contributions and earnings grow tax-deferred until the money is withdrawn by the participant but these types of plans have become less popular with the increased use of 401k plans.
Savings Incentive Match Plans for Employees (SIMPLE) IRAs
A SIMPLE IRA is a retirement plan for small businesses. The company must either match participant contributions (dollar for dollar up to 3% of pay) or make a contribution of 2% of pay for all eligible participants. Contributions are 100% immediately vested. To sponsor a SIMPLE, a business cannot have more than 100 eligible employees during the preceding calendar year.
403(b) plans
A 403(b) is a retirement plan for employees 501(c)(3) organizations on-profit organizations. Participants can make pretax contributions of up to $15,500 for 2008. Some organizations match participant contributions. Similar to a 401(k) plan, participant pretax contributions are 100% immediately vested, but matching contributions may be subjected to a vesting schedule.
Here are the contribution limits for 2008:
Employer-Sponsored Retirement Plans — 2008 Contributions
| Plan type | Money purchase | Profit-sharing | 401(k) | SEP | Simple IRA | 403(b) |
|---|---|---|---|---|---|---|
| Participant contribution | Not applicable | Not applicable | $15,500 for 2008; salary deferrals into other qualified plans count towards the limit | Not applicable | $10,500 plan contribution limit for 2008 | $15,500 plan contribution limit for 2008 |
| Participant catch-up contribution* | Not applicable | Not applicable | Up to $5,000 for 2008 | Not applicable | $2,500 for 2008 | $5,000 for 2008 |
| Maximum contribution (employer & participant’s) that employer can deduct | 25% of total eligible payroll up to $230,000 per participant in 2008 | 25% of total eligible payroll up to $230,000 per participant in 2008 | 25% of total eligible payroll up to $230,000 in 2008 + the amount of participant contributions | 25% of employee’s pay or $46,000 in 2008, whichever is less | $21,000 for 2008 ($10,500 participant contribution + $10,500 employer match; employer match limited to 3% of compensation) | Tax deduction is not an issue for tax-exempt organizations |
| Maximum allocation to participant’s account (employer & participant) | 100% of participant’s total pay or $46,000 in 2008, whichever is less | 100% of participant’s total pay or $46,000 in 2008, whichever is less | 100% of participant’s total pay or $46,000 in 2008, whichever is less; if age 50 or older, a catch-up contribution of up to $5,000 may be added | 25% of participant’s pay or $46,000 in 2008, whichever is less | $21,000 for 2008; if age 50 or older a catch-up contribution of up to $2,500 + $2,500 employer match may be added | 100% of participant’s pay up to $46,000 in 2008, whichever is less; if age 50 or older, a catch-up contribution of up to $5,000 may be added |
* For individuals who are age 50 or older.
Leave a Reply