Employers offer various retirement savings plans as an incentive to retain solid talent. The types of plans can vary from rare pension plans to more common 401k plans.
Profit sharing plans are an increasingly popular form of savings plans that give employers and employees flexibility with their contributions. They also offer some corporate tax benefits. Employers can set how and how much to contribute to a plan, such as a certain percentage of profits. Profit sharing plans are also available for employers of any size, unlike certain 401k plans or Savings Incentive Matching Plans for Employees (SIMPLE), which are restricted by the number of employees participating.
Setting up a Profit-Sharing Plan
Much like 401k plans, profit sharing plans require 4 initial steps:
- Adopt a written plan document.
- Arrange a trust for the plan’s assets.
- Develop a record keeping system.
- Provide plan information to employees eligible to participate.
Employers can set up their own plans, or can obtain pre-set plans from financial companies like Charles Schwab or TD Ameritrade.
Running a Profit-sharing plan
Again, just like with 401k plans, owners have certain responsibilities in operating a profit sharing plan:
- Participation – Profit sharing plans offered must include rank & file employees and management/owners. Some exclusions may apply, such as those for staff under 21 years old or resident aliens.
- Contributions – Participants can contribute to a plan through salary deductions. Businesses have flexibility to determine how much to contribute to participants’ plans each year. This can be useful for small businesses who go through boom and bust years but wish to have a retirement plan for employees. The contribution limits remain virtually the same to 401ks (100% of a participant’s compensation OR $54,000 for 2017).
- Vesting – Vesting schedules can also be set by the business, and can have employees be fully vested immediately to encourage retention.
- Nondiscrimination – The profit sharing plan must offer substantial benefits to both regular employees and management. Plans are subject to annual tests to ensure benefits are offered appropriately.
- Investing Profit Sharing Money – Owners have the option of considering a variety of investment options on behalf of employees, or let the employees determine where to direct the investments.
- Fiduciary Responsibilities – Responsibilities include a plethora of duties to uphold, such as acting solely in the interest of the plan participants and beneficiaries, following plan documents, and diversifying plan investments. Owners can hire a service provider to uphold the fiduciary responsibilities in place of the owner.
Terminating a Profit Sharing Plan
While it’s understood profit sharing plans should operate indefinitely, business conditions may change and employers may need to terminate their profit sharing plans. To do so, amend the plan document and file a final Form 5500. Also consult with your plan’s financial institution for any additional actions needed to seamlessly terminate the plan.
Profit sharing plans are useful benefits to offer employees that require appropriate accounting practices. Tax benefits are available for establishing and maintaining plans too. Contact us at MiklosCPA if you would like to learn more of the tax benefits, as well as learn more of the services we offer in tax and accounting for businesses. Also, follow us at our social media pages for future tax tip articles like this one!