For National Save for Retirement Week we sat down with Mary Scott, CFP®, CRPS®, AIF®, Vice President, Retirement Plan Advisor, to share information with business owners about what retirement plans to offer their employees. Mary has been with First Interstate Wealth Management for seven years and has specialized in Employer Retirement Plans for 19 years.
What retirement plan options are available for business owners?
There are many options available for a company to choose from, depending on their goals. All retirement plans have tax advantages. Any contributions funded by the employer are tax deductible to the company and pre-tax deferrals reduce taxable income for the employees. Plans range from those that are 100% funded by the employer to those that are 100% funded by the employees or a combination of the two. They also range from very simple and low cost, to complex with a higher price tag to maintain them. Of course, there is a tradeoff to be considered; less complex plans may have lower contribution limits and less flexibility than their more sophisticated counterparts.
At the basic end of the spectrum are SEP-IRAs and SIMPLE-IRAs, where the employees establish their own accounts to receive contributions. SEP-IRAs are funded solely by the employer and the SIMPLE-IRA allows for both employee salary deferrals into the plan along with a mandatory employer contribution. There are no testing or filing requirements for these plans, so they are inexpensive to maintain, but employees do have access to their funds at any time.
Moving to the middle of the spectrum there are Profit Sharing plans, which are all employer funded, but allow for more flexibility than a SEP-IRA and employees can only take distributions according to the plan document. Next, we have the 401(k) Profit Sharing plan, which basically adds the ability for employees to salary defer into the plan, along with the ability for the employer to provide matching and/or profit sharing contributions. 401(k) plans are the most popular plans amongst employers today and allow for creativity in how they are designed.
The most complicated plans are Defined Benefit Pension Plans (or Cash Balance Plans), which can allow for very high contributions, but they must be funded each year by the employer and require an Actuary to calculate the required annual contribution. These plans are out of favor among larger companies, due to the cost of funding, but are popular with small professional groups that are looking to make large contributions to partners and owners in a tax advantaged plan.
What is one thing most employers aren’t aware of when it comes to retirement plans for their employees?
Many don’t realize how much this benefit is valued by their employees and how it can save the employer money down the road. If an employee has little set aside for retirement, they will be unable to retire at normal retirement age of 65-67. The result is an employee who may have already retired (they just haven’t told their employer yet!), but continues to work in order to receive a paycheck and retain their benefits. It’s a known fact that medical expenses rise with age, which can mean higher medical insurance costs for the employer as the workforce becomes older.
What would you consider to be a must-have feature for a retirement plan? Why?
I believe that Auto features are the single most important thing that a plan sponsor can put into place to help their employees be ready for retirement. When an employee becomes eligible for the plan, they are automatically enrolled at an amount that usually corresponds to the amount needed to receive the full match, usually around 4-6% (or higher). The contributions are then invested into a pre-selected default fund, which is normally a Target Date Retirement fund (TDF). TDFs are diversified asset allocation portfolios that are designed to correspond with the year the employee would turn 65. The employee does not need to remember to make any changes to their investments, since these funds gradually evolve to be more conservative as the employee nears retirement.
Last, but not least, is Auto-Escalation, which can help the employee to achieve a meaningful savings rate in a painless way. After the initial enrollment of say 5%, the deferral rate is automatically increased by 1-2% per year and capped at 10-15%. An employee can choose to stop, change the deferral percentage or investment selection at any time. The do-it-for-me approach is welcomed by most employees, since very few choose to opt-out.
What’s a new development in the retirement plan space that you’re excited about? Why?
There is a movement towards developing solutions that will provide the retiree with an income stream for their lifetime. These annuity products have been available to plans for the past several years, but have gained little traction in their use. This is largely due to a lack of portability associated with many of the solutions and a lack of understanding among employees as to how they work. People worry about giving up control over their assets, but fail to remember that the reason they accumulated the funds in the first place was to provide themselves with a steady income stream to live on in their later years. There has been recent discussion about making the income solution an automatic feature, much like automatic enrollment. Since studies show that a person is more afraid of running out of money than dying, creation of solutions that solve the drawbacks previously mentioned, would be very welcome.
Anything else you’d like to add?
It can’t be emphasized enough; people need to start saving for retirement when they are young. This is where auto-features can be so important to get the 20 something’s started on saving at the start of their working years. In a detailed analysis prepared by Aon, the typical employee would have to start saving at age 25 and put away 16% of pay annually (which includes the company match), in order to have achieved a solid retirement outlook by age 67. Employers are in a position to have a tremendous amount of influence over the savings behaviors of their employees by adopting auto features into their plan.
Get more information about First Interstate Retirement Plan Services.