New and Enhanced Tax Credits for Smaller Employers Can Help Make Starting a Retirement Plan More Affordable Than Ever

The Secure 2.0 Act was designed to make it easier and more affordable for small businesses to offer employer-sponsored retirement plans.  It aims to increase retirement readiness for all.  The legislation extends valuable benefits to both employers and employees to make it more attractive to offer retirement plans, and potentially improve retirement outcomes.  The tax credit is based on contributions the employer makes on behalf of participants.  It also expands the existing startup tax credit on employer plan costs.  Together, these two credits may provide a significant benefit for small businesses that are starting a plan. 

The contribution credit and cost credit are separate and distinct. Plans may receive one or both credits. To qualify for either, employers must:
 

• Have no more than 100 employees who received compensation of $5,000 or more in the preceding year
• Not have offered a plan covering substantially the same employees during the previous three tax years

 

Cost Credit

For taxable years beginning after 2022, the expanded credit reduces the amount of federal taxes that a small business may owe during each of the first three years of its first-ever retirement plan. Here are the basics:
 

• For 50 or fewer employees, the credit covers 100% of the employer’s ordinary and necessary out-of-pocket plan costs, up to an annual limit. (This amount was previously 50%.)
• For 51 to 100 employees, that same coverage is 50%.  
• Covered costs are those paid by the employer to set up and administer the plan, such as financial professional and third-party administrator (TPA) compensation, recordkeeping fees and employee education expenses. The credit does not apply to plan costs paid through plan assets or investment expenses.
• The annual limit is $500 or, if greater, $250 multiplied by the number of plan-eligible non-highly compensated employees NHCE (those that make under $155,000 for 2024), up to $5,000.
• To qualify, a plan must have at least one participant who is a NHCE.

 

Contribution Credit

For businesses sponsoring a new plan, the new legislation also offers a tax credit for employer matching or profit-sharing contributions for the first five years of the plan. The credit is for businesses with up to 100 employees, but the credit is reduced by 2% per employee over 50 employees earning less than 100,000/year. The maximum credit is $1000 per year for each of those employees.

The credit potentially covers:

• 100% of employer contributions for the first two years after the plan is created
• 75% in year three
• 50% in year four
• 25% in year five

 

Review

 

These two credits taken together, the changes brought by SECURE 2.0 have made it significantly more affordable for small businesses to start a new retirement plan. With administrative expenses fully creditable up to $5,000, and contributions creditable up to $1,000 per employee, small businesses can bolster their benefits package and compete for talent in 2023.

 

Resources

A closer look at SECURE 2.0 startup tax credits | Capital Group

 

SECURE 2.0: New Small Business Tax Incentives for Retirement Plans | SPARK Blog | ADP

 

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