Businesses have many options when it comes to choosing a company retirement plan. Many opt for employer-sponsored defined contributions plans like a 401(k) or profit sharing scheme, any of which can bring big benefits to employees and business owners alike. Ensuring a good return, however, involves more than stashing money and waiting for it to grow.

A defined contribution plan — as opposed to a defined benefit plan such as a company pension — encourages employees to set aside a part of their income into pooled tax-deferred investment accounts until retirement. Because the maximum amount owners and managers can invest is often tied to the contributions of lower-paid employees, businesses are well-incentivized to encourage individual participation and make matching contributions.

More investment doesn’t mean more return, however, and a plan is only as good as those who manage it. Here are three ways businesses can ensure they effectively utilize plans.

3 Ways to Effectively Utilize Plans

1. Consult or Hire an Investment Expert

Retirement funds benefit greatly from experienced management; they’re not something business owners should take on themselves or assign haphazardly. Bringing on a professional as a contractor or employee helps ensure contributions are invested wisely and can minimize an employer’s fiduciary responsibility to act in the interest of plan participants.

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Outside direct hiring, businesses have several options when choosing an investment expert:

  • The Consultant: Using a consultant, businesses can gain the knowledge they need to run their investment plans. Companies retain discretionary authority and full fiduciary responsibility.
  • The Advisor: Much like a consultant, an investment advisor provides investment knowledge and advice to businesses. Although the employer holds final decision-making power, the advisor assumes co-fiduciary responsibility.
  • The Manager: The full package. Employer liability is limited to hiring and monitoring the pool’s investment manager. If something goes wrong such as an employee bringing a claim related to a poor investment decision, the investment manager assumes liability as sole fiduciary.

Considering the spate of recent lawsuits against plan sponsors, handing over full fiduciary responsibility to proven and responsible investment managers and monitoring their performance is becoming the preferred method of handling retirement funds at small businesses.

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Beyond minimizing their liability, effective investment managers can pay for themselves through greater investment returns regardless of outsourcing fees. In a recent study of 401(k) plans, those managed by professionals earned at least three percent more after fees per year than those under employer control, which over the course of several decades could provide exponential returns.

2. Maximize Defined Contribution Plan Tax Deductions

A well-maintained retirement plan is about more than just picking the right funds. Plans that meet government requirements and diligently pursue incentives can avoid penalties and accrue additional savings.

Employer contributions, including those to owners and senior managers, are deductible from business revenue. By contributing more, a business can lower its tax base while helping all employees prepare for what comes after retirement.

To help offset program setup and administration costs, businesses can also receive a $1,500 tax credit during the first three years following a plan’s creation. To qualify for the credit, a business must employ at least one person other than the owner who receives less than $120,000 a year in compensation.

3. Safe Harbor 401(k)’s Work for Small Businesses

For small businesses with few rank-and-file employees, setting up a safe harbor 401(k) plan can provide even more tax relief and allow a greater level of investment from owners, senior managers and highly compensated employees.

Traditional 401(k)’s tie the investment maximums of highly compensated employees to within a few percentage points of the average investments of their lower-paid counterparts. To account for this, standard plans must adhere to a series of nondiscrimination tests each year.

By contrast, the safe harbor 401(k) requires no nondiscrimination testing, thus allowing all participants, including highly compensated employees, to maximize tax-deferred plan contributions without the need to elicit greater deferments from those receiving lesser salaries.

To satisfy safe harbor requirements businesses must:

  • Allow all employees to contribute the maximum salary deferral.
  • Limit contributions to 100 percent of individual income or $52,000 per eligible participant, whichever is lower.
  • Most importantly, they must choose between:
    • Offering a safe harbor match: at minimum, the first 3 percent of an employee’s salary contribution and half of the next 2 percent.
      OR
    • Providing a non-elective contribution of 3 percent to each eligible employee, regardless of whether they participate in the plan.

Maximizing Defined Contribution Plan Return Helps Everyone

No matter which defined contribution plan best fits your needs, every business wants to maximize its return. Steps such as hiring an investment manager and taking advantage of all available tax deductions are two of the most proven ways to do just that. When business and employee objectives are aligned, raising the bottom line is in everyone’s best interest.

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