Imagine going to work and not having a work sponsored retirement plan like a 401k or IRA. Unimaginable right? Employers are already doing away with pensions and Social Security doesn't pay much. To not have anything may jeopardize an employee's financial future.
It turns out about 50% of Americans work for small businesses, but only 31% of small businesses provide retirement plans according to the U.S. Small Business Administration (SBA).
The SBA’s definition refers to companies with fewer than 500 employees, while other sources use 100 or fewer. Regardless of how you define small business, it’s clear that millions of Americans are on the outside looking in when it comes to retirement planning.
Here’s a chart that gives you an idea of how much rarer it is to get retirement benefits at small companies compared to well established companies with over 1,000 employees.
As an entrepreneur, I can relate to the many operational challenges that small business owners face. The very first year of launching my business after leaving my old employer, I didn’t set up a retirement plan, like a Solo 401k or SEP IRA, because that was the last thing on my mind. I had to make some revenue first! Furthermore, I was too lazy to figure out how to set it up.
There’s a lot of pressure to juggle multiple hats while on a tight budget. Government filings, processing payroll, paying taxes and keeping track of expenses will take up a lot of your time.
Minimizing operating costs is paramount for survival. After all, wouldn’t an employee rather have a job with no retirement plan, than no job at all? Small businesses don't prioritize setting up retirement plans because sometimes they are just struggling to stay afloat. But once the revenue starts coming in, creating a retirement plan for employees is a good way to retain and attract new talent.
Always ask your potential future employer what their retirement plan is before hopping aboard!
SMALL BUSINESSES RETIREMENT PLAN WOES
Here are the disappointing statistics about small businesses and retirement plans:1
* Nearly 50% of Americans work for small businesses (fewer than 100 employees).
* Only 5% of very small businesses have retirement plans (1-4 employees).
* Just 31% of small businesses provide retirement plans (26-100 employees).
* Only 14% of small businesses offer 401(k) plans compared to 89% of large corporations.
* $15 billion in retirement savings is lost each year in the small plan market due to unnecessary fees.
* Roughly 77 million Americans don’t have employer sponsored retirement plans.
Most Americans, even those with access to retirement plans at work, don’t save anything for retirement. It’s no wonder that with the average Social Security benefit at only $15,700 a year, 82% of U.S. workers fear they won’t have enough to survive past their 60s according to the Employee Benefit Research Institute.
Those who do save typically aren’t saving enough either. Exorbitant healthcare costs can wipe you out if you’re unprepared. According to Fidelity, retired couples can spend over $220,000 on healthcare alone and that’s excluding the cost of long-term care. Heck, I spend $17,400 a year on healthcare for two healthy 30-something year olds.
I hope more companies start offering 401(k) plans because even without matching one can accumulate a sizeable nut if you take advantage of the maximum contribution amounts each year. Take a look at how much you could save in a 401(k) if you max it out every year:
Add on company matching and the results are even better. After 10 years, I accumulated over $300,000 thanks to diligently maxing out my 401k every year and receiving a gracious company matches. Although the money can't be touched until age 59.5, it's good to know it's there if I need it.
WHY ARE 401(k)s SO RARE AT SMALL BUSINESSES?
It turns out setting up a 401(k) plan is more complicated than you may realize. There are a lot of fees, paperwork, government forms, setup costs, and fiduciary responsibilities that typically come with setting up a corporate 401(k) plan.
Here’s a quick rundown of why a lot of small businesses have shunned 401(k) plans and why they are at a disadvantage to large firms.2
* Small business participants can lose 1-2% in annual plan fees compared to less than 0.5% for large corporation employees.
* Retirement plans with under $10 million in assets typically aren’t able to offer low-cost index funds to employees that don’t require active management.
* Many retirement plan providers entice small businesses with low up-front fees but continually raise fees over time as employees’ savings increase.
* Due to the Employee Retirement Income Security Act (ERISA), the U.S. Department of Labor places a lot of fiduciary responsibilities and requirements on employers that are time-consuming and confusing for small business owners to figure out.
FINTECH RETIREMENT PLAN SOLUTIONS FOR SMALL BUSINESSES
Employees take on a lot of risk working for small companies or at a start up, and employers can struggle with recruiting and retaining top talent. Even if you’re able to join a small business that offers a decent benefits package, chances are it’s nowhere near as attractive as those offered at large corporations. To add insult to injury, small businesses often cease to exist after five years.
With practically every other person in the U.S. working for a small business, we need easier and more affordable ways for small-sized companies to provide retirement plans.
This is where I stumbled across ForUsAll, a ~50 employee fintech company based here in San Francisco that is shaking up the small business retirement space.
ForUsAll was formed in 2013 by five co-founders: Shin Inoue (CEO), David Ramirez, Dave Boudreau, Cindy Bloch and Sergey Zelvenskiy. They raised $3.3 million in seed funding from Silicon Valley VC firm Foundation Capital and several individuals in fintech including Blake Grossman (Barclays Global Investors’ former CEO) and Joshua Levine (former CTO of E*TRADE).
“We have one simple goal at ForUsAll: to make sure that every American has a fair shot at retirement success no matter how small the company they work for or own,” said CEO Shin Inoue. “To accomplish that we challenged ourselves to radically simplify the 401k so that it works for any small company and its employees.”
Here are some benefits of using ForUsAll as a small business owner:
Increasing access and usage. Employees of small businesses who are lucky enough to have access to a 401(k) are often not using them because enrollment is cumbersome. ForUsAll is changing this by using automation and plain English that employees can understand.
Setup is free and uncomplicated. Employers don’t have to worry about forking over a hefty startup fee, typical with traditional plans. ForUsAll also handles all the paperwork hassles and government forms.
ForUsAll takes on the fiduciary role. This is a huge plus for small businesses that typically lack the resources and knowledge to figure out and meet the requirements of the Department of Labor.
Payroll integration and full-service plan administration. ForUsAll easily connects with popular cloud-based payroll systems like Zenefits and ZenPayroll (Gusto). Contributions are deducted automatically and new employees are added when eligible.
High participation and savings rates. ForUsAll boasts over 90% employee participation compared to 74% in the overall small-plan segment. ForUsAll participants are also saving 10% on average compared to the market rate of 5.6%. They also use technology to help employees make financial decisions on managing debt, saving for emergencies and utilizing HSAs.
Fixed monthly fees for employers. Small employers pay a fixed monthly rate of $94/month for the first 10 employees. Each additional employee up to the 40th is an extra $5/month and then down to $3 for the 41st employee and up.
Low-fees for employees. Most small-plan employees pay 1-2% in fees, but those who use ForUsAll pay 0.54% or less.
Vanguard funds. Currently, ForUsAll exclusively offers Vanguard funds, the lowest cost funds in the industry. New plan participants are automatically invested in age-appropriate target-date funds at a rate of 6% by default and in 1% contribution increases each year up to 15%. This can be modified of course.
#401cake. Every new employer that signs up with ForUsAll gets a free “401cake” to share around the office. It’s a small gesture that gets people to smile. Who doesn’t love free food?
HOW MUCH ARE YOU SAVING FOR RETIREMENT?
Those of you who are regular Financial Samurai readers know that everything starts with savings. Based on my previous polls, 23% of you save over 50% of your after tax income every month. Meanwhile, roughly 40% of you have over $201,000 in your 401k or IRA.
If your employer doesn’t offer a retirement plan, ask them to start one. If they refuse, ask them why not given there are companies now who are making things cheaper and easier to set up. And if they still refuse, perhaps it's time to look for a new job in secret. Tax-advantaged retirement savings add up over time!
Another interesting employer retirement plan brought up by a reader is the SIMPLE IRA. The annual fees to set up are low, but you can only contribute up to $12,500, and the employer can only contribute up to 3% of your salary vs. a 401k where an employee can contribute $18,000 a year and an employer can contribute 25% of salary for a total of up to $53,000. You must have 100 or fewer employees and you cannot maintain any other employer-sponsored retirement plan.
Related: How Much Should You Have Saved In Your 401(k) By Age
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1 Data sourced from the Employee Benefit Research Institute, U.S. Government Accountability Office (GAO), U.S. Small Business Administration, and Deloitte.
2 Data sourced from WSJ, BrightScope, Fidelity, U.S. Department Of Labor.
What an awesome article, I currently work for a huge company that does offer a match and am participating in that, however in the next year I’m intend to stop working there and instead work for myself. One of the things I have been looking into is the retirement savings I would be able to do well working for myself. This sounds like a great service that I may have to look into.
My father owns a small business here in Canada and I’ve spoken to him a few times about starting a small GRRSP (similar to company matched 401k) for his 12-14 employees. Whether the employees know it or not, it’s definitely one of the best benefits you can give your employees as it’s setting them up better for their retirement which they may not start to prepare for until it’s much too late.
Sam, getting off point slightly here but what is your opinion on EIUL’s as a for of savings for retirement with minimum death benefit. I am self employed and have a SEP but I am trying to create some tax free income in retirement.
I own a small business, just 20 employees. For the past 15 years I offered a SEP plan. All employees with 3 or more years of service would receive a lump sum payment of 6% of their gross salary which was put into a brokerage account. The majority of employees would cash their accounts out, pay the penalty and taxes and get the money. As other commenters had said most of my employees just look at their check, forgetting about the added benefits including their SEP plans. This last year I changed to a 401k plan with a 4% match. I also put a clause in it that if they take their money out they lose their match. Go figure but the employees love it! They said they need to be forced to save money and this plan does it for them. I love it to because I’m actually saving money even though the plan has a annual cost to manage.
So far this year 18 out of 20 employees are contributing 4% to the plan plus my 4% match for a 8% savings rate. Not 1 employee has taken a dime out. Not enough to get rich but at least their saving something.
Bill, that is some amazing insight! Nice job figure out away to help your employees save for retirement. It’s a shame that there are employees who did not take advantage of the company match or a plan in general.
I’m self employed and get to pay all the additional fees and taxes that the Gov’t takes from me. I have a healthy bank account, and last year I started investing in dividend stocks. There’s not much left over after I pay local, state, and federal taxes and fees on everything imaginable. But we’re very frugal. Both our cars are 13 and 12 years old, and both have been paid off in less than a year of buying them. The only debt we have are student loans, that’s it. We do rent, unfortunately, but we’re waiting for prices to come back down to earth. Denver is one of the hottest RE markets right now.
I think prices are starting to cool off and will level or decline over the next three years before heading back up again.
I don’t think the decline will be very much at all, maybe 10%.
Interesting company. There is sure to be demand for such services. But you are right, 401k plans can be more trouble than they are worth, particularly for small business owners. They take time, money and responsibility. The fee part has gone down, but arguably the time and responsibility have gone up. There is risk without much reward. The primary tax benefit would likely go to the owner (or those in a high income category). Lower income people may not participate as they need every dollar they can get and the tax benefit to them is nominal. It starts to look like a 401k is not really worth the effort if few people use it. The 401k benefit is more appealing to high income earners.
If I were running a small business, I’m not sure I would be looking to complicate my business by adding a cost center that offers little as an employee recruitment tool.
The cheaper they small business can administer a 401(k) plan for its employees, the more likely they will do it. After having a retirement plan for so long, I’m not sure I will Accept a new offer if they didn’t have a retirement plan. I guess the alternative is that companies can provide retirement planning education to help employees save their after-tax dollars.
When I worked for a small startup after college I didn’t get any retirement benefits. The first plan I started contributing to was a Roth IRA. That account never amounted to much. Eventually I opened a 401k with a 4 percent match contributing 5% then 10% and eventually maxing it out. I am so grateful I had that account and matching. After I left my job I rolled it into an IRA. Now I have that, my small Roth and a SEP IRA.
Nice job immediately rolling over your 401(k) into a simple Ira and then opening up your own retirement plan. I wasted a year of contribution because I didn’t understand I could do it, nor did I know how to do it. It just takes a little investigation and focus. As a result of my lack of focus I probably missed out on about $6000 worth of gains from $18,000 contribution.
I have about 20 employees, I can’t afford to pay for their retirement plans. Matching 401k is mainly for jobs that pay 60k or more ( and jobs with higher difficulty of training). that probably goes up in the next years.
401k is a past generation ideal, nowadays 70%+ ( my perception) of workers don’t know what a 401k is.
Andy, I too am in a similar situation. We have about 14 employees, and the vast majority don’t know what a 401k is, and if one was setup for them, they likely would not want to participate. They totally scoff at anything that takes away from the bottom line on their paycheck. A couple years back an employee was in the process of leaving us for a $1 or $2 per hour increase. We asked if he had considered the added value of the health benefits we offer. He answered, “All we workers look at is the bottom line on that paycheck…and how to maximize it.” It’s a terrible way of operating, but it was eye opening for me.
Since then, we haven’t placed much effort into any sort of pretax payroll deductions, because our employees actually tend to resent us for any sort of deduction!!
Now I also realize that most employees, especially in management, will have a more well-rounded understanding of things.
For myself, I’ve simply resorted to in individual IRA through vanguard. I know it maxes out at $5500 per year, which is lame, but that’s also about the maximum my wife and I can handle right now with 1 child and 2 more on the way.
I think you do make a good point on certain income level employees contributing to a 401(k), or wanting to contribute to a 401(k). But I would say that even if you’re making us $30,000 or $40,000, contributing to a 401(k) or any tax advantage Retirement savings account is a good idea. At the very least, you get in the habit of saving for retirement and investing.
My wife works in the family business and has for the past few years. They didn’t have a retirement offering.
Recently I did all the legwork and was able to convince them to set up a retirement account through their payroll processing service ADP.
They had a special that if you signed the paperwork in October, they would wave the $1,500 set up fee. And the plan will only cost $1,800 a year to maintain for the 4 employees in the office.
It is going to be nice to be able to contribute $18,000 in 2016 when the plan is active vs. the $5,500 we had been contributing to a traditional IRA. There won’t be any company match, but that is okay.
In getting this plan set up I learned about means testing.
“The test requires that employees be split into two groups: highly compensated and nonhighly compensated. For the 2014 and 2015 tax years, highly compensated employees are those who earned more than $120,000, or owned more than 5 percent of the business. (The compensation limit is based on the previous year’s compensation, while the ownership limit is based on the previous or current year.)
The test is as follows: the average contributions of highly compensated employees, as a group, cannot exceed the average contributions of nonhighly compensated employees, as a group, by more than about 2 percent. ”
My wife does not fall under the highly compensated for the office. Since we plan to max out the 401K, it along with the contributions of the other non highly compensated employee in the office will set the bar for contributions into the plan.
Cheers
Hey Gen Y ,
Been reading your blog too. Good job. I was playing with the Bitstrips app to make these cartoons I remember FS ask you about it in a post. :)
Nice job getting a retirement plan for your wife’s company! Do you have a numerical example based on individual income you can use to explain the highly compensated versus non-highly compensated employees and how much they can contribute?