Providing employee retirement plans can be both beneficial and costly. However, recent legislation may help ease the financial burden of establishing and maintaining retirement plans. The SECURE 2.0 Act introduced three new tax credits for small business owners: the start-up tax credit, the employer contribution tax credit, and the auto-enrollment tax credit. Dive into the eligibility and credit details below.
| Employer size |
Tax credit for start-up costs |
Tax credit for employer contribution |
Tax credit for automatic enrollment |
| Less than 50 employees |
100% of eligible start-up costs |
Up to 100% employer contribution for the first two years; 75% in third; 50% in fourth; and 25% in fifth |
$500 per employer for three years (NOT limited to new plans) |
| 51-100 employees |
50% of eligible start-up costs |
Same as above but phased out based on the number of employees over 50 |
$500 per employer for three years (NOT limited to new plans) |
| More than 100 employees |
0% of eligible start-up costs |
$0 |
$0 |
Starting a plan has never been cheaper for small employers
The start-up tax credit is designed to help small businesses offset the costs of starting and administering a new retirement plan. The credit is worth up to $250 per eligible non-Highly Compensated Employee (HCE) or $5,000 per year (whichever is less) for each of the first three years a plan is in place.
To qualify for the credit:
- The employer must have 100 or fewer employees who were paid at least $5,000 in compensation by the employer in the previous year;
- The plan must cover at least one HCE; and
- Employees were not substantially the same employees who accrued benefits or received contributions in another retirement plan by the employer in the prior three tax years.
Definitions & details
An HCE is an employee who either owned more than 5% of interest in the business at any time during the preceding or current year or, for the prior year, received compensation exceeding $135,000 (indexed each year and is subject to change). Due to the non-HCE requirement, an owner-only employer/business is ineligible for the credit.
Additionally, the employer is ineligible for the credit if it tries to terminate its current 401(k) plan and start a new one to take advantage of this credit. Merely adding a 401(k) feature to an existing profit-sharing plan does not qualify the employer for this credit either.
Qualified costs include any necessary and ordinary expenses related to establishing and administering the new qualifying retirement plan or educating your employees about the new plan.
Eligible employers with up to 50 employees can claim a tax credit for 100% of its qualified costs. Employers who employ 51-100 employees can claim a credit for 50% of the qualified costs. The maximum credit is $5,000 each year except for employers with less than 20 employees. Their maximum is $250 times the number of non-HCEs eligible for plan participation. Eligible employers can always claim a tax credit of at least $500 each year.
Examples
Below are some examples of how the credit would work.
- Employer A employs 12 employees, 2 of whom are HCEs, and is starting a new plan. Since the plan covers 10 non-HCEs, and the employees were not part of another retirement plan by the employer, the employer is eligible. Since there are 12 employees, the employer can claim a credit for 100% of its costs. Since it employs less than 20 employees and has 10 non-HCEs eligible for the plan, the maximum credit is $250 times 10 or $2,500 for qualified costs.
- Employer B employs 40 employees, 1 of whom is an HCE, and is starting a new plan. Since the employer is eligible and employs more than 20 employees but less than 51, the employer can claim a credit of up to $5,000 for qualified costs.
- Employer C employs 95 employees, 5 of whom are HCEs, and is starting a new plan. Since the employer is eligible but employs more than 50 employees, it can claim up to 50% coverage. So, the employer can claim a credit of up to $5,000 but must have at least $10,000 in qualified costs.
Get paid to contribute to your employees’ retirement
The employer contribution tax credit is another new credit designed to encourage small businesses to offer retirement plans to their employees. This credit gives employers up to $1,000 for each employee who makes less than $100,000 in FICA wages if the employer provides a contribution over the course of five years.
This credit has the same first two eligibility requirements as the start-up credit (fewer than 100 employees and at least one non-HCE covered). Unlike the start-up credit, if you previously offered a retirement plan to your employees, you can still claim this credit for the four tax years after the adoption.
Unlike the start-up credit, and regardless of the number of employees, the tax credit will be phased out over five years after adoption. Refer to the table below to see how the credit is calculated and phased out.
| Employer size |
Year 1 |
Year 2 |
Year 3 |
Year 4 |
Year 5 |
Less than 50 employees
(per employee) |
100%
Max. $1,000 |
100%
Max. $1,000 |
75%
Max. $750 |
50%
Max. $500 |
25%
Max. $250 |
51-100 employees
(per employee) |
100% - (2% x (EEs - 50)) |
100% - (2% x (EEs - 50)) |
75% of
Year 2 |
50% of
Year 2 |
25% of
Year 2 |
Example with 60 employees
(per employee) |
100% - (2% x (60-50))
= 80%
Max. $800 |
100% - (2% x (60-50))
= 80%
Max. $800 |
75% * 80%
= 60%
Max. $600 |
50% * 80%
= 40%
Max. $400 |
25% * 80%
= 20%
Max. $200 |
Make it easier for employees to save
The auto-enrollment tax credit is the final new credit introduced by the SECURE 2.0 Act. Starting in 2025, most 401(k) plans must have the auto-enrollment feature. To offset this plan complexity and encourage employees to save, this credit is designed to encourage small businesses to enroll their employees in retirement plans automatically.
The only requirement for this credit is that an eligible employer must have 100 or fewer employees (regardless of HCE status) who were paid at least $5,000 in the preceding year. This credit is available to existing 401(k) plans and profit-sharing plans adding a 401(k) feature.
The credit is $500 per employer for three years. The auto-enrollment tax credit can significantly benefit small businesses, as it can encourage employees to save for retirement. Automatic enrollment has been shown to increase participation rates in retirement plans, as many employees may not otherwise enroll in the plan.