A 401(k) retirement savings plan may be the best thing that has happened to farm employees since automation replaced the scoop shovel.
It wouldn't be surprising for even a lower paid employee, with a pretty small contribution, to build a $100,000 retirement savings in less than 20 years. For some employees, their 401(k) plans will make them millionaires.
Employees in an Arizona and California hog operation have been offered a 401(k) plan for just over three years. PFFJ (Pigs For Farmer John), Inc. -- Cork Pork Co. in Snowflake, AZ, and Corcoran, CA, offer 401(k) as an employee benefit, according to human resources manager Susan Howard. PFFJ-Corc Pork has about 140 employees in their Arizona operations and about 95 employees at their California facility. They produce and finish pigs from about 22,000 sows.
An employee who has been in their plan three years with wages of $20,000/year and invests 5% of his pay in the plan will now have more than $5,840 in retirement savings. This is probably conservative because it assumes no wage increase and only a 6% return on investment.
At first glance, a tax deductible, tax deferred retirement savings plan for employees might look way more beneficial for your employees than for you. They're the ones who will see their savings grow -- often to hundreds of thousands of dollars.
Employers will likely contribute some of the money that goes into that nest egg. However, as an employer, your cost can be very low. There will be some administration costs. But you don't need to contribute anything for employees, unless you want to.
Nobody can realistically measure the value an employer gets from helping employees become more financially secure. But, employees certainly measure the dollars building up in their 401(k) investments when they get their reports.
Employers who have given their employees a chance to invest in 401(k) retirement plans list several benefits for themselves, says Paul Christoffers, a retirement and benefits planning specialist in Ankeny, IA. He has helped a number of farmers and other agricultural employers set up 401(k) and other retirement plans.
"It definitely improves employee morale," he says. "Employees see that the employer is doing something extra for them. That helps retain high quality employees. Employees also talk about benefits and that helps attract other good employees."
If you're both an owner and employee of your business, you get to build savings with the 401(k) plan, too. In fact, if your salary is high, you may be the biggest single contributor, beneficiary and tax saver of all the employees.
Popular Employment Benefit The strange name, 401(k), comes from the Internal Revenue Code that created these retirement savings plans as part of the Tax Revenue Act of 1978.
Total assets in 401(k) plans at the end of 1997 were projected at $830 billion and growing fast, says Christoffers. He notes that about 83% of companies with 1,000 or more employees offer 401(k) retirement plans. Of employers with 5 to 99 employees, about 10% have 401(k) plans.
The retirement plan's popularity is growing fast. Within three years, assets in 401(k) plans are expected to increase by more than 52% -- totaling about $1,265 billion.
Part of the message here is this -- more of your competition for employees may be offering the plan.
For an increasing number of companies and their employees, 401(k) plans have become the retirement program of choice," says Christoffers. "The reason is simple.
Few retirement savings options offer the high contribution levels, investment controls and tax benefits that a 401(k) plan offers."
Four Kinds Of Contributions There's a lot of flexibility in 401(k) plans. The employer and employee may both put money into the employee's plan. Or, just the employee might contribute.
For example, let's assume you have a 401(k) plan and "Sam" is one of your employees. Here are four plan options and an example for Sam. You may go with one, two, three or all four.
1. The employer's basic contribution. You, the employer, may choose to put in a percentage of each employee's earnings. Say that amount is 1% of the employee's salary. 2. Sam earns $25,000/year. You would put the first $250/year in his 401(k) account.
Understand that the employer is not required to contribute anything. A contribution by the employer, however, encourages employees to put in some of their own money so they can capture what the employer offers. Many plans don't give the employee anything unless he invests some of his own money.
2. The employee's contribution. You set the percentage of pay that an employee can invest, usually from 1% to 15% of pay, but no more than $9,500 (in 1997). The dollar maximum is indexed for inflation so it will be a little more this year. The employee then determines what percentage of his pay he wants to invest.
Sam, for example, might decide to participate at 7% of his pay. That would be $1,750/year ($25,000 x 7%). That amount would be deducted from his pay at the rate of 7% each pay period. The money is immediately invested.
The subtotal so far for Sam is then $2,000 -- your $250 plus his $1,750.
3. Employers often match part or all of the employee investment. Say you decide to match 25% of the employee's contribution (instead of just the 1% of annual salary). In that case, you would add $437.50 during the year (some each pay period) to Sam's 401(k) account (his $1,750 contribution x 25%).
The subtotal for Sam then increases to $2,437.50.
4. Contribute to each participating employee's account based on profits for the year. Say your profit was good last year and you decide to add 2% of the employees' pay this year as a profit-sharing bonus for the coming year.
For Sam, that means you'll add another $500 to his 401(k) account, bringing the total for the year to $2,937.50.
That would be a pretty generous plan, says Christoffers. The employee would put in $1,750 and get $1,187.50 added by the employer. That would be like an instant 67.8% return on the employee's investment.
PFFJ-Corc Pork Plan "At PFFJ-Corc Pork, employees can put 1% to 15% of their pay into the 401(k)," Howard says. "The company doesn't match any of the employee contributions. But we do have a profit-sharing bonus that goes into every eligible employee's 401(k)."
The profit-sharing bonus has averaged about 4% of the employee's pay in recent years, Howard says.
Consider an employee earning $20,000 a year, contributing 5% of his pay and having 4% of the pay added to his 401(k) at the end of the year as a profit-sharing bonus. He will invest $1,000 of his own money and PFFJ-Corc Pork would add $800. His fund at the end of the year will be $1,800 plus interest or growth.
Of course, if he invests in the more risky funds and they drop in value, his account could have less than $1,800 at year-end. But, over the long haul, those investments have been very good for many participants in these plans.
At PPFJ-Corc Pork, employees become eligible for the 401(k) after one year of employment, Howard adds.
Five investment options are available. An employee could choose to put 100% of his investment in one option, 20% in each of the five options available, or any other mixture. The only rule is that the investments have to be in increments of 5%.
Howard estimates that the average contribution by their employees is about 6% of their pay.
While Howard reports that about 65% of their employees contribute some of their own money to the 401(k), every employee who is eligible for the profit sharing is actually a participant. Everybody's profit-sharing bonus goes into the 401(k), whether or not employees invest any of their own money.
The PFFJ-Corc Pork 401(k) plan includes an incentive to keep working at PFFJ-Corc Pork. An employee has to be "vested" to receive all the profit-sharing money if he leaves the company. Say he got $800 of profit-sharing money invested in his 401(k) less than a year ago. Then, he takes another job. He would not get any of the $800 because he is not vested.
However, for each year he stays after receiving that profit sharing, he's 20% vested. He's fully vested after five years and the $800 is his to take if he leaves.
The Income Tax Angles None of the 401(k) money is taxable to Sam as he invests in and earns interest or growth from the 401(k). Instead, the $1,750 Sam invested in the 401(k) retirement plan is tax deductible for him. In practice, it doesn't even show up on his W-2 form as wages for income tax that he sends to the IRS with his income tax returns. It is, however, subject to the Social Security (FICA) tax.
At his income level, Sam is in the 15% federal income tax bracket. And we'll assume he pays state income tax at a 6% rate (a total 21% income tax). Therefore, not having to pay tax on that $1,750 saves him $367.50 ($1,750 x 21%). His after-tax cost is $1,382.50. That's his out-of-pocket cost to have $2,937.50 invested for his retirement in this example.
You, the employer, would get to deduct all the $1,187.50 you contribute to the 401(k) plan for Sam in this example. If you're paying federal tax at the28% rate and state tax at, say 10%, you'll get 38% of that ($451.25) back as tax savings. Your after-tax cost would then be $736.25 in this example.
Realize that 401(k) plans are very flexible. You might choose to contribute only 1% of the employee's pay. In that case, your cost for Sam is only $250. After tax, it is only $155.
Or, you might choose to not contribute anything. Then your only costs would be for setting up the plan and annual administration fees. Most employers, however, either make a basic contribution or provide some matching dollars as an incentive to employees to participate.
In a business like hogs where you expect ups and downs in prices and profit, you might want to consider a profit-sharing kind of contribution. In strong profit years, you might match a good amount of what the employees put into their 401(k) accounts. In bad years, you might not contribute anything.
Tax-Deferred Growth Anytime you invest money, you expect it to grow. The money put into 401(k) plans can be invested in various kinds of investments from safe, savings-type accounts to more risky stock investments.
The interest and growth is tax-deferred, too. None of the money put into a 401(k) plan and none of the growth on it is taxed until the employee withdraws it to use in his/her retirement.
Like other retirement plans such as IRAs, Keoghs and SEPs, there can be harsh penalties if employees withdraw money from their 401(k) plan before age 591/2. Plans can allow penalty-free withdrawals for certain things. But employees should always be urged to check with their tax advisors before making any early withdrawals.
The sidebar on page S-6 shows the tax benefit of saving for retirement with tax deductible investments and tax-deferred growth.
Costs, Providers You, the employer, are going to make decisions about a 401(k) plan if you add it to your stable of fringe benefits. But somebody else is going to do most of the work.
An administrator will make sure your plan follows all the Internal Revenue Service rules and that the plan doesn't discriminate against certain classes of employees. A "top heavy" plan, for example, favors high-paid executives in the company over lower-paid employees. That's illegal.
You must hire an administrator to do that checking and the administrative paperwork. Christoffers says typical fees for an administrator to set up a new 401(k) will usually run about $1,000 in his area. Annual fees vary depending on the number of participants and the services provided. At PFFJ-Corc Pork, Howard says the annual fee is about $5,000. With fewer employees and in other areas, that fee could be somewhat less.
A fiduciary (usually a bank, mutual fund or insurance company) is named to receive and invest the money in the account.
Providers or marketers, like Christoffers, for example, represent a company that manages the investments and is paid by that company. He's the person who deals directly with the employers to educate and encourage the employees to participate in the plan. Providers, along with the company they represent, will usually furnish all the literature you need to distribute to employees.
"We call that person our recordkeeper," says Howard. "When a new person qualifies, our recordkeeper looks at the pay that person receives and projects what they will have in savings based on different percentages they might invest (in the account) and when they might start. They do a comparison if the employee starts now or waits five years. It's amazing the advantage of starting now rather than waiting five years, even if the person makes $20,000 a year.
"It's also amazing how much that person earning $20,000 a year can build in savings if he has 30 or 40 years to do it," he adds.
Choose A Good Provider Competition to sign up smaller companies has become fierce since most bigger companies already have 401(k) plans.
You may want to look at several and choose the one that fits you best. Here are some things to look for in a provider:
* Financial stability - Check their credit to see how they rate. Your own accountant can help you check them out.
* Recordkeeping ability - Check their references with other clients to see how accurate and timely they are in giving you and your employees reports.
* Investment alternatives - You don't want to offer your employees so many different choices of investments that they get confused. But your provider ought to be able to give at least five choices of investments with a range of investment objectives from conservative to at least somewhat risky.
* Investment performance - Check the track record of the investments the provider offers. Compare with averages and what others have done.
* Service - You want a provider who will respond quickly when you have questions. You also want a provider who will give employees information about their investments promptly. You'll find some employees who want to check their funds often. Others will wait for regular reports.
* Education - Find out what the provider will do in terms of educating your employees about the opportunities of a 401(k)
* Your comfort level - You're going to work with the people involved in your 401(k) for a long time. A key ingredient will be how comfortable you feel with the people involved.
Is SIMPLE Better? Employers with fewer than 100 employees have a choice of another retirement plan that's similar to the 401(k). The Savings Incentive Match Plan for Employees (SIMPLE) offers less administration, but it also is more restrictive.
SIMPLE doesn't require an administrator. That might save you an estimated $1,000 set-up fee and $500-1,000/year. However, the maximum contribution by an employee is $6,000.
Another potential drawback is that you, the employer, are required to either match the first 3% that employees contribute or contribute 2% of the compensation of all eligible employees whether they participate with their own contributions or not.
