Planning Options with 401(k)s

Adopting a 401(k) plan represents a commitment by you that will affect your compensation policy for many years. Regardless of the choices you make on the following issues, you will need assistance from financial and legal professionals. This discussion is designed to get you thinking about some basic decisions and issues that you'll need to consider in offering a 401(k) plan.

To contribute or not to contribute? A plain-vanilla 401(k) plan that only provides for elective contributions from employees would cost you very little but would allow you to offer a plan for yourself and your employees to save and shelter income from tax. If you decide to contribute matching funds to the plan, however, it will obviously have a greater impact on your business's bottom line. A matching feature may increase employee participation, however.

Although a plan may finance contributions solely through salary reductions, a high employee contribution rate may create pressure on employers to provide salary increases to cover plan contributions. If you do decide that you want to match funds, you must then think about whether or not you'll be able to meet that ongoing financial obligation. Matching contributions are a cost that the employer cannot control once the matching formula is set because you cannot control how much employees contribute (though you can set an upper limit of a certain percentage of an employee's compensation, such as 5 or 10 percent).

Investment issues. Once the funds are in an account, they must be invested. This brings up another set of questions. Should employees be allowed to control the investment of their own accounts? Should they be given a few carefully considered investment alternatives? Should investment decisions be made by the plan administrator? While a broad range of investment options is one means of attracting more employee participation, it will also increase the complexity of plan administration.

Borrowing issues. Because funds in a 401(k) plan are subject to stringent restrictions on withdrawal, employees may be reluctant to tie up their money for a long period of time. Some plans allow employees to borrow against their money, with interest. Allowing employees to borrow from the plan may encourage employee participation, especially among low-paid employees. Of course, it means additional administrative time and cost.

The more flexible and sophisticated your plan is, the more complex and costly its administration becomes. Your best bet is to keep it as simple as possible. When your business grows, you can always make your retirement plans more sophisticated.