401k Plans
A 401(k) Plan is one of the most flexible qualified retirement plans available. This type of plan allows for employee and employer contributions that are tax-deferred and tax-deductible.
Employee Contributions:
Pre-Tax Option – Each plan participant can defer part of his/her compensation to the plan as a pre-tax salary deferral, up to the allowable IRS limit* of $23,500 (2025 limit, indexed annually). Participants age 50 or older can also defer an additional catch-up contribution of $7,500. Beginning in 2025, participants who attain age 60, 61, 62 or 63 during the year can make “Super Catch-Up contributions”, if allowed by the plan. The Super Catch-up limit is $11,250 (2025 limit, indexed annually), rather than the standard $7,500 catch-up limit.
After-Tax Option (ROTH) – Each plan participant can defer part of his/her compensation to the plan as an after-tax salary deferral, up to the allowable IRS limit* of $23,500 (2025 limit, indexed annually). Participants age 50 or older can also defer an additional catch-up contribution of $7,500. Beginning in 2025, participants who attain age 60, 61, 62 or 63 during the year can make “Super Catch-Up contributions”, if allowed by the plan. The Super Catch-up limit is $11,250 (2025 limit, indexed annually), rather than the standard $7,500 catch-up limit.
*The IRS limit applies to the cumulative total of pre-tax and ROTH employee contributions.
Employer Contributions:
In addition to salary deferrals, an employer may make a profit sharing contribution of up to 25% of total participant covered compensation (IRS 404 limit**) as a tax-deductible contribution for the Company. Additional employer contributions, such as company match or safe harbor contributions, are also allowed in a 401(k) plan and are a tax deduction for the employer and may be subject to a vesting schedule.
**For tax deduction purposes, the total of all employer contributions (profit sharing, employer match and/or safe harbor) cannot exceed 25% of total participant covered compensation; however, if paired with a pension plan such as a Cash Balance DB Plan, the total deduction limit may be limited to 6% of total participant covered compensation. Benetech’s consultants can assist with more information on combined plan limits.
The total of all employee and employer contributions cannot exceed 100% of a participant’s compensation or $70,000 (2025 limit, indexed annually) and 50 or older limit to $77,500 or if age 60, 61, 62 or 63 and the 401(k) plan allows for “Super Catch-up”, $81,250.
Employer contribution formulas can be designed based on the Employer’s objective.
Basic (Pro-Rata) Employer Formula – each participant receives the same percentage of compensation as an employer contribution (up to the allowable IRS limits).
Integrated with Social Security – this allows a slight skewing of contributions in favor of employees making more than the Social Security wage base.
Tiered Employer Formula – splits participants into different category tiers (example: Owners and Others) and provides a maximum percentage of compensation to the owner for as little as 5% of compensation to all others. This formula is subject to age-based discrimination testing which benefits older owners.
Basic (Pro-Rata) Formula vs. Tiered Formula Analysis:
In both plans, the owners (both eligible for the standard catch-up) are deferring the $30,500 maximum (based on 2025 indexed limits). However, the Tiered Formula increases the profit sharing allocation to the owners by $24,000 ($12,000 each), while – at the same time – lowering the company’s overall contribution by $4,599.
| Age | Salary | Basic Plan | Tiered Plan | Difference |
Owner 1 | 51 | $140,000 | $65,500 | $77,500 | $12,000 |
Owner 2 | 55 | $140,000 | $65,500 | $77,500 | $12,000 |
Employee A | 50 | $55,000 | $13,750 | $4,658 | ($9,092) |
Employee B | 41 | $36,000 | $9,000 | $3,049 | ($5,951) |
Employee C | 32 | $32,000 | $8,000 | $2,710 | ($5,290) |
Employee D | 27 | $25,000 | $6,250 | $2,117 | ($4,133) |
Employee E | 39 | $25,000 | $6,250 | $2,117 | ($4,133) |
Total (including deferrals of the owners): | $174,250 | $169,651 | ($4,599) | ||
Employer Match Formula – provides an Employer contribution based on the amount of each participant’s total Salary Deferral. This formula can be a fixed amount or determined by the Employer on a discretionary basis each year.
Safe Harbor Formula – provides a required Employer contribution to each participant based on a percent of compensation (i.e. 3%) or a percent of their amount deferred (i.e. 100% of the first 4% of compensation deferred). This formula allows for the annual non-discrimination testing that is required to be performed on Salary Deferrals to be waived, as Safe Harbor contributions are required to be contributed by the employer and must be immediately vested. If a 401(k) plan includes a Safe Harbor Formula, a special notice is required to be given to participants at least 30 – 90 days prior to the beginning of each plan year that explains who is eligible to receive a Safe Harbor contribution and details when the contribution will be determined and deposited for the plan year.
Combined Plans - A 401(k) Plan can also be combined with a pension plan, such as a Defined Benefit or Cash Balance Plan. Plan sponsors looking for the largest tax deductible employer contributions and also for the ability to allow employee deferral contributions should consider a combined 401(k) and pension plan. Benetech is an expert in designing combined plan arrangements.