A burst of startups in 401(k) plans came out of tax credits, state mandates

The age of startup retirement savings plans may just be getting started.

Cerulli Associates, for one, anticipates a surge in 401(k) plans, projecting more than 900,000 by 2028, or roughly 230,000 more than there were in 2022.

“By the end of the decade, we could be looking at close to 1 million 401(k) plans,” said Shawn O’Brien, Cerulli’s director of retirement, during a March 21 webinar on the U.S. retirement market.

Record keepers for retirement plans are also bullish.

Guideline, a San Mateo, Calif.-based digital record keeper, for example, is seeing sharp growth in first-time plans, signing up roughly 13,195 plans in 2023, more than double the 6,510 plans logged in 2020.

“We’re seeing continued rapid growth in new plan creation,” said Jeff Rosenberger, Guideline’s chief operating officer.

Other record keepers are also posting robust growth. Human Interest, a San Francisco-based digital record keeper, served a total of 10,204 startup plans in 2023, up 33% from 7,646 in 2022. Principal Financial Group had approximately 7,800 startup plans in 2023, up fourfold from 1,800 in 2020, said Lance Schoening, Principal’s director of policy.

“I think that momentum is just going to continue to grow,” he said.

The uptick is welcome news for an industry that has long struggled to close the “coverage gap,” a reference to the roughly 50% of private sector workers who do not have access to a workplace retirement savings plan.

Legislation passed in 2019 and 2022 known respectively as the SECURE Act and SECURE 2.0 Act included generous tax incentives to motivate small business owners to offer plans, a perk that industry observers say is now factoring into the decision-making of entrepreneurs. The tax incentives are generous, but complex, experts said.

Another powerful force pushing new 401(k) plans stems from the proliferation of state-run retirement savings programs, better known as auto-IRA programs. Employers operating in auto-IRA states are required to enroll their workers in the state-run program if they don’t offer a workplace retirement savings plan themselves.

Other factors are also boosting new plan formation. A competitive labor market and a demanding young workforce that expects a retirement plan as part of their benefit packages are also driving the momentum.

Take Jonathan Halpert, owner and chief medical officer of independent urgent care practice Priority 1 Urgent Care, which he launched in 2019.

Halpert, 61, is looking to have a retirement plan in place for his staff of 15 full- and part-time employees by midsummer for a variety of reasons, beginning with his own desire to see employees start saving for retirement sooner than he did.

Halpert said he wanted to do whatever he could to support people’s retirement in “some way, shape or form, or at least get that into people’s heads, so they’re thinking about it and acting on it in some way.”

Tax credits and the labor market dynamics also factored into his decision to offer a workplace plan but not to the same extent as the feeling that it was simply the right thing to do for his staff.

“If there's a tax break for it, we'll take it. Obviously, we're not going to thumb our nose at that, but that's not the motivating factor necessarily,” Halpert said.

While Halpert acknowledged that the tight labor market made it hard to retain people for any meaningful period of time, he wasn’t entirely convinced that a retirement plan would make a difference in recruiting and retention.

“We don’t know if it’s going to help, but it’s not going to hurt,” he said, adding that “there’s no slam-dunk formula for success” in today's post-pandemic period.

It’s hard to determine what is most driving small business owners to offer new plans, Guideline’s Rosenberger said, explaining that tax credits, state mandates and other factors are all “helping to accelerate new plan creation.”

Guideline has seen momentum in both auto-IRA and non-auto-IRA states, he said.

The firm saw an enormous uptick in first-time plans in California in the first half of 2022, which aligned with the state’s deadline for employers with five to 50 employees to register with CalSavers, California’s state-run auto-IRA program. It is also seeing “a healthy amount of new plan creation” in Colorado, which launched its program last year and drew those of Maine and Delaware to its interstate auto-IRA consortium.

However, activity has also been strong in Florida and Texas, which don’t have auto-IRA programs. “They’re two of our larger states where we have customers,” Rosenberger said.

The demand for first-time retirement plans in these two “great, big, sizable states” is likely due to tax credits and labor market dynamics, he said.

Principal’s Schoening also attributes the upswing in first-time plans to factors including tax incentives and state mandates.

In particular, Schoening sees tax credits as an inducement to get employers to the finish line. “We do know that costs are a top-level concern for small- and medium-sized businesses when they’re evaluating retirement benefits, and clearly the tax incentive helps to offset that,” he said.

However, he and other record keepers note that many employers are not aware of the tax credit, making it essential that they educate their clients about the incentive.

“What we’re finding is that many business owners aren’t fully aware of the massive benefits these incentives provide and how readily available they are to those who qualify if they’re familiar with the tax credits at all,” said Wendy Baker, associate general counsel, retirement products and compliance, at Human Interest.

Even for employers aware of the credit, some industry experts wonder whether they would go to the trouble of filing for the credit.

“A tax credit for small employers might seem generous, but if the employer has to pay an upfront fee for starting a plan but cannot get the tax credit for several months due to the time it takes to file the tax return and then processing the return, the credit might be less appealing,” said John Scott, project director of retirement savings at the The Pew Charitable Trusts.

That’s why Guideline’s Rosenberger is pushing for the tax credit to be available at the point of sale, much like the credits now available for the purchase of electric vehicles.

“To the extent there’s an opportunity to do something like that, we think that could be incredibly impactful and accelerate new plan creation even more dramatically than we’re seeing today,” he said.

The enhanced tax incentives under SECURE 2.0 are generous but complex. Employers with up to 100 employees can receive a maximum tax credit of $5,000 annually for three years. Those with 50 or fewer employees receive a tax credit equal to 100% of their plan start-up costs, up to the $5,000 annual cap, while those with more than 50 employees receive a tax credit equal to 50% of their costs, up to the $5,000 annual cap.

On top of that, employers with 100 or fewer employees that add auto-enrollment to their plans are eligible for an additional $500 annual tax credit for three years.

In addition, there’s a perk for employers that make contributions. Employers with 50 or fewer employees receive an additional tax credit based on a percentage of employer contributions made to employees, up to $1,000 per person. For employers with more than 50 employees, the credit is reduced by 2% for each employee in excess of 50.

“It is a little complicated,” Rosenberger said, making a final pitch for a different way to make the credits available to entrepreneurs.

If the credits were given at the point of sale, “it just comes off the net purchase price, which is very easy for a small business owner to see,” he said.