CalSavers vs 401(k)

March 2, 2020

CalSavers vs 401(k)

Very soon, most California businesses will be required to have some type of retirement plan in place.  Either an employer sponsored retirement plan or the newest California government option CalSavers.  I have always been a big believer in saving for your retirement.  Many of us will get there, and I have never heard someone say, “I’ve saved too much for retirement” (except maybe Bill Gates or Warren Buffett).  I’ve also seen people who make a sizable annual income and still not save for their retirement. The reality is, many of us spend what we make. But regardless of how much you save, the discipline of saving is going to be a discipline you will always be thankful you started.  

During retirement plan enrollment meetings, I ask the group... “do you want to drink more beer or less beer (you can insert anything here, more wine, more Starbucks, etc.) when you retire? Invariably, I always get a good laugh and hear with conviction, more beer. But if you want to drink more beer, you better start saving now, because having access to only monthly Social Security payments probably won’t cut it.  

Social Security was never meant to be the sole income for people in retirement, it was meant to be an augmentation to help in your years of retirement. But over the years, many people have become fully dependent on it. But that dependency takes a toll, because the average monthly Social Security payment is only $1,500 ($18k annually). That’s not much, which is why I imagine California leaders thought people aren’t saving enough and they needed to do something about it. Makes sense but the question is, do you want to use CalSavers or a company-controlled plan like a 401(k)?  A Simple IRA is another option, but we will focus on 401(k)’s since they are more mainstream.  

CalSavers: 

State law requires that California employers who don’t already offer an employer-sponsored retirement plan and who have five or more employees, either sponsor a retirement plan or participate in CalSavers.  The three-year phased rollout includes staggered deadlines for registration based on employer size.  Below are the requirement dates for CalSavers…

  • 100 employees or more – By June 30th, 2020
  • 50 employees or more – By June 30th, 2021
  • 5 or more employees – By June 30th, 2022

CalSavers will essentially be an individual Roth IRA with maximum contribution levels set each year.  For 2020 the maximum is $6,000 annually (or $7,000 if you are over 50 years old).

Employees will be opted in automatically at 5% but can change to 1% (up to the IRS maximum) or can completely opt out altogether.  Employees will also be able to invest in target date funds and other mutual funds that have already been vetted and approved by CalSavers. 

Employers will send employee information to the CalSavers website, send withholding information to CalSavers after payroll has run and have multiple options on how to send the withheld employee funds to CalSavers.  

401(k) Retirement (2 plan design types): 

Option 1: 401(k) Traditional 

This is the original option and provides the most flexibility for plan design and creation.  Plus, this plan does not require a company match.  The employer can always add a match down the road.  When setting up this plan, you need to decide on a few things:

  1. Eligibility: This is when you will allow your employees to participate.  You have many options here.  It can be immediate, 3 months, 6 months, or the maximum 1 year of employment (and 1,000 hours in that year).  You will also need to decide on the age requirement with a maximum of 21 years old.   
  2. Company Match:  This is completely optional.  Some companies just want to give their employees an option to save and will consider a match down the road.  That’s okay, the fact you are giving your employees a retirement vehicle is significant.  It is much easier for employees to create the saving discipline when the money comes right out of their paycheck.  There are lots of matching options available if you decide to add this.  
  3. Vesting:  How long does an employee have to wait before they have full access to the funds if they do get a matching contribution or year-end contribution from the employer?  Example, if the employer gives a $10 contribution to the employees 401(k) plan and that employee leaves their employment the next day, how much of that money goes with them?  See the typical options below:
(a) Immediate:  Employees get access to the funds as soon as they are provided.

(b) Cliff Option:  Employees get access after a longer period of time.  Cliff is 0% for two years and 100% in the third year.

(c) Graded Option:  Employees get a portion of those matching contributions each year.  Graded equates to 0% first year, 20% second year, 40% third year, 60% fourth year, 80% fifth year, and 100% sixth year. 

Like a company match, vesting can be customized and formulated in other configuration options to best meet the needs of the business.  

An important element to consider in a Traditional 401(k) plan is the test mandates.  This can be a challenge if owners or highly compensated employees hope to maximize their contributions. There are two testing mandates in the Traditional 401(k).  First, is a test called the ACP/ADP test.  The ACP/ADP test measures that any owner or highly compensated ($130k for 2020) isn’t contributing more than 2% greater than the average of all the eligible non-owner or non-highly compensated employees. Second, is the top-heavy test.  The Top Heavy test confirms that owners (company officers too, if they meet income maximums) only have 60% of the total assets in the plan.  This is only an issue when business owners (or highly compensated individuals) tell me they want to max out their 401(k) plan contributions, because their contributions are dependent on the employee contribution levels.  If maxing the plan is not a concern to the owner, this is a great option because like I said, it has tons of flexibility.  

Option 2: 401(k) Safe Harbor Plan

This is a very popular choice because using this option automatically satisfies the ACP/ADP and Top-Heavy testing.  Which means that regardless of what the employees contribute, owners and highly compensated ($130k for 2020) employees can contribute the annual maximum without restrictions.  With this option, you can also choose the same eligibility options noted in the Traditional 401(k) section.  One of the caveats to the Safe Harbor option is that you are required to do a matching contribution or year-end contribution.  You would need to decide on one of the following contribution options:

  • Basic Safe Harbor Match: The formula is 100% of the first 3% and 50% of the next 2%.  Therefore, if the employee contributes 5% you would match 4%.  Example, an employee makes $1,000 per weekly pay period, if they contribute 5% (or $50 dollars) you would contribute 4% (or $40).  The $40 dollars would be your maximum financial exposure with this employee.  Because even if they contributed $200 per pay period, you would still only need to contribute $40 dollars. 
  • Enhanced Safe Harbor Match:  The formula is 100% of the first 4%.  Just like the Basic Match, employees would need to make a contribution to receive any match.  
  • Non-Elective Safe Harbor: As long as the employee has met their eligibility requirement, the employee would get a 3% annual contribution based on their salary.  For example, if an employee earns $50k per year, the annual non-elective contribution for that employee would be $1,500.

Another caveat is that you are not able to have a vesting schedule.  Unlike the Traditional 401(k) above, employees would be 100% vested immediately.  Meaning, if you make a contribution to the employee’s retirement account and they leave your employment the next day, they take those funds with them. 

A good TPA or broker and even your CPA can help you decide what choice is the best for you.  With a 401(k) you will need a TPA/Recordkeeper to do all the administrative work for you.  There are initial documents that need to be created and ongoing items that need to be managed correctly along the way and you will want to find a good company to perform these duties. 

If you don’t have a company sponsored retirement plan yet, get started on your research soon.  Your date requirement will be here sooner than you think.  Plus, it’s never too soon to start saving because retirement will be here before you know it.  

Written by Glen Drouin, founder and owner of Harbor HR, LLC.  Glen has 13 years experience working with his Father’s business and 20 years experience as an HR and business consultant. You can reach Glen at 916-293-2116 or e-mail at glen@harborhr.com

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