Gain better employee retention while lowering your tax bill with the Pension Plan Tax Credit

Attention small businesses: you may be able to claim a tax credit for some costs of starting a SEP, SIMPLE IRA or qualified retirement plan. A tax credit reduces the amount of taxes you may owe on a dollar-for-dollar basis.

With the Credit for Small Employer Pension Plan Startup Costs, if you start a retirement or pension plan, you can take a tax credit equal to 50% of certain start up costs for each of the first three years of the plan.

The applicable costs for the tax credit include:

  • Expenses to establish and administer the plan
  • Cost of any retirement planning education programs you sponsor for your employees

Pension Plan Tax Credit Amount

Beginning in 2020, the credit is generally limited to $250 per employee per year, but the total limit is no less than $500 and no more than $5,000. (Before 2020, the limit was $500 a year and didn’t depend on the number of employees.)

So, if you spend $12,000 this year in establishing a plan, and $11,000 in the next two years on administration and employee education, you would be eligible for a $500 credit on your taxes in each of those three years if you have one employee, a $1,250 credit if you have five employees, and a $5,000 credit if you have 25 employees.

Applicable Retirement Plans

You can establish several types of plans for your employees and still qualify for the credit. For example, you could start a pension, profit sharing, or an annuity plan, among other choices.

Eligible Employers for the Pension Plan Tax Credit

You must meet several requirements to qualify for this credit:

  • You have 100 or fewer employees who received at least $5,000 in compensation in the year before you start the plan (i.e., you can have more than 100 employees, as long as no more than 100 of them earned $5,000 or more);
  • You had at least one employee participate in the plan who meets the definition of a “non-highly compensated employee.” This is generally someone who makes $120,000 or less a year and is not an owner of the company; and
  • You cannot have had a pension plan during the three tax years right before the year in which you start your plan.

If you had a pension plan in the last couple of years and want to qualify for the credit, consider waiting. You’ll need three years from the time the plan was terminated before starting a new plan to qualify for the credit.

As an example, if you had a plan that was terminated in 2019, you would have to wait until 2023 to start a new plan and qualify for the credit.

More Information

Setting up a retirement plan is a popular strategy to attract and retain talented employees. Our team at Smith Patrick CPAs can help you examine your options for this employee benefit as well as help you with this and any other applicable small business tax credits.

For help with your business strategy or finance needs, reach out to us at 314-961-1600 or schedule directly here to discuss your situation.

David Smith helps businesses and individuals develop smart business practices for tax and accounting advantages as the president of Smith Patrick CPAs. Reach him at 314-961-1600 or schedule directly here.

About Smith Patrick CPA

Smith Patrick CPA is a St. Louis-based, family-owned CPA firm dedicated to providing personal guidance on taxes, investment advising and financial services to small businesses and financially active individuals. For over 30 years, our firm has focused on providing excellent service to businesses, non-profits, individuals and government agencies in St. Louis and the surrounding areas. Investment Advisory Services are offered through Wealth Management, LLC, a Registered Investment Advisor.