PEP for Small Businesses: Benefits and Drawbacks Guide

Retirement planning can be complex, especially for small companies. In recent years, the introduction of Pooled Employer Plans (PEPs) offers a new retirement plan option for employers. PEPs allow multiple unrelated businesses to join and offer a single 401(k) plan. There are potential cost savings and reduced legal liability. Yet there are drawbacks. In this guide, we will explore both. The goal is to give you the knowledge to make an informed decision on the value of PEPs.

How does a PEP work?

A Pooled Plan Provider (PPP) handles the administration of a PEP. Administration includes the responsibility of managing the plan and ensuring compliance with regulations. The PPP may be an HR outsourcing company, a mutual fund manager, a broker, or other qualified individuals.

The Advantages of Pooled Employer Plans

PEPs have the potential to offer advantages for employers and employees alike. They may be able to offer valuable benefits in a concise manner.

1. PEPs are structured to offer cost savings through resource pooling, enabling businesses to benefit from economies of scale and lower administrative costs. By sharing tasks like plan management, audits, and form filing, participating employers can reduce their financial burden.
2. Employers’ fiduciary responsibilities may be reduced. The expertise of the Pooled Plan Provider relieves the burden of selecting and monitoring plan providers.
3. PEPs grant access to professional expertise provided by the Pooled Plan Provider. These experienced providers assist with plan design, investment selection, compliance, and other crucial aspects of retirement plan management, tailoring options to each employer’s specific needs.
4. Establishing a PEP may make employers eligible for tax benefits. The SECURE Act allows businesses to receive tax credits of up to $5,000 for setting up a PEP. Additional tax credits are available for automatic enrollment and employer contributions, offering significant savings.
5. PEPs provide employees with access to a diverse investment menu, similar to individual employer plans. Pooled Plan Providers offer institutional shares and a broader range of investment options. This variety helps employees build well-diversified retirement portfolios based on their needs and risk preference.

The Drawbacks of Pooled Employer Plans

There are potential drawbacks to PEPs. Here are key factors to keep in mind:

1. Limited Flexibility in Plan Design: PEPs have a drawback in terms of limited flexibility in plan design. The Pooled Plan Provider determines plan features and investment options, potentially misaligning with employers’ intent. Employers may want more control. Eligibility criteria, vesting schedules, matching formulas, and other design aspects can not align with some employers.
2. Potential Conflicts of Interest: There is a risk that the provider may prioritize investments or services based on their financial interests. Employers must review provider practices to ensure they align with employees’ best interests. Don’t be misled that all fiduciary responsibilities are eliminated.
3. Limited Investment Menu Options: Many PEPs offer access to a diverse investment menu. However, it may be limited based on the employer’s employee needs. The Pooled Plan Provider determines available investment options, potentially restricting employers’ ability to tailor investments to employee desires and goals.
4. Potential Targeting by Regulatory Authorities: Given their novelty, PEPs’ future is not clear in terms of oversight. The IRS and DOL made clear in a February report that PEPs with 100 participants or more are subject to audit. This is different from the previous understanding based on the Setting Every Community Up for Retirement Enhancement Act of 2019. The act had suggested a 1,000-participant limit for audits. Employers must stay informed about rule changes so they comply with ever changing regulations.

Employers Should Approach PEPs Cautiously

Thoroughly consider the risks and benefits while considering your business needs and goals. Seeking direction from retirement plan experts and conducting complete due diligence on the Pooled Plan Provider are critical steps to avoid potential risks and make informed decisions.

Comparing PEPs to SEPs, SIMPLE and 401k

PEP retirement plans offer distinct differences compared to other employer retirement plans, like SEP IRAs, Simple IRAs, and 401(k) plans. Here’s a concise comparison:

1. SEP IRA: PEPs differ from SEP IRAs in structure and participation. PEPs are retirement savings plans with multiple employers, while SEP IRAs are individual retirement accounts started by employers. The critical advantage of PEPs is the shared costs and professional help provided by the Pooled Plan Provider (PPP), handling plan administration for all employers using the plan. In contrast, SEP IRAs are managed by each employee, placing administrative responsibility solely on each employer.
2. Simple IRA: PEPs allow more flexibility in plan design, giving employers greater control over who can be in the plan and plan features. In contrast, simple IRAs have specific contribution limits and eligibility requirements, and they may be simpler to start and manage.
3. 401(k) Plans: PEPs and traditional 401(k) plans differ significantly. PEPs enable multiple businesses to offer a single 401(k) plan, while individual employers establish traditional 401(k) plans. PEPs may offer cost savings through shared administrative costs and provide access to professional expertise via the Pooled Plan Provider. Traditional 401(k) plans offer employers more control over plan design and investment options but require employers to handle primary plan administration responsibilities. Don’t blindly accept that all PEPs are less expensive than traditional 401k plans. Take time to compare.

When picking a retirement plan, consider factors such as administrative preferences, cost, investment options, and eligibility requirements. Evaluating your company’s specific needs will determine the plan—PEP, SEP IRA, Simple IRA, or 401(k)—that best aligns with your goals and your employees’ needs.

Is a PEP Right for Your Business?

Deciding whether a PEP is the right choice for your business requires careful consideration of your specific needs and circumstances. Here are some factors to consider:

1. Size of Your Business – PEPs can be particularly helpful for small and mid-sized companies that may not have the resources or professional help to start and manage an individual employer plan. By joining a PEP, these companies can take advantage of cost savings and professional help that may otherwise be out of reach.
2. Administrative Burden – Consider the administrative burden that goes with managing a retirement plan. A PEP may be a viable option to reduce your fiduciary responsibilities and make simple plan administration. The Pooled Plan Provider handles many administrative tasks, helping you to focus on other aspects of your business.
3. Investment Options – Evaluate the investment options available through a PEP. If giving employees with diverse investment choices is a priority for your business, ensure that the Pooled Plan Provider offers a robust investment menu. Consider whether the options align with your employees’ investment desires and risk tolerance.
4. Cost Considerations – Compare the costs of establishing and maintaining a PEP versus an individual employer plan. While PEPs can offer cost savings through shared administrative expenses, assessing the Pooled Plan Provider’s fees and considering the plan’s overall cost-effectiveness is essential.
5. Future Growth and Flexibility – Consider your company’s future growth plans. If you look forward to significant growth or changes in your employees, consider whether a PEP can help your changing needs. Assess the flexibility of the plan design and the ability to change as your business grows.

Conclusion

Pooled Employer Plans (PEPs) offer small and mid-sized businesses an opportunity to provide retirement benefits to their employees with potential cost savings and reduced administrative burden. While there are advantages to joining a PEP, such as lower fiduciary responsibilities and access to professional know-how, employers must also consider the potential limitations and drawbacks. A careful review of your company’s specific needs and circumstances is crucial in determining whether a PEP is the right choice. By weighing the pros and cons and consulting with Richards Financial Planning, you can make an informed decision that best serves your business and your employees’ retirement goals. Click below to learn more from our retirement plan expert.