Retirement plans startup costs tax credit

Eligible employers may be able to claim a tax credit of up to $5,000, for three years, for the ordinary and necessary costs of starting a SEP, SIMPLE IRA or qualified plan (like a 401(k) plan.) A tax credit reduces the amount of taxes you may owe on a dollar-for-dollar basis.

Eligible employers

You qualify to claim this credit if:

• You had 100 or fewer employees who received at least $5,000 in compensation from you for the preceding year;
• You had at least one plan participant who was a non-highly compensated employee (NHCE); and
• In the three tax years before the first year you’re eligible for the credit, your employees weren’t substantially the same employees who received contributions or accrued benefits in another plan sponsored by you, a member of a controlled group that includes you, or a predecessor of either.

Amount of the credit

If you have 50 or fewer employees who received at least $5,000, the credit is 100% of eligible startup costs, up to the greater of:

• $500; or
• The lesser of:
  • $250 multiplied by the number of NHCEs who are eligible to participate in the plan, or
  • $5,000

  If you have 51-100 employees who received at least $5,000, the credit is 50% of your eligible startup costs, up to the greater of:

  • $500; or
  • The lesser of:
    • $250 multiplied by the number of NHCEs who are eligible to participate in the plan, or
    • $5,000.

    Eligible startup costs

    You may claim the credit for ordinary and necessary costs to:

    • Set up and administer the plan, and
    • Educate your employees about the plan.

    Tax credit for plan contributions

    Small employers may claim a tax credit for plan contributions made to a defined contribution plan, SEP or SIMPLE IRA plan. The tax credit is not available for contributions to employees earning more than $100,000 (for 2023).

    For employers with 1-50 employees, the tax credit available for each participant is:

    • First plan year: 100% of contribution, up to $1,000
    • Second plan year: 100% of contribution, up to $1,000
    • Third plan year: 75% of contribution, up to $1,000
    • Fourth plan year: 50% of contribution, up to $1,000
    • Fifth plan year: 25% of contribution, up to $1,000

    For employers with 51-100 employees, the tax credit available for each participant is:

    • First plan year: 100% minus 2% for each employee exceeding 50 limit
    • Second plan year: 100% minus 2% for each employee exceeding 50 limit
    • Third plan year: 75% minus 2% for each employee exceeding 50 limit
    • Fourth plan year: 50% minus 2% for each employee exceeding 50 limit
    • Fifth plan year: 25% minus 2% for each employee exceeding 50 limit

    No deduction allowed

    You can’t both deduct the startup costs and claim the tax credit for the same expenses. You aren’t required to claim the allowable credit.

    Military spouse employees

    Small employers with 1-100 employees that have a defined contribution plan, or a SEP or SIMPLE IRA plan that hire a military spouse may be eligible for a tax credit. The military spouse

    • Cannot be a highly compensated employee
    • Must participate in the plan within two months of being hired
    • Should be eligible for matching or nonelective employer contributions as if they were employed for two years, and
    • Must be 100% vested in all contributions.

    The amount of the tax credit an employer may claim is $200 for employing the military spouse, plus 100% of the contributions made, up to $300. The maximum tax credit is $500 and may be claimed for the first three years the military spouse participates in the plan.

    Auto-enrollment tax credit

    An eligible employer that adds an auto-enrollment feature to their plan can claim a tax credit of $500 per year for a 3-year taxable period beginning with the first taxable year the employer includes the auto-enrollment feature. This tax credit is available for new or existing plans that adopt an eligible auto-enrollment plan.

    Related

    • Saver's Credit
    • Publication 560, Retirement Plans for Small Business (SEP, SIMPLE, and Qualified Plans)
    • Help with Choosing a Retirement Plan