Not All Profit Sharing Plans Are Created Equal
Learn how the right profit sharing formula may help business owners increase contributions and improve tax efficiency.
|
New Comparability
|
Pro-Rata
|
Age-Weighted
|
Integrated
|
|
|---|---|---|---|---|
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Who Should Consider
|
Owners who want to maximize contribution
Businesses with <25 employees per owner Owners who are older than employees |
Owners who don’t want to maximize their contribution
Businesses looking for the simplest method |
Businesses looking to give a higher contribution to older employees
|
Business looking to give a higher contribution to high earning employees
|
|
Grouping Criteria
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Flexible
|
N/A
|
Employee Age
|
Social Security Tax Level
|
|
Calculation Formula
|
% of Salary
|
% of Salary
|
% of Salary
|
% of Salary
|
|
Pros
|
Can be the most cost-effective way for owners to maximize their portion of the company contribution
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Simple
|
Allows businesses to reward older employees
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Allows businesses to reward high earning employees
|
|
Cons
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Not cost-effective for all demographics
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Owner typically isn’t able to maximize their annual contribution
|
Not cost-effective for all demographics
|
Not cost-effective for all demographics
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Pro-Rata vs. New Comparability
Often times plans utilize a pro-rata profit sharing formula because it’s the simplest. However, changing from pro-rata to new comparability can save the business owner significantly in cost without compromising tax savings. Consider the example below, where a business owner was able to reduce contribution costs by $51,000 per year.
|
Employee
|
Age
|
Annual Compensation
|
Pro-Rata
|
New Comparability
|
Results
|
|---|---|---|---|---|---|
|
Owner
|
62
|
$250,000
|
$50,000
|
$50,000
|
–
|
|
Employee 1
|
45
|
$100,000
|
$20,000
|
$5,000
|
-$15,000
|
|
Employee 2
|
45
|
$75,000
|
$15,000
|
$3,750
|
-$11,250
|
|
Employee 3
|
40
|
$75,000
|
$15,000
|
$3,750
|
-$11,250
|
|
Employee 4
|
35
|
$50,000
|
$10,000
|
$2,500
|
-$7,500
|
|
Employee 5
|
25
|
$40,000
|
$8,000
|
$2,000
|
-$6,000
|
|
Total Employer Contribution
|
$118,000
|
$67,000
|
-$51,000
|
||
|
% to Owner
|
42%
|
75%
|
+33%
|
||
|
% to Employees
|
58%
|
25%
|
-33%
|
||
New Comparability Benefits & Considerations
Benefits
- Allows for maximum cost-effective employer contributions
- Contributions are flexible & tax-reducing
- Can add a vesting schedule of up to 6 years
Considerations
- Can be expensive to provide an employer contribution to eligible employees
- Can be complex. Consult with a specialized advisor to evaluate