Profit sharing plan tips, profit sharing plan traps

Profit sharing plan installation and profit sharing plan maintenance can present difficulties. This information on profit sharing plans will help you avoid problems.

Profit sharing plan overview

Tip: For a successful profit sharing plan each of the following five profit sharing plan functions must be well executed: design, investment, recordkeeping/administration/ compliance, communication with employees and control of expenses. Using a consultant is recommended for a simple profit sharing plan, but necessary for a more complex one .

Trap: Profit sharing plans are subject to the same constraints and regulations as are most retirement plans. Employers who adopt a profit sharing plan as their first retirement plan may believe they can install one with very limited outside assistance. However, this is the time when such assistance is most needed. Using a consultant will enable employers to choose the most appropriate plan and select those features that are most suitable for their circumstances.

Profit sharing plan design

Tip: The annual employer contribution of a profit sharing plan should be related to company profits in a way that encourages greater employee efforts toward the company's success. If it is desired to weight the allocation of the contribution more favorably to key employees, sophisticated design techniques such as integration of the contribution with Social Security, or the use of an age-weighted or cross-tested profit sharing plan, should be considered.

Trap: If illustrations of the distribution of profit sharing contributions under various situations are not developed and reviewed before the profit sharing plan is established it could necessitate plan redesign or cause termination.

Profit sharing plan investment

Tip: The manner in which the investment function of a profit sharing plan is handled depends on whether participant-directed investment accounts are established. If they are, providing investment information for employees, but not investment advice, is essential. If these accounts are not established and investments are pooled, the employer must use extra care in making investments, since the earnings will be reflected in the accounts of the participants. Whether or not participant-directed accounts are established, employers must use prudence in executing their fiduciary responsibilities since significant penalties can be imposed. Investment problems could lead to lawsuits by participants, difficulties with the Department of Labor or other severe consequences.

Trap: Few profit sharing plan investment alternatives may be provided, since it is often financially advantageous for the organization providing investment choices to limit them.

Profit sharing plan recordkeeping, administration and compliance

Tip: A profit sharing plan has recordkeeping, administration and compliance requirements similar to those of other plans. A third party administrator will often be needed, especially if sophisticated design techniques are used . Like more complicated plans, a description of all necessary services should be provided when the profit sharing plan is established.

Trap: Mistakes in recordkeeping, administration and compliance could result in large penalties by the I.R.S. or even plan disqualification. Employers should not assume that the work of a third party administrator is correct and should review it.

Profit sharing plan communication with employees

Tip: Since a profit sharing plan is based on employer contributions, its success is dependent upon the company's profits and the efforts the employees make toward that goal.

Trap: A lack of understanding by employees of their need to contribute to the company's profits could jeopardize the employer's desire to continue the profit sharing plan.

Profit sharing plan control of expenses

Tip: Expenses can arise from any of the four areas mentioned above. Employers should be cognizant of all expenses when profit sharing plans are established and make provision for their periodic review.

Trap: Investment charges can be difficult to ascertain and easily be "hidden", especially those within mutual funds . High or undisclosed expenses could endanger the profit sharing plan's success.

Profit sharing plan further assistance

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