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The small business marketplace continues to grow, and currently 40 million employees work for companies that have a headcount of under 50, according to U.S. Census Bureau data. However, barely a third of those offer access to a retirement plan.
Most advisors would view these numbers as an underserved market that’s primed for targeting.
Not so fast.
Small businesses can offer unique barriers to 401k plan adoption, and a downright resistance to anything that might cause their often-stretched resources additional stress.
But experts say that there is plenty of opportunity for advisors who do it right.
Count Stuart Robertson, President of Capital One Advisors 401k Services, as one. Well-versed in the target market, he led Sharebuilder 401k (bought by Capital One in 2012), which offers low-cost, all ETF online plans that simplified the process immensely.
He now oversees Capital One’s 401k services, including Spark 401k, which targets companies with less than 100 employees and leverages the same backbone of low-cost plan offerings.
Robertson’s premise is straightforward: how do we lead more Americans back to savings? The answer is equally easy …at least on paper.
“Small businesses are more mobile than ever and we’ve had to make 401k plans simpler and simpler,” he says.
A simplified, online 401k solution is attractive to small business owners but there is a host of barriers that advisors have to address first.
Robertson notes the number one reason owners cite for not having a plan is “I’m too small.” From there, cost and complexity round out the top responses.
“Owners will say that they are too small to afford a contribution match but they don’t realize that’s not a requirement,” he adds.
The Pew Charitable Trusts surveyed small business owners and released a report of its findings earlier this year.
John Scott, the group’s Director of the Retirement Savings Project, says that overall, employers want to offer a plan.
“They know they need to have a 401k plan but have other pressing needs. They want to see their employees do well and be financially fit,” he says.
He thinks this altruistic bent is because, in smaller shops, there isn’t as much separation between employees and management.
“Owners see their employees frequently and they are invested in them doing well. They want to help people save and this can translate to offering a 401k plan.”
But they need help framing how plans can help employees. Pew’s report found three main barriers that stood in the way of a small business setting up a plan:
- 37 percent cited expense and pointed to the upfront fees that plan service providers charge.
- 22 percent didn’t have administrative resources to maintain and run a plan. Scott notes that many owners are wearing multiple hats already and they just don’t have the bandwidth.
- Lastly, 17 percent perceived that there was no demand from employees to have a 401k plan.
The numbers are why advisors should be ready to explain the options and advantages to small business owners, according to Karen Shapiro, CEO of Dedicated Defined Benefit Services.
Her firm boasts 1,600 clients of which all are considered small businesses and range anywhere from one to 15 employees.
And while many of her clients are medical practices and law firms, she works with everyone from “farmers to funeral parlors.”
Shapiro says advisors often don’t know much about defined benefit plans, or cash balance plans in which her firm specializes. The knowledge gap was so noticeable that Shapiro has launched a webinar program specifically on cash balance plans that offer continuing education credit.
She also says that advisors need to approach the small business niche a bit differently.
“401k advisors are looking for a takeover of an existing business and plan—and the more assets the better.”
But for Shapiro, 95 percent of their business is new plans. She says advisors need to be patient and start with smaller companies that could eventually grow larger.
The good news is she says that they can get to $1 million to $2 million in assets quickly, with the advisor is managing it all.
As importantly, she says “there’s very little hassle and fewer participants to manage. You deal directly with the plan sponsor, who makes all the investment decisions, which is an easier sell.”
She notes that advisors normally pride themselves on helping plan sponsors pick high yielding investments but when it’s a cash balance plan, you go to investments that offer stability and 5 to 7 percent yield.
“This approach doesn’t necessarily play to advisor expertise,” she adds.
Tax benefits are another selling point for 401ks and this can be easily relatable to small business owners.
“The core driver is tax benefits,” says Capital One’s Robertson and notes there are a number of offers that advisors need to make aware to small business owners.
For example, businesses that set up a 401k plan for the first time and meet certain criteria can receive $500 in credits annually for the first three years.
Additionally, company matches to employee 401k contributions are tax deductible (up to applicable limits). While matching is optional, most small business owners with a fairly stable revenue stream choose to do so for three reasons, according to Robertson:
- A “safe harbor” ensures any employee including the owner can give the maximum to the plan.
- By matching, the owner benefits as well, since he/she is also an employee and therefore receive the match tax-deferred.
- It avoids the hassles of government discrimination testing because when a company matches, it exempts them from two of the government’s nondiscrimination tests.
Robertson says many employers don’t always recognize the tax benefits of a 401k plan but once they are educated, they realize that it can be not only beneficial to them, but their bottom line. At times, he says that saving can even allow them to drop down a tax bracket. Or, they could contribute after-tax to the Roth 401k no matter their earnings, which benefits owners who want to start hedging tax costs for the future.
The Fiduciary Rule and the related litigation has been a constant hum in the financial industry, but there’s not a specific understanding by small business owners of its implications.
“There’s a lot of noise around the rule and what does it mean for ‘me’” says Robertson. “They just want to make sure they end up on the right side of the rule.”
He adds that he’s a believer of 401k small business offerings like Capital One’s that provide ERISA 3(38) services.
“In general, small business owners don’t understand fiduciary risk so when we provide a product that also has 3(38), it takes the burden off. This is good for advisors, comes at a low cost and gives employers peace of mind. It’s a win for everyone.”
On another front, Scott references some state government programs that may in actuality end up nudging more small businesses to start their own 401k plan.
California is offering a program that targets employers with five or more employees and don’t offer a retirement plan. These employers will be required to offer an employer-sponsored retirement plan, or provide their employees with access to the state offering.
“There’s a distrust and skepticism as to whether the government can pull this off,” says Scott, and that support for an auto-IRA initiative proved highest if the plan would be sponsored by an insurance or mutual fund company.
“As a small employer, would you rather enroll in the state plan, or start your own?” He says 52 percent of owners are choosing the latter option. If their state implemented an auto-IRA plan, only 13 percent of businesses that already have plans said they would drop theirs and enroll their workers in the state program.
For those small businesses that are already offering plans, advisors can help boost participation rates.
Scott says that their research found that while auto-enrollment is appealing, only one-third of their respondents have it implemented. Even fewer—just one-sixth—of surveyed businesses are offering auto-escalation, compared to 80percent to 90 percent availability at large companies.
“My sense is that auto- features will be moving down to small companies. There’s a bit of reluctance but they know they need to do it,” he adds.
While long-time experts like Robertson say the small business market is “a lot of work,” he notes that there is definitely an opportunity for advisors who focus on this important group.
“If I’m an advisor, I need to know what the right plan is to put in front of them. From a wealth management front, it allows an advisor to expand the customer base and help others.”
Scott agrees that the market potential is there, but it will take education. After that, he says advisors must then figure out a product that will be attractive and profitable.
Finally, Shapiro says that the small business market offers plenty of diverse clientele. But every owner needs to know the value of offering a 401k plan for their own business.
“If it’s a profitable business, tax breaks come into play; if it’s in a competitive market, the retirement plan might be offered as an employee benefit; and lastly, there could be an altruistic element.”
Lynn Brackpool Giles is a contributing editor to 401(k) Specialist. Giles is a former Managing Director of Communications and Consumer Services for the Financial Planning Association (FPA), where she oversaw all corporate, legislative, and consumer communications. In her current journalistic practice, she is a frequent contributor to numerous financial services industry publications.
