Start your Own 401k (With or Without an Employer)

We’re increasingly on our own when it comes to saving for retirement. In previous generations, it was normal to have a defined-benefit plan (also known as a pension) to support you after you stopped working. Now, most people are left with defined-contribution plans like 401k plans. There’s also Social Security, but that’s not getting any more generous.

If you don’t have an account to contribute to, it’s time to start your own 401k or similar retirement savings program. The route you take will depend on your situation: you’re either

  1. An employer (including a self-employed individual) who wants to set up a 401k plan for your business, or
  2. An employee of a company that does not currently offer a retirement plan

If #2 applies (you’re an employee earning W2 wages), you may not be able to set the plan up yourself, but you have several options, which we’ll discuss below. 401k plans are employer-sponsored retirement plans, so they need to be set up by the employer. If your employer won’t play along (they might just need some nudging), you’ll need to take matters into your own hands.

How to Start a 401k

Setting up a 401k plan can be as simple or as complicated as you like. Most people (and businesses) choose to outsource at least some portion of the process. In particular, they use a “template” legal document to establish the 401k plan – because it’s a lot cheaper than hiring an attorney to reinvent the wheel for you. Unless your retirement plan is especially tricky or you’re trying to get fancy (and you have no shortage of money), you’ll probably use preconfigured programs from 401k vendors. These programs are often called “volume submitter” or prototype plans.

Some of the most important pieces of a 401k plan are described below.

Yes, there will be paperwork (hopefully you can do it online). Photo: Isaac Bowen CC-BY 2.0

 The plan document is a legal document that details the rules of your 401k plan. It explains the general rules of a 401k plan, defines specific terms, and is used as a roadmap for any questions that come up when administering the plan. The plan document is a lengthy legal document that most people never see. Typically, a summarized version of the document (known as the Summary Plan Description or SPD) is distributed to employees when they enroll in the plan. For reference, here’s a sample of a plan document.

The adoption agreement is a document you’ll use to set up your 401k plan. The adoption agreement allows you to customize the plan so that it fits your goals and your organization. In many cases, it’s a list with numerous checkboxes: do you want to allow loans – yes or no? Is there a match? What kind? Which vesting schedule do you want to use? The plan document is more or less boilerplate required language for any plan, but the adoption agreement makes it your own plan.

The trust is a legal entity, and it’s what you might call the plan. Using a plan document and adoption agreement often create the trust for you (it’s less complicated than it sounds). Of course, every trust needs a trustee, so you’ll need to decide who will serve as trustee of your plan. In many cases, it’s the business owner, president, or somebody in a similar role. If you’re self-employed, you’ll very likely serve as the trustee of your own 401k plan. The trustee is the one legally responsible for ensuring that the plan follows all rules and laws, so it is somewhat risky to take on this role – especially if you run a large company. However, countless trustees around the country have served for years without problem.

Plan administrator: you’ll also need somebody to administer the plan on a day-to-day basis. This person does not have the same level of responsibility as a trustee, but they need to be aware of important rules and deadlines. In many cases, the administrator and trustee are the same person.

Third party administrators (TPAs) are different from plain-old administrators. A TPA performs additional services for a 401k plan, such as filing tax returns for the plan, interpreting rules if there are any questions, discrimination testing, and processing loan or distribution requests. A good TPA helps employers avoid making mistakes, and these organizations are available locally and nationwide. You might use a TPA as part of a bundled service with your recordkeeper or other vendors, or you can hire a firm that only does administration. Especially when you want to customize a plan, specialized TPAs can be handy.

Recordkeepers or investment providers are probably who you think of as your 401k vendor. These are the big-name financial companies that you send contributions to. They print your statements and run the website where you can trade and invest. Depending on how you set up your plan, the investment provider and recordkeeper (as well as the TPA) might be the same company. This is often the arrangement for self-employed people setting up a Solo 401k.

Financial advisors and consultants are individuals or firms who provide advice to employers (and possibly employees). For an additional fee, they’re available to help you decide how to set up the plan, which investments to offer as part of a menu (if applicable), and which individual investments to choose within the plan. That said, TPAs and recordkeepers also provide some level of consulting, and they may be able to tell you everything you need as part of their standard services.

How to Set up a 401k Plan

Now that you know the landscape, you’re ready to set up a plan as an employer or self-employed individual. Whether you’re setting up a plan for a large enterprise or choosing among a SoloK, SEP, or SIMPLE, the basic framework for your approach might be:

  • Decide whether or not to use a financial advisor or other consultants
  • Decide which plan provisions you want (loans, Roth 401k, Safe Harbor, matching?)
  • Choose a vendor (evaluate flat-rate pricing, investment costs and fees, and other features)
  • Complete the adoption agreement
  • Communicate and educate: inform employees (if any) of the plan’s existence and features
  • Set up individual participant accounts
  • Fund the plan
  • Review the plan regularly to ensure that it’s meeting the needs of plan participants
  • Adjust the plan as regulations change and your needs evolve

Start your Own Retirement Plan (When your Employer Doesn’t)

If you’re an employee, you only have the option to use a 401k plan if your employer has established a plan and you’re eligible to contribute. All too often, that’s not the case. But you still may have options.

Ask for a 401k: your employer might be willing to set up a 401k – they just haven’t done it yet. Start the conversation by asking why there isn’t one, and why you want one. Explain that valuable employees like yourself would be even more valuable with excellent benefits. Offer to do some (or all) of the legwork required to get the plan up and running. In some cases, especially with small organizations, your employer simply doesn’t have time to set up a plan. Cost is another factor – companies might be hesitant to pay plan costs (not to mention matching or required contributions to employees). If cost is the main concern, discuss less-expensive options like SIMPLE plans. Only time will tell if it’ll actually happen, but it never hurts to ask.

IRAs: if you don’t get a 401k, you may still be able to save in an individual retirement account (IRA), and you might even get tax benefits similar to a 401k. Unfortunately, the IRS sets maximum annual limits much lower for IRAs, but you’ve got to take what you can get. Evaluate traditional IRAs for pre-tax saving, and Roth IRAs for potential tax-free withdrawals (assuming you follow all IRS rules). Another drawback of IRAs (compared to 401k) is that you may need to qualify to make contributions. Speak with a tax expert before you do anything.

Side job? Put it all away. If you have any self-employment income, you might be able to save in a Solo 401k (or one-person 401k plan). Many types of self-employment qualify, especially if you actively earn the income: walking dogs, freelancing, and consulting gigs are all viable options. You might be able to save up to 100% of your net earnings (up to certain limits, of course), which allows you to make a nice dent in your retirement savings.

Save in taxable accounts: the maximum IRA limit does not allow you to make a substantial contribution towards a comfortable retirement. If you’ve maxed out and you want to save more, you can always save in standard “taxable” accounts. These non-retirement accounts won’t offer much in the way of tax benefits, but they’re better than not saving. At some point in the future, you may be able to shift funds from those accounts into retirement accounts (if your employer ever sets up a plan or you start your own 401k and business). You can even move funds indirectly by living off your taxable account and contributing as much income as possible to the retirement plan.

Important Information

This page discusses complex topics related to tax and employment law. The information on this page might not be accurate, up-to-date, or relevant to your situation. Do not make important decisions based on what you read here – speak with a local expert who has knowledge of your situation and applicable regulations.