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Get credit for starting a retirement plan

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in Small Business Tax,Small Business Tax Deduction Strategies

If you recently acquired or started a new business, or if it took several years for your company to become profitable, you may be ready to put more money into employee benefit plans like a qualified retirement plan.

Strategy: Get your retirement plan going before the end of the business tax year. This will entitle your business to a tax credit—a dollar-for-dollar reduction of the company’s tax bill—for plan startup costs.

The credit for starting a retirement plan is available for a 401(k), Sim­­pli­­fied Employee Pension (SEP), Savings Incentive Match Plan for Em­­ployees (SIMPLE) or other qualified plan.

The credit is equal to 50% of your ordinary and necessary eligible startup costs up to a maximum of $500 per year. To qualify for the credit, you must meet the following requirements.

  • Your company had 100 or fewer employees who received at least $5,000 in compensation from you in the preceding year
  • Your company had at least one plan participant who was a non-highly compensated employee
  • In the three tax years before the first year your company is 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.

The credit can be claimed for the ordinary and necessary expenses of setting up and administering the plan and educating employees about it. You can claim the credit for each of the first three years of the plan and may choose to begin claiming the credit in the tax year before the tax year in which the plan becomes effective.

The credit is part of the general business credit. It can generally be carried back or forward to other tax years if you can’t use it in the current year.

Finally, note that you can’t deduct both startup costs under another tax law provision and claim the credit for the same expenses.

Tip: Claim the credit on Form 8881, Credit for Small Employer Pension Plan Startup Costs.

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