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What's the Difference? State-Sponsored Retirement Plan vs. Employer-Sponsored 401(k)

Employee Benefits

California, Connecticut, Illinois, Maryland, Massachusetts, New Jersey, Oregon, and Washington state are poised to launch state-sponsored retirement plans that will allow employees to save for their nonworking years if they lack access to an employer-sponsored retirement savings plan.

State-sponsored retirement plans aim to stop the impending avalanche of impoverished senior citizens. More than half of American workers — in fact about 55 million — don't have an employer-based retirement savings plan, particularly those who work for small companies, as well as many younger workers, minorities, and low- to moderate-income earners. Sixty-nine percent have less than $1,000 in savings, and about one-third wonder whether they'll be able to cover basic living costs when they retire. Although many U.S. workers report feeling stressed about retirement, only six in 10 say they have saved for that goal, and only four in 10 have tried to determine how much money they'll need.

How do state-sponsored retirement plans compare with employer-sponsored 401(k) plans? If you run a small business and don't offer your staff a way to save for retirement, should you try to establish a 401(k) benefit? If you don't operate in a state that soon will provide a state-sponsored retirement plan, is it best to wait for that option to materialize?

Knowing the differences between the two types of retirement plans can help you decide.

401(k) plans at employer discretion

In general, 401(k) plans backed by businesses:

  • Are established at an employer's discretion;
  • Offer investment vehicles chosen by the employer;
  • Allow employees to opt out of making contributions;
  • Permit workers to choose among a range of investment funds at various levels of risk; and
  • Don't require employers to make contributions of any amount to workers' accounts.

Many small-business owners think that 401(k) plans are prohibitively expensive, but that's not true. On the contrary, many plans are now tailored for smaller companies. In addition, the Internal Revenue Service (IRS) gives tax credits to firms with fewer than 100 employees for some of the ordinary and necessary costs of starting a qualified retirement plan. The IRS provides 50 percent of your ordinary and necessary eligible startup costs up to a maximum of $500 per year, which is a significant help when plan administration fees typically range from $1,000-$3,000 annually.

There are other good reasons to sponsor a 401(k) plan:

  • It increases your company's attractiveness in the job market;
  • It offers additional opportunities for tax savings if you offer a company match to participating employees. Your contributions are tax-deductible up to applicable IRS limits;
  • It helps your firm retain valuable staff; and
  • You and other company leaders can participate.

If you work with a payroll services provider, the software can automatically transfer participants' contributions into the 401(k), making the procedure effortless.

Clearly, adding a 401(k) to your company's benefits package has strategic advantages.

State-sponsored retirement plans mandatory

By not providing your workforce with a retirement plan, you risk having your state impose one. This is done for the benefit of workers' retirement years, but it removes control from employers.

State-sponsored retirement plans:

  • Are mandated for businesses of a certain size if they don't offer a retirement plan for their employees;
  • Use investment firms chosen by the state;
  • Use either a pre-tax, traditional IRA or a Roth IRA as the investment vehicle;
  • Require participating companies to set aside a percentage of every worker's salary each month for the retirement fund;
  • Allow workers to opt out of contributing via payroll deduction (although the employer makes monthly contributions on each employee's behalf);
  • Lower investment and administrative fees; and
  • Improve retirement for people with limited savings options.

See the table below for a detailed comparison of the two types of retirement plans.

State-sponsored retirement plan vs. employer-sponsored 401(k) plan


State-sponsored retirement plan

Employer-sponsored 401(k) plan

Investment structure

Most are proposing a Roth IRA, which is an individual retirement account allowing participants to set aside after-tax income up to a specified amount each year. Earnings on the account and withdrawals after age 59½ are tax-free.

A defined contribution plan allowing an employee to make contributions from his/her paycheck either before or after-tax, depending on plan options

Investment options

Investment firm chosen by state-selected board

Wide range of investment firms offering numerous funds at various levels of risk chosen by employer or by an advisor. Employee may direct their own investments.

Plan established at employer’s discretion

No; mandatory based on your state’s guidelines if no other retirement plan is in place



Yes, typically set at 3% for most proposed plans

At employer’s discretion

Employees can opt out of making contributions



Annual Salary Deferral Limit



Catch-up Contribution for participants age 50+



Employer contributions

Not permitted

At employer’s discretion

Employer contributions tax deductible



Subject to ERISA* regulations and protections



Federal tax credits for employer


Yes, for start-up and administration costs, employee education about the plan, and for matching part or all of employees’ contributions**

Employer fiduciary responsibility



Cost to the employer


Fees for plan set-up, administration, record-keeping, consultation**


*Employee Retirement Income Security Act of 1974

** New plans can receive a tax credit of up to $500 per year for the first 3 years to offset set-up costs. Many of the other plan expenses are tax-deductible, including company match dollars and profit sharing.

No one wants the United States burdened by a huge population of impoverished retirees. Studies have found that most retirement saving occurs in the workplace via employer-sponsored savings plans. As noted in a report by the Pew Charitable Trusts, "The failure to save enough — or save at all — has an impact on Americans in their working years and later in life. With life expectancy on the rise, workers' efforts to prepare for retirement face threats from inadequate investment returns, large or unexpected expenses, and inflation. These risks affect all Americans, but those who have saved for retirement have a real advantage."

Paychex will continue to monitor this issue and keep you up-to-date on developments as they happen.



This website contains articles posted for informational and educational value. Paychex is not responsible for information contained within any of these materials. Any opinions expressed within materials are not necessarily the opinion of, or supported by, Paychex. The information in these materials should not be considered legal or accounting advice, and it should not substitute for legal, accounting, and other professional advice where the facts and circumstances warrant.
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