What the SECURE Act 2.0 Means for Small Business Owners

Greater flexibility is in store for small business owners following the law's passage.

The bipartisan SECURE Act 2.0 passed into law late last year, bringing with it a variety of changes for employers of all sizes. Small business owners should take note of a handful of provisions that could both supercharge their savings and make it easier than ever to be a plan sponsor.

Starter 401(k)s

For a small business owner considering offering a retirement plan to their employees, a common headache is the cost and complexity of starting a 401(k) plan. The SECURE Act 2.0 has a solution in the form of its so-called "starter 401(k)."

Section 121 of the legislation allows employers who do not currently sponsor a retirement plan to offer a simplified version of the traditional 401(k) plan. Among the benefits of the starter plan is an exemption from major end-of-year testing that can cost thousands of dollars and many hours of stress. Additionally, employer contributions would not be required in the simplified plan, saving costs for small businesses.

One drawback of the starter plan is that contributions are limited to the IRA maximum, not the much higher 401(k) maximum. While under a traditional 401(k), an employee could save up to $22,500 (2023) toward retirement, an employee could only save $6,500 (2023) in a starter 401(k).

Roth SIMPLE & SEP accounts

SIMPLE and SEP plans are popular among small business owners for their ease of use. However, despite all of their benefits, they offered one big drawback: They're limited to pre-tax contributions. The SECURE Act 2.0 will change that starting this year.

The new law essentially puts SIMPLE and SEP accounts on even footing with many other retirement plans. Like 401(k), 403(b) and IRA accounts, SIMPLE and SEP accounts can now accept employer and employee contributions on a Roth tax basis.

This provision will make it easier than ever before for SIMPLE and SEP account owners to save in an after-tax fashion. Previously, the process was possible but involved a greater deal of complexity. SIMPLE and SEP owners could contribute to their plan's IRA on a non-deductible pre-tax basis, then do a Roth conversion to prepay tax and convert the proceeds to Roth dollars. The new law will make it easier than ever for those with a SIMPLE or SEP to save on a Roth basis -- without exposing them to potentially costly tax mistakes.

Plan sponsor flexibility

Prior to the passage of the SECURE Act 2.0, plan sponsors could only make amendments to an existing retirement plan during the effective plan year. The new law would allow prior-year amendments to be made to a plan until the due date of the employer's tax return, but only if those amendments are to the benefit of plan participants. Effectively, the legislation makes it easier for employers to retroactively benefit employees.

The law also provides more ways for sole proprietors to fund a new 401(k) account. Previously, contributions to a new 401(k) account could be made for a prior tax year up until the date the employer's tax return was due. Now, those with a sole proprietorship or single-member LLC can potentially lengthen that timeline by funding a new plan and making contributions up until the business owner's tax return is due. This could buy certain business owners an additional six months to fund their 401(k) for last year.

Bottom line

Among a variety of changes for employees, Congress also modified the rules for small businesses in the SECURE Act 2.0. Starter 401(k)s can ease the burden of starting a traditional 401(k) plan. Meanwhile, those with a SIMPLE or SEP IRA can now make Roth contributions directly to their account. Additionally, plan sponsors will have more options when it comes to prior year benefits and contributions.