What Is Revenue Sharing? | Definition, Examples, & Extra

Seeking to provide your workers a further profit? Contemplate making a profit-sharing plan. However earlier than you run off and create a plan, you want to know what’s revenue sharing. Learn on to be taught all about revenue sharing, together with the way it works and steps for making a plan of your individual.

What’s revenue sharing?

Revenue sharing is a sort of pre-tax contribution plan for workers that offers staff a certain quantity of an organization’s income. The profit-sharing funds depend upon the:

  • Enterprise’s profitability
  • Worker’s common wages and bonuses
  • Quantity set by the enterprise

With a profit-sharing plan (PSP), workers obtain an quantity primarily based on the corporate’s earnings over a particular time period (e.g., a yr). Typically, an worker receives a proportion or greenback quantity of the enterprise’s income both in money or firm inventory. Many companies provide revenue sharing as a retirement profit for workers.

If an employer doesn’t make a revenue through the time interval (e.g., yr), they don’t have to make a contribution that yr.

Sometimes, a enterprise affords a PSP to assist instill a way of possession in its workers. The purpose of a small enterprise profit-sharing plan is to reward workers for his or her contribution to the corporate’s success and incentivize workers to maintain reaching targets.

PSP vs. 401(okay)

Though a revenue share settlement can be utilized as a retirement plan possibility to supply workers, it’s not the identical as a 401(okay) plan.

Each plans give workers extra retirement advantages. Nonetheless, 401(okay) plans and PSPs have completely different guidelines and buildings.

With 401(okay) plans, workers can make a contribution to their very own plans. And relying on the kind of 401(okay) plan, the employer would possibly make an identical contribution.

With a PSP, an worker can’t make any contributions. Solely the employer could make a contribution to the PSP. However, an organization can provide different kinds of retirement plans, equivalent to 401(okay), together with a PSP.

What is profit sharing? Profit sharing is a type of pre-tax contribution plan for employees that gives workers a portion of a company's profits.

Varieties of PSPs

There are a couple of various kinds of profit-sharing plans to select from. All of them observe the identical idea: an employer sharing a portion of their income with workers.

Listed below are the three kinds of PSPs:

  • Professional-rata: All workers obtain the identical contribution quantity from the employer (e.g., proportion or fastened greenback). That is the commonest kind of PSP.
  • Non-comparability / cross-testing: Employers can contribute to completely different teams of workers (e.g., full-time workers) at completely different charges.
  • Age-weighted: Takes age and wage into consideration. Employers can provide older workers the next proportion than youthful workers as a result of they’re nearer to a retirement age. With an age-weighted plan, the longer somebody stays with the enterprise, the extra their employer contribution fee will increase. This sort is restricted to PSPs used as retirement plans.

Necessities for a PSP

Companies of any measurement can create a profit-sharing plan. Should you use your PSP as a retirement profit, you may also benefit from different retirement plan sorts.

A enterprise should additionally observe a predetermined revenue allocation formulation for deciding how a lot workers obtain in income and which workers are eligible.

There’s no set quantity that an organization should contribute to its PSP annually. However, there’s a most contribution quantity you can make per worker. In keeping with the IRS, the contribution restrict for a corporation sharing its income with an worker is the lesser of 25% of that worker’s annual compensation or $69,000 (2024).

Revenue sharing instance

Able to see revenue sharing in motion? Let’s take a look at an instance of revenue sharing so you possibly can see it first-hand.

To calculate the employer contribution, you want to add the compensation for all workers. Divide every worker’s particular person compensation for the interval by the whole compensation for the interval. Then, multiply your revenue share proportion by your income for the interval. Lastly, multiply the 2 totals collectively to find out every worker’s cost quantity.

Say you could have three workers. Worker A makes $30,000 per yr, Worker B makes $25,000, and Worker C makes $40,000. The overall compensation for all three workers is $95,000 ($30,000 + $25,000 + $40,000). This yr, what you are promoting had a revenue of $150,000, and also you share 10% of your annual income with workers. Check out how a lot every worker would obtain:

Worker A: ($150,000 X 0.10) X ($30,000 / $95,000) = $4,736.84
Worker B: ($150,000 X 0.10) X ($25,000 / $95,000) = $3,947.37
Worker C: ($150,000 X 0.10) X ($40,000 / $95,000) = $6,315.79

To determine your organization’s profit-sharing quantity per worker, you should use the next formulation:

Revenue-sharing quantity = (Income X Revenue-sharing Share) X (Worker Compensation / Whole Worker Compensation)

The right way to create a profit-sharing plan

To get began creating your PSP, observe the steps under:

  1. Decide how a lot you need your PSP quantity to be
    1. Revenue allocation formulation
    2. Share vs. greenback quantity
  2. Write up a plan
    1. Guidelines
    2. Eligibility necessities
    3. Quantity (e.g., proportion or greenback quantity)
    4. Frequency (e.g., annual)
  3. Present info to eligible workers
  4. File IRS Kind 5500 yearly
    1. Particulars your contribution plan and all contributors in it
  5. Preserve information (e.g., quantities, contributors, and so forth.)

Advantages and downsides of revenue sharing

There are professionals and cons to revenue sharing. Earlier than you begin small enterprise revenue sharing, weigh the benefits and downsides.

Listed below are some advantages of a profit-sharing plan for companies:

  • You may change how a lot you contribute yr to yr
  • Any enterprise can begin one
  • You may provide one along with different retirement plans
  • Plans increase workers’ dedication to the enterprise for the long-term
  • It may be used to draw and retain high expertise
  • The plan can encourage your staff
  • Contributions are tax-deductible for employers

Take a look at some cons to a PSP:

  • Takes some further work to get arrange (e.g., filling out Kind 5500)
  • Employer is topic to nondiscrimination testing
  • Staff can’t contribute
  • Chances are you’ll must do some tweaking when calculating an worker’s pay
  • The plan’s solely focus is profitability

Do your analysis and decide if the cons are price it earlier than you resolve to observe the trail of revenue sharing.

This text has been up to date from its unique publication date of July 12, 2013.

This isn’t meant as authorized recommendation; for extra info, please click on right here.


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