Can A Small Employer Get A Credit For 401(k) Matching?

A translucent glass hand lowering a golden coin toward a mirrored surface where a reflected second coin rises to meet it, the employer contribution credit matching what the business puts in

Quick Answer

Yes. The employer contribution credit is worth up to $1,000 per employee per year, credited at 100 percent of qualifying contributions in years one and two, then 75 percent, 50 percent and 25 percent in years three, four and five. The applicable percentage is reduced by 2 percentage points for each employee above 50, phasing out entirely at 100 employees.

Separate from the credit that covers the cost of setting up a plan, there is a second credit that reimburses the employer for money actually contributed to employee accounts. It is worth up to one thousand dollars per employee and it pays in full for the first two plan years before stepping down over the following three. Two limits sit on top of it. The applicable percentage falls by two percentage points for every employee above fifty, which phases the credit out completely once an employer reaches one hundred employees, and contributions made for employees earning above a wage threshold do not count at all. That threshold rose to one hundred ten thousand dollars for two thousand twenty six.

Most owners who have heard of the retirement plan credits have heard about the one that covers setup. There is a second one that is frequently worth considerably more, and it reimburses money the employer actually puts into employee accounts.

What is the employer contribution credit?

A credit worth up to $1,000 per employee for money the employer contributes to the plan, available to an employer with no more than 100 employees. It is separate from the startup cost credit and claimed on the same form.

The percentage of qualifying contributions credited declines across five years.

Plan yearApplicable percentage
Year 1100%
Year 2100%
Year 375%
Year 450%
Year 525%

The IRS sets out the rules in the Instructions for Form 8881[1], currently at the December 2025 revision. Two full years at 100 percent is the part that matters for a business deciding whether it can afford to start contributing, because the first two years are exactly when a new plan feels most expensive.

What limits the credit?

Two things, and both are easy to miss until a preparer applies them.

Headcount above 50. The applicable percentage is reduced by 2 percentage points for each employee in excess of 50 in the preceding tax year. At 60 employees the percentage is cut by 20 points, at 75 it is cut by 50, and at 100 employees the credit is gone entirely. An employer near the upper end should understand that growth erodes this credit while it is being claimed.

A wage threshold on individual employees. Contributions made for an employee whose wages exceed a threshold do not count toward the credit at all. IRS Notice 2025-67[2] raised that threshold to $110,000 for 2026, from $105,000.

That second point carries a practical warning. The current Form 8881 instructions still print $105,000, so a preparer working from the form alone will apply the wrong figure to a 2026 tax year. Worth raising with whoever handles the return rather than assuming it is caught.

What it looks like on a real payroll

Using entirely illustrative figures, take a business with 12 eligible employees making a 3 percent nonelective contribution that averages $1,500 per employee. Total contributions are $18,000. The credit covers up to $1,000 per employee at 100 percent in year one, which is $12,000 credited, leaving $6,000 of net employer cost.

In year three the same contribution pattern is credited at 75 percent of qualifying amounts, and by year five at 25 percent, so the employer’s real cost rises on a known schedule rather than unexpectedly.

Those figures are invented to show the shape of the calculation. They are not a quote, not a projection, and the credit is a nonrefundable general business credit subject to tax liability limits, so a business with little liability may not use all of it in the year it arises.

Why the phase-down schedule matters for planning

Because it gives an employer a predictable ramp instead of a cliff, and that changes how the decision should be made. Two years at full reimbursement is long enough for employees to see the contribution as part of their compensation and long enough for the employer to measure whether it is affecting retention.

The honest way to use it is to plan for year five rather than year one. An employer who sizes a contribution based on what it costs while 100 percent credited is setting up a reduction later, and a reduced employer contribution reads to staff as a benefit being taken away. Sizing the contribution at what the business can sustain unaided, and treating the credit as an accelerator rather than the basis, is the version that holds.

The retention question this is all aimed at is covered in do employee benefits reduce turnover and what benefits do small business employees want most.

How this stacks with the other credits

Three credits sit on Form 8881 and an eligible employer can claim all of them. The startup cost credit covering up to 100 percent of qualified setup and administration costs, this contribution credit at up to $1,000 per employee, and a $500 annual automatic enrollment credit for three years.

Stacked, they are frequently enough to make a real plan cost less in the early years than owners assume it costs at all, which is the comparison that matters for any Nevada business that received a state retirement notice. The state program permits no employer contribution whatsoever and therefore generates none of these credits, a contrast drawn in Nevada’s retirement plan mandate and how much can employees save in Nevada NEST.

The full credit set is in the retirement plan tax credits guide, the setup credit specifically in how much is the small business 401(k) startup tax credit, and the plan design that removes testing limits on owners in what is a Safe Harbor 401(k).

We are insurance nerds, not tax professionals. Whether a specific contribution qualifies, how the per-employee cap applies, and how the credit lands on a specific return belong with a licensed tax professional and a qualified retirement plan advisor.

As an official Paychex partner, ProtectHealth can map the plan, payroll, HR and benefits in one conversation. Owners who want that for their own business can book a conversation.

Sources

  1. Internal Revenue Service — Instructions for Form 8881
  2. Internal Revenue Service — IRS Notice 2025-67

Frequently Asked Questions

How much is the employer contribution credit worth?

Up to $1,000 per employee per year. The applicable percentage of qualifying employer contributions is 100 percent in the first and second plan years, 75 percent in the third, 50 percent in the fourth and 25 percent in the fifth, after which the credit ends.

Which employers qualify?

An eligible employer with no more than 100 employees. The applicable percentage is reduced by 2 percentage points for each employee in excess of 50 in the preceding tax year, so the credit is fully phased out at 100 employees.

Are contributions for high earners credited?

No. Contributions made for employees whose wages exceed a threshold do not count toward the credit. IRS Notice 2025-67 raised that threshold to $110,000 for 2026, up from $105,000. The current Form 8881 instructions still print the older figure.

Can this credit be claimed alongside the startup credit?

Yes. The startup cost credit and the employer contribution credit are separate provisions claimed on the same form, Form 8881, and an eligible employer can claim both. The automatic enrollment credit is a third that also sits on that form.

Does the credit apply to a safe harbor nonelective contribution?

Qualifying employer contributions are what the credit measures, and a safe harbor nonelective contribution is employer money going into employee accounts. Whether a specific contribution qualifies, and how it is computed per employee against the $1,000 cap, is a question for a licensed tax professional.

Want an answer specific to your situation?

General answers only go so far. A free 20-minute ProtectHealth strategy conversation maps what actually fits.

Book A Conversation

More ProtectHealth guides and answers on this topic.

Full Guide The Federal Credits That Pay For A Small Business Retirement Plan SECURE 2.0 covers up to 100 percent of qualified startup costs for employers with 50 or fewer employees, adds up to $1,000 per employee for contributions, and $500 a year for automatic enrollment. What each credit is worth, who qualifies, and the 2026 figures.

Questions People Ask About This

A curving translucent glass barrier with a cluster of glowing orbs gathered inside and one larger orb held alone outside it, the owner excluded from a Section 125 cafeteria planQuestionCan An S Corp Owner Participate In A Section 125 Plan?Read the answer →A translucent glass block with a wedge cut out of it, the removed wedge glowing gold nearby and the block casting a visibly smaller shadow, pre-tax premiums shrinking the employer wage baseQuestionDo Pre-Tax Premiums Lower Employer Payroll Taxes?Read the answer →A single thin glass document on a plinth visibly bearing the weight of a large glass structure above it, one beam of gold light passing through, the plan document holding up the whole arrangementQuestionDoes A Section 125 Plan Need A Written Document?Read the answer →A translucent glass threshold arch with six small glowing orbs gathered on one side and an open path of cyan light beyond it, the Nevada employer coverage testQuestionDoes My Nevada Business Have To Offer A Retirement Plan?Read the answer →Two translucent glass vessels side by side, a short one filled with gold light and a far taller one filled much higher, the IRA cap set against the 401k limitQuestionHow Much Can Employees Save In Nevada NEST?Read the answer →A translucent glass invoice standing upright with a broad beam of golden light dissolving most of its lower portion into particles, the startup cost credit covering the billQuestionHow Much Is The Small Business 401(k) Startup Tax Credit?Read the answer →

More Guides On This Topic

A translucent glass nest cradling a single glowing golden orb on a dark reflective surface, with a tall doorway of cyan light opening in the darkness behind it, Nevada's retirement savings mandateGuideNevada's Retirement Plan Mandate: What Employers With Six Or More People Must DoRead the guide →A translucent glass funnel with golden coins pouring in and a thinner stream emerging below, a ribbon of cyan light carrying the difference away, pre-tax premiums reducing employer payroll taxGuideHow A Section 125 Plan Cuts An Employer's Payroll Tax BillRead the guide →
Employer Tax Credits And Retirement The Nevada mandate, the federal credits and the payroll tax side

ProtectHealth brokers are insurance professionals, not tax professionals. Eligibility for any coverage or tax-advantaged structure depends on business structure, income, and household situation.