By: James Di Virgilio
The recession has forced many small business owners to steer clear of retirement plans for themselves or their employees. In fact, among businesses with fewer than 50 employees, only 20 percent have retirement plans.
However, as long as your business is in the black, a well-crafted plan can help you prepare for tomorrow’s financial needs while boosting your business’s bottom line today. Specifically,
You can generally deduct contributions as a business expense, including those made to your own account.
Depending on the plan, you may be able to grow your retirement assets on a tax-deferred basis.
If you have fewer than 100 employees and they each earn at least $5,000 per year, you may qualify for the small business tax credit of up to $500 per year for the first three years to set up and administer a plan.
A study published in National Small Business Week reported that a wide majority of small businesses with retirement plans believe the plans help them attract and retain more talented employees.
Many Options Available
The type of plan that’s best for your business will depend on its size and the amount of administration you’re willing to do and/or pay for. Here are six options, starting with plans that work well for sole proprietors, then finishing with those that generally suit larger businesses.
1. Individual 401k. This plan has many of the same benefits as a business 401(k) and requires much less administration. Substantial pre-tax salary deferrals and profit-sharing contributions make building your retirement savings faster and easier. This type of plan works best if you don’t have any employees other than your spouse, and you want to save the most money possible each year.
2. SEP-IRA. An SEP, or simplified employee pension plan, is one of the easiest small business retirement plans to set up and maintain. There’s little administration, and tax filing isn’t required. This plan lets you make sizeable retirement plan contributions for yourself and any eligible employees. However, employees are not allowed to contribute on their own.
3. Simple IRA. A Simple IRA is a low-cost plan that’s easy to establish. It’s more robust than a SEP-IRA because it allows employees to contribute and it offers catch-up contributions if you are 50 or older. Also, you, as the employer, can make additional contributions to employees’ accounts. You must have no more than 100 employees to start a Simple IRA. This plan is best if you want a more customized retirement plan that allows for employee contributions.
4. Profit Sharing Plan. This lets you contribute for yourself and eligible employees. Since employer contributions are discretionary, you can choose when to contribute, if at all. A profit sharing plan gives you more control over when an employee becomes vested in the plan and which employees can participate. However, it’s costly to set up and can be burdensome to manage.
5. Defined Benefit Plan. A defined benefit plan is the most complex to administer but businesses of any size can establish one. Employers can generally contribute more to a defined benefit plan than to other types of retirement plans but they must also cover all employees who work more than 1,000 hours a year.
With a defined benefit plan you can save aggressively to reach a desired level of retirement income. This could be the right choice if you’re self-employed or a small business owner near retirement; however, these plans are costly to administer and you need to contribute at least $80,000 a year to maximize your retirement benefits.
6. Business 401(k). Appropriate for any size business, this 401(k) allows you and your employees to enjoy individually designed retirement plans. Employees can typically make larger salary deferrals to these plans than others, and your business gets tax benefits for contributing on their behalf. Surprisingly, Business 401ks have become quite cost effective, even for the small business owner.
Finding yourself bogged down by the number of choices? The IRS has an excellent tool to help you determine which plan is best for you. You can find it at www.retirementplans.irs.gov.
James Di Virgilio is a partner at Chacon Diaz & Di Virgilio Wealth Management. If you have a question about financial issues, you can e-mail James at email@example.com.