If you work in the corporate world or in any large organization, you probably have access to a 401(k) plan. You can save there and even get a match from your employer. Easy-peasy.
But if you own a business, run a professional practice, or work as an independent contractor, you may be realizing that your corporate friends have way more money saved than you for retirement. Maybe you have considered a retirement plan for your business, but you haven’t had a chance to research your options. Here is a quick guide to get started:
Remember the Benefits
There are real financial benefits to starting a retirement plan for your small business.
- Employer contributions are tax deductible.
- Businesses may receive tax credits and other incentives for starting a plan.
- A retirement plan can help you attract and retain better employees.
- Retirement plan contributions reduce one’s taxable income, which of course reduces taxes owed.
- Taxes on employee contributions and investment gains are deferred until distributed. This means that identical investments would grow faster in a retirement account, as taxes on capital gains, interest and dividends are not siphoned off each year.
- Contributions can be automated through payroll deductions. Making it easy for employees to save for retirement may make them more likely to actually do it, and improve their financial security in retirement.
- Employees may be eligible for the Saver’s Tax Credit.
Consider Your Goals
Before choosing a plan, you should first consider your goals. Is it your goal to maximize retirement savings for the owners, or provide a benefit for valued employees? Do you want to include or exclude as many employees as possible?
Review Your Choices
Once you know your goals for the plan, choosing a plan will come down to a few key factors:
- Maximum annual contributions. How much can you save?
- Employee eligibility. Which employees are eligible and how much will you have to contribute for them?
- Employer obligations. What are my responsibilities as business owner? Could be mandatory contributions, IRS filing requirements, fiduciary responsibility.
- Costs vs. Potential Tax Savings. This may depend on the number, age, and salary of employees; and must be calculated on a case-by-case basis.
Plan types include SEP IRA, SIMPLE IRA, 401(k), Profit Sharing and Defined Benefit Plans. The IRS Retirement Plans Navigator is a great place to start for comparing plan types.
Run the Numbers
Now that you know a retirement plan may help you save for retirement and reduce your taxes, the question is: by how much? I suggest comparing at least two different types of plans using the factors above for your specific situation. Here are some examples to get you started:
A business owner is 45, pays herself $250,000 a year, and has 5 employees. She hasn’t saved much in the past, and would like to start saving aggressively. What type of plan is good for her?
- In a SEP IRA, she could save 25% of her salary, up to a max of $49K – a great start. But she would have to put away an equal percentage for her employees – way more than she would like. If only her employees were spouse or family though, a SEP might be the way to go.
- The SIMPLE IRA is OK. She’d be putting in 2% of salary or matching 3% of employee contributions. BUT, she would only be able to put away $11,500 for herself and she would like to do more.
- A 401(k) with Safe Harbor Match is a likely solution here. She’d be putting in 2% of salary or matching 3% of employee contributions, but the projected tax savings would more than outweigh the costs.
If she were older with younger employees, she might also want to look at a defined benefit plan.
A graphic designer is 29, made $75K last year and has no employees. Business is improving, and he expects next year to be even better. He’d like to save more than $5K in an individual IRA (or Roth IRA).
- In a SEP IRA, he could save $18,750. That’s more than enough – he won’t do that much this year, but maybe he’ll max out his contribution in the next few years. A SEP IRA is also very easy to set up, and has no IRS reporting requirements.
- A 401(k) is probably overkill for him. It costs more to set up and administer, and his graphic design projects could very well become a side gig down the road.
Get Help to Get Started
No matter what type of plan you choose, a retirement plan may have tax benefits both for you and your business, and allow you to save more in a tax-advantaged way than you can in an individual account. Once you determine the right type of plan, you’ll still need to find a financial services provider to serve as custodian, provider or plan administrator. It can take time to set up, but the benefits may be significant. Contact me if I can help. Good luck!
Examples are hypothetical and for illustrative purposes only. The information contained in this report does not purport to be a complete description of the developments referred to in this material and don’t constitute a recommendation. The information has been obtained from sources considered to be reliable, but we do not guarantee that the foregoing material is accurate or complete. Any opinions are those of Sara Stanich and not necessarily those of RJFS or Raymond James. Tax laws are subject to future revisons. Raymond James does not offer tax advice. Please consult your tax advisor for any tax issues.