Retirement Planning for Small Business Owners
Owning a business is the dream of many Americans yet with the plethora of potential problems that can risk the success of your business’ future, banking on the sale of your business as a retirement plan poses a lot of risk. Segregating your business from your retirement savings will help protect your nest egg
Types of Plans
There are two main types of retirement plans, IRA-based and “qualified” plans. IRA- based would be the SEP or the SIMPLE IRAs while qualified plans are your 401(k)s, profit-sharing or defined benefits plans. Qualified plans are generally more complicated than IRA plans as they must comply with Internal Revenue Code and ERISA requirements. We want to focus on IRA-based plans.
To select the right kind of plan you must first decide what you want from your plan. Plans may differ in tax treatment, contribution maximums and cost as well as the ability for the employer to contribute as well.
Simplified Employee Pension (SEP) plan
A SEP allows you to set up an IRA for yourself and your eligible employees. They have a low start-up cost and are simple to set up. You contribute a set percentage of pay for each employee, but you do not have to contribute every year. This allows for some flexibility. For 2023, your contributions for each employee are limited to the lesser of 25% of pay or $66,000 (up from $61,000 in 2022). Most employers, including those who are self-employed, can establish a SEP. The plan must cover any employee aged 21 or older who has worked for you for three of the last five years and who earns $750 or more.
SIMPLE IRA and SIMPLE 401(k)
The SIMPLE IRA plan is available if you have 100 or fewer employees. SIMPLE IRA plans are easy to set up. You fill out a short form to establish a plan and ensure that SIMPLE IRAs are set up for each employee. Additionally, administrative costs are low. Employees can elect to make pre-tax contributions in 2023 of up to $15,500 ($19,000 if age 50 or older). You must either match your employees’ contributions dollar for dollar — up to 3% of each employee’s compensation — or make a fixed contribution of 2% of compensation for each eligible employee. (The 3% match can be reduced to 1% in any two of five years.)
Any employee who earned $5,000 or more in any two prior years, and who is expected to earn at least $5,000 in the current year, must be allowed to participate in the plan.
SIMPLE 401(k) plans are like SIMPLE IRAs but may also allow loans and the employee must be above the age of 21. Because they’re qualified plans, they are a bit more complicated to administer than SIMPLE IRAs.
All of these plans offer tax-deferred growth for your investments and beginning in 2023, these plans may accept Roth contributions as well.