A retirement plan is a critical part of a competitive benefits package. Although small business owners can sponsor a qualified retirement plan like a traditional 401(k), profit-sharing, or defined benefit plan, these plans can be expensive to maintain and relatively difficult to administer. Luckily, there are a number of simpler alternatives.
Simplified Employee pension (SEP) plans
A SEP plan allows small business owners to set up traditional IRAs, called SEP-IRAs, for themselves and each employee. You must generally contribute a uniform percentage of pay, up to 25%, for each eligible employee (up to $50,000 in 2012), but you don’t have to make contributions every year. The plan must generally cover any employee aged 21 or older who has worked for you for three of the last five years and who earns $550 or more during the year.
Your employees don’t directly contribute to the SEP plan, although they can make their regular annual IRA contributions to their SEP-IRAs if they choose (SEPs are traditional IRAs and can’t accept Roth IRA contributions). All contributions to the plan are fully vested (that is, immediately owned by your employees), and your contributions are fully deductible.
Most employers, regardless of size, can establish a SEP plan. SEP plans have low startup and operating costs, and can be established using a two-page IRS form.
SIMPLE IRA and SIMPLE 401(k) plans
You can adopt a SIMPLE IRA plan if you have 100 or fewer employees who earn $5,000 or more. A SIMPLE IRA plan lets your eligible employees contribute a percentage of their salary on a pretax basis, up to $11,500 in 2012 ($14,000 for employees age 50 and older). Each 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.
You’re required to either match each employee’s contributions dollar for dollar–up to 3% of the employee’s compensation–or make a fixed contribution of 2% of compensation for all eligible employees. (The 3% match can be reduced to 1% in any two of five years.) Like SEPs, all contributions to the plan are fully vested, and your contributions are fully deductible.
SIMPLE IRA plans are easy to set up (you fill out a short IRS form to establish the plan), easy to administer, and inexpensive to maintain. You can let each employee set up a SIMPLE IRA account at a financial institution of his or her choosing, or you can select the financial institution that will serve as trustee and initially hold all plan contributions.
Note that unlike any other retirement plan, early withdrawals (before age 59½) from SIMPLE IRAs during the first two years of participation are subject to a 25% penalty tax, unless an exception applies. After the first two years of participation, the penalty tax drops to 10% (consistent with other retirement plans).
SIMPLE 401(k) plans are similar to SIMPLE IRAs, but can also allow loans and Roth contributions. And in most cases, you don’t have to perform complicated discrimination testing. But because they’re still qualified plans (and therefore more complicated and costly to establish and administer than SIMPLE IRAs), and allow less deferrals than traditional 401(k)s, SIMPLE 401(k)s haven’t become popular retirement plans.
But Don’t Rule Out a 401(k) Plan Entirely
No employees? Then there is one qualified plan you should consider–the individual 401(k) plan (also known as a solo 401(k) plan).
An individual 401(k) plan is a regular 401(k) plan combined with a profit-sharing plan. You can elect to defer up to $17,000 of your compensation to the plan for 2012 ($22,500 if you’re age 50 or older), just as you could with any 401(k) plan. Contributions can be pretax or Roth. In addition, as with a traditional profit-sharing plan, your business can make a tax-deductible contribution to the plan of up to 25% of your compensation.
Total contributions to your account in 2012 can’t exceed $50,000, plus any catch-up contributions (or, if less, 100% of your compensation). If you’re self-employed, compensation is your earned income from your business.
Since an individual 401(k) plan can cover only the business owner and his or her spouse, it isn’t subject to the often burdensome and complicated administrative rules and discrimination testing requirements that generally apply to regular 401(k) and profit-sharing plans.
If you’re a small business owner and haven’t established a retirement savings plan, what are you waiting for? It’s time to select the plan that best fits your needs, and the needs of your employees. If you have questions, contact the Business Experts at Henssler Financial: 770-429-9166 or experts@henssler.com.
Disclosures:
The following information is reprinted with permission from Forefield, a division of Broadridge Financial Solutions, Inc. All material presented is compiled from sources believed to be reliable and current, but accuracy cannot be guaranteed. The contents are intended for general information purposes only. Information provided should not be the sole basis in making any decisions and is not intended to replace the advice of a qualified professional, such as a tax consultant, insurance adviser or attorney. Although this material is designed to provide accurate and authoritative information with respect to the subject matter, it may not apply in all situations. Readers are urged to consult with their adviser concerning specific situations and questions. This is not to be construed as an offer to buy or sell any financial instruments. It is not our intention to state, indicate or imply in any manner that current or past results are indicative of future profitability or expectations. As with all investments, there are associated inherent risks. Please obtain and review all financial material carefully before investing.
