small business retirement plans

Small Business Retirement Plans – What You’re Missing

As an owner of a small business, your focus is to ensure its long-term success. Often, that’s to the detriment of your retirement savings.  Lucky for you, the options and flexibility of small business retirement plans are a significant bonus of being an owner. You need to take advantage of them.

Only 50% of small businesses survive past five years, according to the SBA

Focusing all your energy and money on growth makes sense. You can’t save for retirement if your business isn’t successful. Feeling comfortable enough to save for retirement seems to be the rub for business owners.  In reality, business owners never do and never should feel “comfortable,” but saving for retirement must be part of your business plan.

What is a small business?

The Small Business Administration defines a small business as one with less than 500 employees. Our expertise lies in companies with 1 to 25 employees.

There is a plan for every business. I will focus on the more common of the two types, defined contribution plans. A defined contribution plan does not guarantee a particular benefit in retirement. In these plans, the employee must contribute to their account. Most times, the employer will also contribute a matching amount.

The other type, defined benefit plans, also called pension plans, provides a guaranteed benefit at the participant’s retirement. The employer makes contributions. 

Defined contribution plan options

Simplified Employee Pension (SEP-IRA)

That’s not a typo. The “P” in SEP stands for a pension. The SEP IRA is a mix between a pension and an IRA. It’s like a pension because the employer makes all of the contributions.

Reasons to have a SEP

  • Affordable, easy to set up, and maintain, the SEP IRA is ideal for the self-employed and those with less than three employees, depending on how much the owner wants to save.
  • Contributions are tax-deductible as a business expense.
  • The contribution cannot exceed the lesser of 25% of compensation or $68,000 (2024).
  • You can skip the contributions. You aren’t required to contribute if your business has a down year.
  • If the SEP-IRA permits non-SEP contributions, you can make regular IRA contributions (including catch-up contributions if you are 50 and older) to your SEP-IRA. Those limits are $7,000 (2023), and those age 50+ can contribute an additional $1,000. However, they may be unable to deduct the contributions because of participation in the SEP and income limits.
  • SEP Roth IRAs are now an option. SEP IRA contributions by the employer are not considered income to the employee. However, SEP Roth contributions will be considered income and reported on the employee’s W2.

Reasons to think twice

  • I mentioned above that a SEP IRA suits the self-employed and businesses with less than three employees. That’s because you must create a SEP IRA for all eligible employees.
  • The contribution rate for all employees must be the same. For example, if you are the owner and want to contribute 20% of your income to a SEP IRA, you also have to contribute 20% of each eligible employee’s income to their SEP IRAs.

The Savings Incentive Match Plan for Employees (SIMPLE) IRA

You can use the SIMPLE IRA if you have under 100 employees. This is our preferred plan for small businesses with more than three eligible participants who aren’t all family members.

Reasons to have a SIMPLE IRA

  • Like the SEP IRA, the SIMPLE IRA is easy and affordable to set up and maintain.
  • Contributions: Employees can defer up to $16,000 (2024) to a SIMPLE IRA, and those 50+ can contribute an additional $3,500. The amount they defer reduces their taxable income – just like a corporate 401(k) plan.
  • Employer matching options:
  • The employer must match each employee’s contributions on a dollar-for-dollar basis up to 3% of the employee’s compensation. OR
  • The employer has the option to make non-elective contributions. Instead of matching contributions, an employer may make non-elective contributions of 2% of each eligible employee’s compensation. The employer must make the non-elective contributions whether or not the employee chooses to make contributions.
  • An employer may decide to match an amount less than 3%, but it must be at least 1% and for no more than two years out of the 5-year period that ends with (and includes) the year for which the election is effective.
  • Contributions are tax-deductible as a business expense.
  • Employees now have the option to open a SIMPLE Roth IRA. Employees can now defer income on an after-tax basis. Employer matching still gets deposited to the SIMPLE IRA.

Reasons to think twice

  • If you have two jobs, participate in a 401(k), and have a business, contributions to the SIMPLE IRA count towards the $23,000(k) limit, $30,500 for those 50 and older.
  • Contributions are mandatory, although they can be reduced temporarily with a SIMPLE IRA.

One Participant 401(k), also called Solo 401(k)

The Solo 401(k) is perfect for a business owner without employees unless that employee is a spouse. Then both can have Solo 401(k)s. This is our go-to plan for sole proprietorships and partnerships (and spouses if they’re employees) that can/desire to save more than what is allowed with a SIMPLE IRA or SEP IRA.

Reasons to have a Solo 401(k)

  • Contributions: Employee elective deferrals of 100% compensation up to $23,000 (2024) or $30,500 (2024) age 50+.
  • Employer non-elective contributions up to 25% of compensation.
  • The highest possible contribution allowed is $69,000 (2024), $76,500 if 50 or older.
  • You aren’t required to contribute yearly to a Solo 401(k). If you have a terrible year, you can reduce your contribution.
  • The matching contribution is deductible as a business expense.
  • The Solo 401(k) has falsely gotten a rap for being more expensive than the SEP or SIMPLE IRA plans. It’s not. You better shop around if you think you’re paying high administration fees.
  • A Solo Roth 401(k) is available. Contributions are after-tax, but employer matching is still before-tax, so a Solo 401(k) needs to be opened to receive those deposits.

Reasons to think twice

  • A Solo 401(k) requires slightly more paperwork to set up than other plans, but it’s not cumbersome.
  • Once 401k (all accounts) reaches $250,000, you must report your benefits with form 5500 annually. Don’t let administrators fool you. It’s not that difficult. It’s a two-page form. Plus, if you wanted to avoid the paperwork, you could roll some of the Solo 401(k) over to a traditional/rollover IRA without any problem getting under the $250K.

Please note the one item all the plans have in common is that each requires the computation of self-employment tax to determine the allowable contribution amount. It’s not difficult or time-consuming, but I’ve thrown a lot of info your way and have not included those equations.

It may sound daunting and confusing, but don’t be intimidated. You need to start the process to begin saving for your retirement.

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