1. Business Ideas
  2. Business Plans
  3. Startup Basics
  4. Startup Funding
  5. Franchising
  6. Success Stories
  7. Entrepreneurs
  1. Sales & Marketing
  2. Finances
  3. Your Team
  4. Technology
  5. Social Media
  6. Security
  1. Get the Job
  2. Get Ahead
  3. Office Life
  4. Work-Life Balance
  5. Home Office
  1. Leadership
  2. Women in Business
  3. Managing
  4. Strategy
  5. Personal Growth
  1. HR Solutions
  2. Financial Solutions
  3. Marketing Solutions
  4. Security Solutions
  5. Retail Solutions
  6. SMB Solutions
Product and service reviews are conducted independently by our editorial team, but we sometimes make money when you click on links. Learn more.
Grow Your Business Finances

Retirement Plan Options for Small Business Owners

Retirement Plan Options for Small Business Owners
Credit: vinnstock/Shutterstock

Planning for retirement can be overwhelming and complicated. But because the average American will spend about two decades in retirement, it makes sense for small business owners to learn the basics about the various retirement plan options available to them.

Offering a company-sponsored retirement savings plan has benefits that extend beyond your own well-being. Considering that only 14 percent of small businesses offer any sort of retirement plan for their employees, you can distinguish your business and attract top talent by providing this incentive. Though certain types of plans do not require you to contribute to your employees' retirement plans, if you choose to, you also will enjoy a range of tax benefits.

Whether you're managing multiple employees or just work for yourself, there's an affordable option out there that's right for you. Here are the most common types of retirement plans available to small business owners and self-employed individuals. [See Related Article: Employee Retirement Plans: A Buyer's Guide]

In this article...

1. Self-directed or personal IRAs
2. Employer-sponsored IRAs
3. 401(k) plans
4. Profit-sharing plans
5. Choosing a plan

Editor's note: Considering an employee retirement plan for your business? If you're looking for information to help you choose the one that's right for you, use the questionnaire below to have our sister site BuyerZone provide you with information from a variety of vendors for free:

buyerzone widget

In a self-directed or personal individual retirement account (IRA), the account owner directs all investment decisions on behalf of the retirement plan, while a qualified trustee or custodian holds the IRA assets on behalf of the IRA owner. Terry Dunne, senior vice president and managing director at financial services company Millennium Trust, said that individuals who have left a job and want to move retirement funds from their former employer's 401(k) plan typically choose to roll over their assets into an IRA. 

When considering a self-directed IRA, there are two types to choose from: traditional and Roth.

1. Traditional IRAs allow annual tax-deductible contributions that depend on the individual's modified gross adjusted income. Withdrawals are taxed, but earnings on principal and interest accumulate tax-deferred until funds are withdrawn from the account penalty-free after age 59 and a half, and minimum required distributions are mandatory after age 70 and a half. Dunne noted that the traditional IRA is a good choice for individuals whose tax strategy is to defer taxes until after retirement, or for those who anticipate that tax rates during their retirement will be lower than their current rate.

2. Roth IRAs have distinct tax benefits, Dunne said: Earnings from a Roth IRA accumulate tax-free, and unlike a traditional IRA, withdrawals are free of tax and penalties, provided certain conditions are met. Contributions are not tax-deductible but can be made past age 70 and a half.

One recent option that has become available to small businesses and self-employed individuals is myRA. This Roth IRA program is offered through the U.S. Department of the Treasury for people without access to employer-sponsored savings plans. There's no cost to open a myRA, it has no fees or minimum contribution requirements, and participants can withdraw money at any time without paying taxes or a penalty.

Employers that offer myRA can set up payroll deductions for employees interested in the program but do not need to administer or contribute to the accounts. Contributions are invested in Treasury bonds; the government guarantees the principal, so there is no risk of losing money.

Denise Downey, a certified financial planner and founder of Financial Trex, said that while this makes the investment selection very easy, investors should consider the growth potential.

"U.S. Treasuries are very safe investments, but they struggle to earn enough to keep pace with inflation," Downey said. "Once a myRA account balance reaches $15,000 or in 30 years (whichever comes first), the account owner must transfer the account into a Roth IRA."

Employer-sponsored IRAs are ideal for small business owners who want to offer their employees a retirement plan. There are two options: Simplified Employee Pension IRAs (SEP IRAs) and Savings Incentive Match Plan IRAs (SIMPLE IRAs).

1.SEP IRAs allow employers to make contributions of up to 25 percent of the employee's compensation, or a maximum of $53,000 in 2016 (whichever is less), according to the IRS. They are also funded 100 percent by the employer; employees do not contribute. The employer is not required to make a contribution every year but must contribute the same percentage for employees that they may contribute for themselves in a given year.

Peter Calfee, president of Calfee Financial Advisors, said that SEPs are the easiest plans to set up, and offer business owners the greatest flexibility in when and how much they contribute.

2. SIMPLE IRAs enable employers with fewer than 100 employees to establish an IRA for each participating employee. The SIMPLE IRA has requirements similar to those of a traditional IRA, but with this plan, employees can make salary deferral contributions of up to 100 percent of their compensation, not to exceed $12,500 in 2016. Employers must also contribute to the accounts by either matching employees' contributions dollar for dollar for up to 3 percent of their compensation, or contributing 2 percent of each eligible employee's compensation.

Perhaps the most well-known type of retirement plan, a traditional 401(k) allows employees to contribute a portion of their wages to individual accounts. Employers have the option to make and/or match contributions on behalf of plan participants, and have the right to reclaim those contributions if an employee leaves the company before a set time. Additionally, employers who sponsor traditional 401(k) plans are subject to an annual qualifying test by the IRS.

Unless employees contribute to a Roth 401(k) account, money is taken out of an employee's wages pretax and therefore reduces the amount of income tax he or she has to pay. Because of this, the IRS places a cap on how much an employee can put into a 401(k) account each year: $18,000 for 2016.

In addition to the traditional 401(k) plan described above, there are several other types of 401(k) plans available, and it's important to understand the features of each one before choosing a plan for your business.

1.Solo 401(k) plans are similar to self-directed IRAs. However, these plans are suitable only for single-employee businesses, because only the business owner and his or her spouse may participate and make contributions to the plan. The plans also offer more generous annual contribution limits than any of the other options, and tax-deferred contributions can be up to three times that offered by other plans, Dunne said.

2. Safe harbor 401(k) plans mandate that employer contributions be vested as soon as they are made. Therefore, employees can take the money with them when they leave the company, regardless of how long they have been there. Safe harbor 401(k) plan sponsors are not subject to the annual IRS test.

3. SIMPLE 401(k) plans are ideal for smaller ventures, as they can be offered only by businesses with fewer than 100 employees. As with the safe harbor 401(k) plan, the SIMPLE 401(k) plan requires employer contributions to be vested as soon as they are made, and does not mandate annual testing.

Andrew Meadows, vice president of brand and culture at Ubiquity Retirement + Savings, cautioned business owners to read the fine print when setting up a 401(k) plan, because many providers will tack on hidden fees.

"A lot of employees think a 401(k) plan is free, but their savings are being eroded by a fee off the back end," Meadows told Business News Daily. "Take a look at the funds, and see how much you're actually paying. Administrative costs might be low, but you may find that [there are] low balances in the 401(k) accounts [due to] hidden fees."

For more detailed information on the types of 401(k) plans available, visit Business News Daily's reference article on the subject.

Any employer with employees who have worked at least 1,000 hours in a previous year can offer a profit-sharing retirement savings plan. The U.S. Department of Labor states that the maximum annual contribution for this plan for 2016 is $53,000, or up to 100 percent of an employee's compensation if it's below $53,000.

Before deciding on a plan provider, it is important for individuals and small business owners to determine what kinds of investment options they would prefer to have. Dunne advised employers to ask themselves these questions before they decide on a retirement plan:

  • Do you prefer simple administration?
  • Do you expect to have employees?
  • Is it critical that your employees be able to contribute to the plan?
  • Will it be important to attract and keep good employees?
  • Do you want to maximize your contributions?
  • Will you want to contribute every year?
  • Do you want plan contributions to be deductible as a business expense?

Your answers to these questions can help you better evaluate which plan will work best for your business. It's also important to speak with a professional — such as an accountant, lawyer or financial planner — to determine what your business needs versus how much it can afford.

"Start by interviewing folks who are knowledgeable," said Marilyn Capelli Dimitroff, principal and director of wealth management at Planning Alternatives wealth advisory firm. "It's something that most small business owners don't deal with on a day-to-day basis. The skills that make you a good entrepreneur may not equip you to manage investments on an ongoing basis."

Additional reporting by Nicole Fallon Taylor. Some source interviews were conducted for a previous version of this article.

Editor's note: Considering an employee retirement plan for your business? If you're looking for information to help you choose the one that's right for you, use the questionnaire below to have our sister site BuyerZone provide you with information from a variety of vendors for free:

 

buyerzone widget
Paula Fernandes
Paula Fernandes

Paula is a New Jersey-based writer with a Bachelor's degree in English and a Master's degree in Education. She spent nearly a decade working in education, primarily as the director of a college's service-learning and community outreach center. Her prior experience includes stints in corporate communications, publishing, and public relations for non-profits. Reach her by email.