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Grow Your Business Finances

Retirement Plan Options for Small Business Owners

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

A retirement savings plan is usually a standard component of benefits packages at larger corporations. But as a small business owner with a limited budget, preparing for your financial future – or offering employees the chance to plan for theirs – can seem like a goal that's out of reach.

According to a new study by Manta, an online small business resource, one-third of the nearly 2,000 small business owners surveyed don't have a retirement savings plan. Based on the research, John Swanciger, CEO of Manta, said that the most important reason why entrepreneurs don't save for retirement is that they're not making enough money – or at least, they think they don't have enough revenue to set some aside.

"Of course, often this is a matter of budgeting," Swanciger said. "Small business owners need to get past the feeling that they don't have enough 'extra' money and just make retirement savings a priority."

Once you've decided to make saving for retirement a priority, your next step is exploring your options and finding the best way to save. Here are some retirement savings plans available to you as a small business owner and how to choose the right one for you.

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:

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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 roll over their assets into an IRA.

There are two types of self-directed IRAs 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. 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 for 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.

Employer-sponsored IRAs are ideal for small business owners desiring 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 contribute up to 25 percent of the employee's compensation, or a maximum of $54,000 (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 contribute for themselves in a given year.
  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 through 2017. Employers must also contribute to the accounts by either matching employees' contributions dollar for dollar for up to 3 percent of the employee's compensation, or contributing 2 percent of each eligible employee's compensation.

Perhaps the most well-known 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 they 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.

There are several 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.

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 the previous year can offer a profit-sharing retirement savings plan. The U.S. Department of Labor states the maximum annual contribution for this plan for 2017 is $54,000 or up to 100 percent of any employee's compensation if it's below $54,000.

Dunne advised small business owners to ask themselves these questions before deciding 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?

Swanciger added that entrepreneurs should think about their succession plan when choosing a retirement savings option. Do you plan to transition out of the business as you hand the company over to family members, or make a clean break and sell the business to fund your retirement? 

"The answers to these questions will determine your financial needs and help you select the most appropriate savings plan," said Swanciger.

Additional reporting by Paula Fernandes and Nicole Fallon. 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:

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Jennifer Post

Jennifer Post graduated from Rowan University in 2012 with a Bachelor's Degree in Journalism. Having worked in the food industry, print and online journalism, and marketing, she is now a freelance contributor for Business News Daily. When she's not working, you will find her exploring her current town of Cape May, NJ or binge watching Pretty Little Liars for the 700th time.