Retirement Plans for Self-Employed and Small Business Owners
When it comes to owning a small business or being self employed, there are special challenges that those individuals face when it comes to financial planning and saving for retirement. One challenge that arises is being limited in options for tax sheltered retirement accounts. Today we’re going to discuss some options that self-employed or small businesses owners may benefit from.
Often times when one is looking to explore options for setting up their own retirement plan, they’re wanting something simple, affordable, and effective. While the typical IRA is often utilized, the relatively low contribution limit ($6,000 for 2022) can be a drawback for some. Let’s look at some options that help self-employed and small businesses owners save a little (or a lot) more.
• SEP
The Simplified Employee Pension is a type of IRA that allows self-employed individuals and small businesses owners to save more in an IRA style account. It allows the flexibility and control that an IRA offers, while also offering a higher annual limit.
The annual limit for a SEP IRA is the lesser of 25% of earned income or $61,000 for 2022. This is obviously much higher than the normal $6,000 for your typical IRA, but still offers the control of your normal IRA as well as the benefit of tax free growth.
There are some requirements associated with a SEP that are important to understand. Maybe the most important to note is that if you have qualified employees, what ever percentage of your salary that you decide to contribute into your own account, you must also contribute the same percentage of each employee’s salary into their accounts. Because of the rule requiring equal contributions, a SEP is generally best for self-employed or small businesses owners with few or no employees.
• SIMPLE
A Savings Incentive Match Plan for Employees is the small businesses version of a 401(k) designed for businesses owners with less than 100 employees. Unlike the SEP where the employer is the only one who contributes, the SIMPLE is designed for the employees to each contribute a portion of their paycheck into their own account. A SIMPLE plan could be compared to a 401(k) plan for small businesses, they’re similar in that the employees fund the accounts, and the employer has the option to also match a percentage of the employee’s contributions. The difference is that the SIMPLE plan is much easier to set up than a 401(k) and tends to have lower startup and operating costs.
There are some drawbacks associated with SIMPLE plans, one of which is that the contribution limit is a little lower than some other workplace retirement plans. The contribution limit for 2022 is $14,500. That applies for any employee as well as the owner of the business. For that reason, the SIMPLE plan is meant to be used when a small business has multiple employees, not necessarily for someone who is self-employed or a solo business owner looking to max out their own retirement savings.
Solo 401(k)
A solo 401(k) is made for the self-employed who have no current employees. Contributions to a solo 401(k) can be made with either pre-tax money or post-tax money (making it a Solo Roth 401(k)). This plan is designed to operate just like an employer sponsored 401(k), without the burden of having to work for the man.
Contributions to a Solo 401(k) can be made on behalf of either the business owner or the owner’s spouse. This allows a little bit of added control over how much you’re really putting away for retirement each year. Another great benefit of the Solo 401(k) is the contribution limit. The contribution limit for a Solo 401(k) is up to $61,000 for 2022. While this figure is quite high, it’s not all that simple, think of the contribution being made by two separate people. As the employee you can contribute up to $20,500. As the employer you can make an addition contribution of up to 25% of your compensation or net-self employment compensation (there’s limits here but for simplicity we’ll leave it at that). The combination of the employee and employer portions can not exceed $61,000.
This allows us the greatest option for putting away a lot of money in a tax sheltered retirement account. The Solo 401(k) is typically the best option for the self-employed and solo business owners, and is probably the most commonly used.
If you’re self-employed or a small business owner and are interested in learning more about one of these plans, please don’t hesitate to reach out! Start saving for retirement and take control over your financial future. I’d be glad to serve you as an advisor and can ensure you’d be in great hands. Contact me and we can set up a pressure free phone call and get the ball rolling!
Tanner Millar
Investment Advisor - Core Planning
tanner@yourcoreplan.com
(660)-998-4639