Retirement plans are in rough shape, which is why it’s more important than ever for you to begin long-term planning for your future.
More than 36% of Americans (within 20 years of retirement) believe the COVID-19 pandemic will push their retirement date back. 12% of companies have stopped providing 401(k) matches, and 23% plan to suspend matches sometime this year.
Those are some scary statistics. But with small businesses struggling just to survive 2020, it’s no wonder retirement plans are taking a backseat.
A SCORE survey found 18% of business owners bank on selling or transferring their companies to family members to fund their retirements—this is a risky all-your-eggs-in-one-basket approach. To protect your future, you need a reliable way to build your retirement savings.
According to research from Capital One, 60% of small business owners think they have too few employees to offer a retirement plan. However, that’s a detrimental (yet common) misconception. “The truth of the matter is any size business, even an owner-only business, can have a 401(k) plan,” says Stuart Robertson, president of Capital One Advisors 401k services.
Below, we’ll walk through some of the most common (and practical) retirement plan options for you as a small business owner.
1. Self-Employed 401(k)
If you’re a business owner with no employees (other than your spouse), you qualify for a self-employed 401(k)—also known as a solo 401(k). This retirement plan allows you to maximize your contributions since you’re recognized as both the employer and employee. You’ll simply make contributions from your pre-tax earnings, and then you can choose how to invest those tax-deferred savings until retirement.
As the employee, you can contribute 100% of your earned income up to $19,500 in 2020 (or up to $26,000 if you’re age 50 or over). And as the employer, you can contribute up to 25% of compensation for a maximum contribution of $57,000 ($63,500 if you’re age 50 or over).
The solo 401(k)’s structure allows you to accelerate your retirement savings growth, no matter if you’re a brand-new business owner or on the tail-end of your career.
2. SIMPLE IRA
According to research from Willis Tower Watson, 3 out of 4 new hires at a company say that a retirement plan gives them a good reason to stay.
“Employees who feel their employer is invested in them are more likely to be engaged in their workplace and stay with the company longer, reducing the high cost of employee turnover,” writes Roger Lee, CEO of Human Interest, a San Francisco-based 401(k) provider.
If you have employees, the Savings Incentive Match Plan (SIMPLE) IRA is a great option. Employees can make salary-deferred contributions of up to 100% of their compensation (up to $13,500 in 2020—$16,500 for those age 50 or over).
Employers can also contribute to the account by matching employee contributions (up to 3% of compensation) or contributing to each employee’s IRA (up to 2% of compensation).
SIMPLE IRAs are easy to set up and administer, and they offer higher contribution limits than a traditional or Roth IRA. While they’re not quite as generous as a solo 401(k), they’re a fantastic choice if you have employees who want to save for retirement.
3. SIMPLE 401(k)
SIMPLE 401(k)s are a cross between a self-employed 401(k) and a SIMPLE IRA—with a few caveats:
- Employers can include loans as an option in their SIMPLE 401(k) plan. This allows employees to receive distributions from their retirement plans when they need to tap into savings but are ineligible.
- Employee contributions are capped at a lower annual amount (up to $13,500, and up to $16,500 for those ages 50 and over).
- Employers must make contributions each year by (a) matching contributions up to 3% of each employee’s pay or (b) making a non-elective contribution of 2% of each employee’s pay.
No discrimination testing is necessary for a SIMPLE 401(k), making it easier to set up and administer.
4. SEP IRA
A Simplified Employee Pension (SEP) IRA is a great retirement savings option if you want to cover a few employees. It’s simple to administer and has no setup or annual fees. Employers are solely responsible for funding these retirement accounts—employees don’t make contributions.
Employers can contribute up to 25% of compensation for a total of $57,000 for the 2020 tax year. Elective salary deferrals and catch-up contributions (for those age 50 and over) aren’t permitted on SEP IRA plans.
You’re not required to make a contribution every year, but if you contribute to your own account, you must contribute equally to all your employees. This makes it expensive if you want to invest heavily in your own retirement savings.
5. Roth IRA
Contributions to Roth IRA accounts are made from post-tax income—meaning your retirement savings will grow tax-free. However, eligibility and contributions are limited.
Single filers who make an annual income of more than $124,000 ($196,000 for joint filers) will not be able to contribute a full amount to their Roth IRA. Total contributions for eligible individuals are capped at $6,000 ($7,000 if you’re age 50 or older).
This low contribution cap makes it difficult to aggressively save, which is why many small business owners have both a Roth IRA and an employer-sponsored 401(k).
Start Saving Now
If you’ve made it this far through this article, you’re either thinking, (a) “I need to get serious about this whole retirement thing,” or (b) “This sounds hard—I’ll put more thought into this when I have time later.”
Don’t put off saving for retirement. The longer you wait, the harder it becomes. Look over these plans and find one that’ll work for you.
Invest your time and energy now into starting a retirement plan that’s right for you, your family, and your employees. Your future self (the one who’s—hopefully—not having to work into your 70’s) will thank you later.