When you work a traditional full-time job, you typically have the opportunity to enrol in an employer-sponsored retirement account. If your employer is particularly generous, you may even be eligible for a funds match, through which the company contributes a set amount to your account for you, based on the percentage of your salary you choose to invest.
But as a small business owner, it’s up to you to take care of your own retirement planning.
Now, instead of simply enrolling in your company’s plan, you’re the one that’s got to provide it. Not only are retirement accounts important from a personal financial perspective, they’re an important piece of leverage you can use when recruiting new talent. According to a LINRA poll of 1,500 workers, 62% of respondents rate a company’s benefits package as the top factor they consider when deciding between multiple job offers – more than any other option surveyed.
Choosing a Retirement Account Option
So you know that you need a retirement plan for your small business… but where do you start?
The first question you’ll need to answer is whether you have employees who will be participating (or anticipate having employees in the future). Select from the options below based on your needs and your company’s projected future growth.
US Personal Retirement Accounts
Self-Employed 401k. If you’re a freelancer – and always intend to remain a solo operation – one of the best options available to you is the Self-Employed 401k. Available for single business owners without employees, this retirement account lets you sock away salary deferrals of up to $17,500 for 2014 and $18,000 for 2015 – far more than you can contribute to a personal IRA or Roth IRA.
In addition, participating in a Self-Employed 401k offers your business significant tax advantages. Not only will you be able to deduct your contributions from your taxes, any money you contribute will grow tax-free in the account (as long as you meet plan requirements on when distributions can begin). Catch up contributions of $5,500 for 2014 and $6,000 for 2015 (if you’re older than 50) and profit sharing contributions are also allowed on this plan, potentially helping to reduce your tax liability even further.
Retirement Accounts for US Owners with Employees
Traditional 401k Accounts. There are a few reasons to offer your employees a traditional 401k. In particular, doing so will allow them to take advantage of things like Roth options, loan options and profit sharing that aren’t available with some of the plans below. Traditional 401ks can also take advantage of a wide range of mutual fund investment options, and offer the same tax benefits of self-employed 401ks.
That said, traditional 401k accounts are rarely the best choice for small business owners, given their sometimes-intense reporting requirements. When you set up a traditional 401k account, you’ll be required to file IRS Form 5500, and you’ll have to go through a rigorous testing process to ensure your plan doesn’t favor highly compensated employees. You’ll also be required to issue employee notifications regarding distributions and other events, all of which can add up to a significant amount of administrative work.
SEP-IRA. If you want to avoid the filing requirements of a traditional 401k and are willing to give up some of the benefits this particular structure has to offer, look to the SEP-IRA. SEP-IRAs can be established with a single one-page form and allow you to contribute up to 25% of your self-employment income, up to $52,000 in 2014 and $53,000 in 2015.
Another great perk associated with SEP-IRAs is that they can grow with your business. You can set up a SEP-IRA as a self-employed solo worker, but you can also extend this benefit to your employees as you hire them. The only caveat with this type of plan is that only the employer can make contributions – employee money is not allowed. These contributions are immediately vested at 100%, but employees will still need to create their own private accounts if they want to set aside any of their own money for retirement.
SIMPLE-IRA. If allowing employees to contribute to their accounts is important to you, another option you’ll want to consider is the SIMPLE-IRA, an acronym standing for “Savings Incentive Match Plan for Employees.” Ironically, though, the SIMPLE-IRA isn’t as simple as its name would suggest. For instance, you’re only eligible to set up this type of account if you have fewer than 100 employees, but those employees must have earned at least $5,000 in the past year. As the owner of the plan, you’re also required to put in either a 3% matching contribution or a 2% nonelective contribution.
Small business owners will want to consider this restriction carefully, as required contributions may be difficult to swing if initial profits are low. However, if these expenses are doable for your business, you’ll take advantage of some of the highest participant contribution limits (100% of compensation, with a maximum of $12,000 for 2014 and $12,500 for 2015), while still avoiding the IRS filing requirements of a 401k plan.
Retirement Accounts for Canadian Owners
RRSP. Canadian business owners who are interested in supplementing the retirement income they’ll receive through the OAS and CPP systems will likely benefit most from opening a registered retirement savings plan (RRSP).
Similar to the US traditional IRA described above, the RRSP is a legal trust registered with the Canadian Revenue Agency that offers a number of tax advantages, including the ability to offset annual taxes (up to a threshold of $24,270 or 18% of employment income) and grow contributions tax-deferred until they’re withdrawn in retirement. RRSPs can be set up for self-employed professionals, or Group RRSPs are available for business owners who want to make contributions for their employees.
Deciding between these plan types can be confusing. If you have questions, consider seeking the counsel of a tax planning attorney or CPA who can advise you on the account structure that’s best for your business. Once established, you can invest with ease and rest assured that your future retirement needs are in good hands.
Do you have a retirement account setup for your small business? If so, which structure did you choose? Share your experiences by leaving a comment below!