SIMPLE IRA
A Savings Incentive Match Plan, otherwise known as a SIMPLE IRA, is a great option if you want to set yourself and your employees up for the future. Investment professional Rebecca Baldridge of Inc. says a SIMPLE IRA is the best option if your business has 100 or fewer employees.
With a SIMPLE IRA, every employee has a retirement savings account established in their name. Employees can defer up to 100 percent of their pretax compensation into the account up to a certain amount — the max for 2021 is $13,500. Any employee over the age of 50 is also eligible to make a one-time $3,000 catch-up contribution.
SIMPLE IRAs are particularly beneficial for employees thanks to their employer match mandate. You can opt to match employee contributions to the plan up to 3 percent of their compensation or match a flat 2 percent of all compensation up to $285,000.
This isn’t to say a SIMPLE IRA doesn’t benefit the employer as well. Amy Fontinelle, writing for Investopedia, notes matching contributions to employee plans are tax-deductible. Offering a SIMPLE IRA to employees also benefits your business from a recruiting standpoint — you’re more likely to attract quality candidates in competitive fields if you provide a pathway to retirement. Baldridge also notes this kind of plan relieves you of some of the administrative burden you’d encounter with a traditional or Roth IRA.
SEP IRA
If your business is on the smaller side, a simplified employee pension individual retirement account may be your preferred route. According to Fontinelle, a SEP IRA allows business owners and employees to contribute up to 25 percent of all pretax income per year with a maximum contribution of $58,000 for the 2021 tax year.
Like a SIMPLE IRA, you can make tax-deductible contributions to employee plans, but there’s no minimum mandated contribution. This means you could establish SEP IRAs for your employees in the earlier years of your business and add an employer match program once you begin to see more revenue. This may also be an appealing option if you’re interested in attracting seasonal and part-time talent— according to Investopedia, part-timers are eligible for enrollment after one full year and 1,000 hours or three consecutive years at a minimum of 500 hours worked.
Solo 401(k)
Businesses that are just starting out or don’t require employees are ideal candidates for a solo 401(k) plan. Also known as a self-employed 401(k), this plan is intended for businesses run by owners and eligible spouses. According to Investopedia, business types that qualify for solo 401(k)s include sole proprietorships, corporations, limited liability companies, and partnerships.
There are two elements of a solo 401(k), per NerdWallet’s Arielle O’Shea: employee elective-deferral contributions and profit-sharing contributions, the latter of which is the equivalent of the employer match contribution.
Elective contributions can account for up to 100 percent of your compensation in a year but can’t exceed a specified amount — for 2021, the maximum is $19,500 for anyone under the age of 50 and $26,000 for people 50 and older. This is substantially more than the maximum elective deferral offered with a SIMPLE IRA.
When it comes to profit-sharing contributions, the maximum is 25 percent compensation for non-sole proprietorships and 20 percent for a sole proprietor or Schedule C taxpayer. For 2021, the limit on contributions is $58,000 for under 50 and $64,500 for 50 and older. While a SEP IRA offers the same maximum match, it doesn’t offer a catch-up contribution.
Unlike either IRA, a solo 401(k) may allow you to take out loans from the plan if you find yourself in financial hardship. You can borrow up to 50 percent of the balance or $50,000, whichever is less.
Running a small business means balancing living in the now and looking ahead. When you’re planning for the future, be sure to think on your plans for financial stability and independence in retirement. Talk to your financial planner and see which plans work best for your situation.