Retirement Plans for Your Small to Mid-Sized Businesses and Professional Practices
As a business owner, you should carefully consider the varied benefits of establishing an employer-sponsored retirement plan. Generally, an employer is allowed a tax deduction for contributions made to an employer-sponsored retirement plan each tax year. In return, however, an employer is required to include certain eligible employees in the plan, and to give a portion of the contribution made to those participating employees. Setting up a retirement plan plays a vital role in helping your employee’s save for retirement. A retirement plan can provide both you, as an employer, and your employees with a tax-advantaged method to save funds for their and your own retirement.
The two main types of plans are qualified retirement plans and IRA based plans.
TRADITIONAL QUALIFIED RETIREMENT PLANS
These plans generally must adhere to strict IRC (Internal Revenue Code) and ERISA (Employee Retirement Income Security Act of 1974) guidelines regarding participation in the plan,vesting, funding, nondiscrimination, disclosure and fiduciary matters.
DEFINED CONTRIBUTION PLANS: 401(K)/403(B) AND PROFIT SHARING
The most popular is the traditional 401(k), or 403(b) for nonprofits and governmental agencies; both plans are essentially the same. These plans allow participating employees to save a certain amount of their pay, before tax, within their own individual tax deferred account. In addition, the amount they save and all earnings on the savings grow tax deferred until the amounts are withdrawn. Many new plans also offer a Roth 401(k) option. Roth contributions are made after taxes by employees allowing these funds to grow tax-free and are also tax-free if withdrawn after age 59 ½. Many plans add a profit sharing provision as well. Profit sharing contributions are tax-deductible to the employer and tax-deferred for the employee. The profit sharing contribution can be calculated in many ways, from a simple percentage of the employee’s wage to special allocations based on classes of employees or ages of employees. A special kind of profit sharing portion, a Safe Harbor matching provision allows employers to pay the profit sharing contribution to all eligible employees each year based on a simple percentage of their salary.
DEFINED BENEFIT PLAN
The other type of qualified employer plan is the defined benefit plan. This is by far the most complex and sophisticated type of retirement plan. A defined benefit plan sets out a formula that defines how much each participant will receive annually after retirement, if the person works until retirement age. Due to the costs and complexities of these plans, the use of defined benefit plans has been declining for many years.
In addition to the traditional qualified employer plans, another broad category of retirement plans are the IRA-based plans. These plans are generally much less costly and burdensome to set up and administer for firms with 100 or fewer employees. This is primarily because they only require limited ERISA compliance, unlike qualified employer plans. It is important to note that IRA-based plans require immediate vesting and the maximum contribution/deferred amount to each employee is significantly less than what the other qualified employer plans allow.
SIMPLE IRA PLAN
As the name suggests, the SIMPLE IRA plan is simple to set up and simple to administer. More importantly, it is both inexpensive to set up and administer, making the SIMPLE IRA plan the most popular IRA-based retirement plan. The SIMPLE IRA works similarly to the 401(k) in that each employee is allowed to defer a portion of his or her current pay up to a maximum amount. In addition, the employer is required to make a matching contribution.
SEP IRA PLAN
Another IRA-based plan option is the SEP IRA. This works similarly to the profit sharing plan. The SEP IRA allows the employer to match a uniform percentage of pay for each employee every year up to a defined limit of the employee’s pay. The employer is not required to contribute every year.
FINDING THE RIGHT PLAN FOR YOUR FIRM
Determining the correct retirement plan for your business involves a complex mix of considerations including financial, legal, administrative, cost and tax implications to state a few. Each type of plan has unique advantages and disadvantages. If you are considering a retirement plan, ask a fee-only (not merely fee-based or commission) plan professional with substantial legal, accounting and financial education, training and experience to help you determine what plan works best for you and your business needs. Regardless of which plan you select we highly recommend structured portfolio strategies utilizing low-cost (wholesale not retail), no-load (no commission) passively managed funds, with transparent fees and costs, supported by retirement planning that is uniquely tailored to each eligible employee.
Stephen L. Hicks, JD, MBA, MS, CPA, Roger L. Millbrook, JD, CPA/PFS, W. Joseph Irish, CPA/PFS, and Zachary H. Armstrong are Fee-Only Fiduciary Investment Advisers with Siena Wealth Advisors. Siena is recognized by CPA Wealth Provider and Accounting Today Magazines as one of the Top Investment Advisory Firms in the United States. Visit our website at www.sienainvestor.com or call 517-627-1412 to see how Siena can help you today.