How to Save for Retirement as a Small Business Owner

For many small business owners or self-employed individuals, contributing to a retirement plan often gets put on the backburner. With so much focus on the business itself, it can be hard to prioritize retirement savings, especially when you’re trying to keep costs low. This leads many to put all of their retirement eggs into one basket – their business itself.

However, besides allowing you to take advantage of tax-deferred retirement savings, many don’t realize that having a retirement plan for yourself can also reduce tax liability for their business.

A business can grow to become a valuable asset, but it’s important not to rely on it as the sole source of retirement funds. The life of a business can be unpredictable, so it’s important to pay yourself first!

Many of our clients are small business owners who set up small retirement accounts years ago. When they first started contributing, some wondered if it was even worth the time to set it up and make the contributions, considering how small they seemed.

Many years later, those small contributions have grown and these plans are more than a retirement savings vehicle, but also a great tax planning tool. These clients feel comfort and safety knowing that they are growing their business and retirement at the same time.

When business owners or self-employed individuals decide to strike out on their own, it can be difficult knowing some of the benefits they may be giving up from a larger employer. However, there are many affordable options out there.

When we meet with small business owners we generally recommend one of two options: The SEP IRA or the Solo 401(k).

SEP IRA

What is it?
SEP stands for Simplified Employee Pension plan, and allows for employers to contribute to traditional IRAs (SEP-IRAs) set up for employees.

Who can set up a SEP?
A business of any size, even self-employed individuals, can establish a SEP, although only the employer can contribute.

How much can you contribute?
You can contribute up to 25 percent of an eligible employee’s salary, with a maximum limit of $58,000 (2021 limit).

Pros:

• The SEP IRA is a good place to start if your business has extra income, and your CPA recommends reducing your tax liability.
• Employees are 100 percent vested immediately.
• SEP IRAs are generally easy to set up, with low administrative costs.
• Contribution rates can be flexible from year to year (so a great choice for businesses with unpredictable cash flows).

Cons:

• You cannot take out plan loans.
• Contribution rates must be the same for all employees.
• A SEP IRAs don’t allow for catch-up contributions.

Solo 401(k)

What is it?
A Solo 401(k) is similar to a traditional 401(k) plan.

Who can set up a Solo 401(k)?
Any business owner who doesn’t have any other employees, other than his or her spouse, can set up a Solo 401(k).

How much can you contribute?
Contribution limits are the same as a traditional 401(k) – $19,500 for individuals under 50, allowing for a catch-up contribution of $6,500 for individuals 50 and over (2021 tax year).

In addition, you can also make employer non-elective contributions of 25 percent of your net earnings from self-employment, although total contributions, not counting catch-up contributions cannot exceed $58,000.

Pros:

• You can make catch up contributions.
• You can take loans out of your plan.

Cons:

• Setting up a Solo-401(k) can be more expensive.

Choosing the right retirement option for you will depend on many factors. Legacy is able to consult with you and your CPA to help you set up the right retirement vehicle for your situation and business. Don’t wait to start thinking about your future. Set up a complimentary meeting to see how we can help you.

For more information about SEP IRAs and Solo 401(k) head over the IRS website.