Top Retirement Plans for Small Business Owners and Self-Employed Professionals — If you’re self-employed or own and run a business, you must have figured out by now that saving for
retirement should be a priority because, unlike your employees, you can’t rely on an employer for
retirement savings.
The first step is figuring out how much you need to save for your retirement. And the second step is
choosing the best option out of several types of retirement plans.
To make it easier for you, I am sharing an overview of different types of retirement plans for small
business owners. Read on.
1. Traditional or Roth IRA
Both traditional and Roth IRAs are great small-business retirement plans. With a traditional IRA, your
taxable income is deducted as you make a contribution which means that your income tax bill will be
smaller. Moreover, you don’t owe income taxes till the time you withdraw money from your
Individual Retirement Account.
Roth is one of the ideal small business retirement plan options if you’re willing to wait before you
can withdraw money tax-free. Though the contributions do not deduct tax in a Roth IRA plan, you
can withdraw investment gains in your account without paying any tax.
Best for: It’s an ideal retirement plan for small business owners who just got started or are saving
less than $6000 per year.
Contribution Limit: Up to $6,000 in the year 2022 along with a catch-up contribution of $1000 for
people who are 50 or older.
Tax Advantage: Tax deduction on contributions in a traditional IRA; no deductions but tax-free
withdrawals in Roth IRA
Employee Element: These are individual plans that employees can set up on their own.
2. Solo 401(k)
401k plans for small businesses are ideal when you wish to save a relatively higher amount in just a
few years. Small business 401 (k) plans are ideal when the business is flourishing so you wish to save
a great deal. Tax in solo 401 (k) is treated similarly to the tax in Roth IRA.
Best for: Ideal for self-employed people or small business owners with no employees (except the
spouse, only if applicable)
Contribution Limit: In 2022 – up to $61000 plus a catch-up contribution for people who are 50 or
older – $6,500 OR 100% of earned income (whichever is less).
Contribution limit as the employee: Salary deferral up to 100% of the total compensation
amount or $20500 (plus $6500 compensation if 50 or above) – the lesser amount out of the
two
Contribution limit as the employer: Additional contribution of a maximum of 25% of the
compensation allowed
For single-member businesses: Contribution of 25% of the net income allowed
Tax Advantage: Contributions are made pre-tax and distributions are taxed only after the age of 59.5.
Employee Element: You can’t use this plan if you have employees. Instead, you can hire your spouse
as an employee who will contribute up to the standard employee contribution limit and you can
make employer contribution up to $61,000 and an extra $6,500 as a catch-up contribution if you are 50
or above. This way you can save almost double.
3. SEP IRA
A relatively easier-to-maintain retirement plan for small business owners, SEP IRA is preferred since
it requires limited paperwork and no annual reporting. SEP IRA also allows higher contribution limits
while also giving you the flexibility to not contribute every year.
The only downside is that you have to make contributions for your employees and they must be the
percentage equivalent of the contribution you make for yourself.
Best for Self-employed professionals or owners of small businesses with zero or a few employees
Contribution Limit: Up to $61,000 in 2022 OR 25% of the net compensation amount or net income –
$61,000 whichever is lower. Calculate your maximum permitted SEP IRA contribution limit by
multiplying your net self-employment income by a factor of 25 percent. No catch-up contribution
required.
Tax Advantage: Deductions in tax are equivalent to your contribution or 25% of net income –
whichever is lesser.
Employee Element: The employer (who is also counted as an employee) must contribute an equal
percentage to the eligible employees. For example, if you contribute 10% of your income, you will
have to contribute 10% of the salaries of each employee.
4. SIMPLE IRA
SIMPLE IRA is ideal for owners of mid-size businesses with less than 100 employees. It may require
you to make contributions for your employees, hence, can be expensive if you have a large business.
Moreover, if you make any withdrawal before you are 59.5, it will be subject to a 10% penalty. The
penalty is 20% if you make a withdrawal within 2 years of buying the plan. There also is a 401(k)
a version of this plan which allows you to take loans but is more expensive.
Best for: Businesses with up to 100 employees
Contribution Limit: Up to $14,000 in the year 2022 in addition to a $3,000 contribution if you are 50
or older. The total of all contributions (including contributions made for employees) can’t be more
than $17,000.
Tax Advantage: Contribution deducts taxes but withdrawals are taxed.
Employee Element: Employees can contribute by the means of salary deferrals; the burden isn’t
solely on the employer. However, the employer must make matching contributions up to 3% or a
fixed 2% to every employee’s account. The compensation limit was $305,000 in 2019.
5. Defined Contribution Plans
Defined contribution plans are like pension retirement plans in which the pension is defined by the
amount that you contribute to these plans. There are a few ways you can set up a defined
contribution plan such as:
a. Profit Sharing Plan – Profit Sharing Plans have relatively high costs of administration. It
allows you to contribute for yourself and your employees if any. A company with any
number of employees can be serviced through the Profit Sharing Plan. It is a viable option if
you wish to retain control over investments and employee participation. However, the
employer needs not match the employees’ contributions.
Best for: Small business owners who would like to contribute to their employees in addition
to themselves
Contribution Limit: Contribution in this plan is subject to IRS limits or section 415 limits. In
2022, the limit is the lesser of the two – $61,000 or 100% of the compensation.
Tax Advantage: Up to 25% of employers’ contributions towards employees are tax-
deductible.
Employee Element: Employers can contribute up to the full employee contributions or
$61,000, whichever is lesser. The employee limit in 2022 is $20,500 with an additional
$6,500 for employees the age of 50 or above.
b. Money Purchase Pension Plan – Money Purchase Pension Plan allows you to contribute
defined amounts. It gives you the freedom to define a percentage of your employees’
salaries that you will be contributing to.
Best for: Small business owners who also want to contribute to their employees
Contribution Limit: A limit as per section 415 which is $61,000 in 2022 or 25% of each
employee’s salary, whichever is lesser.
Tax Advantage: Employer contributions in this plan are tax-deferred.
Employee Element: There is no limit to the number of employees. The employer can
contribute up to 100% of the employees’ salaries.
c. 403(b) – This plan is available to only select organizations or individuals. You must either
own a public education or a non-profit organization to be eligible. Self-employed ministers
are also eligible.
Best for: Companies that meet the eligibility criteria
Contribution Limit: Up to $61,000 for each employee in addition to $6,500 as the catch-up
contribution for employees who are 50 or above.
Tax Advantage: Contributions are tax-deferred until withdrawn. The plan may also include
‘after-tax’ contributions.
Employee Element: There is no limit to the number of employees. Also, employers can
match the employees’ contributions. However, that’s your choice.
Most small business owners find completely retiring hard to imagine. And if you too wish to keep
working for a long time, having a reliable retirement plan is never a bad idea. Do your research and
talk to an expert to know your options. Once you buy a retirement plan, you will feel much more relaxed
and stress-free.
Author Bio: Rick Pendykoski is the owner of Self Directed Retirement Plans LLC, a retirement
planning firm based in Goodyear, AZ. He regularly writes for his own blog of Self Directed
Retirement Plans and as a guest blogger to many sites in the niche of finance. If you need
help and guidance with traditional or alternative investments, email him
at rick@sdretirementplans.com or visit www.sdretirementplans.com.
