Tax Strategies for Business Owners

Retirement Plan Options For Small Businesses

Retirement Plan Options For Small Businesses




  • Tax-deferred growth on earnings within the plan
  • Current tax savings on individual contributions to the plan
  • Immediate tax deductions for employer contributions
  • Easy to establish and maintain

Types of Plans

Most private sector retirement plans are either defined benefit plans or defined contribution plans. Defined benefit plans are designed to provide a desired retirement benefit for each participant. This type of plan can allow for a rapid accumulation of assets over a short period of time. The required contribution is actuarially determined each year, based on factors such as age, years of employment, the desired retirement benefit, and the value of plan assets. Contributions are generally required each year and can vary widely.

A defined contribution plan, on the other hand, does not promise a specific amount of benefit at retirement. In these plans, employees or their employer (or both) contribute to employees' individual accounts under the plan, sometimes at a set rate (such as 5 percent of salary annually). A 401(k) plan is one type of defined contribution plan. Other types of defined contribution plans include profit-sharing plans, money purchase plans, and employee stock ownership plans.



It is necessary to note that all retirement plans have important tax, business and other implications for employers and employees. Therefore, you should discuss any retirement savings plan that you consider implementing with your accountant or financial advisor.


SIMPLE: Savings Incentive Match Plan



SEP: Simplified Employee Pension Plan

A SEP plan allows employers to set up a type of individual retirement account - known as a SEP IRA - for themselves and their employees. Employers must contribute a uniform percentage of pay for each employee. Employer contributions are limited to whichever is less: 25 percent of an employee's annual salary or $58,000 in 2021 (up from $57,000 in 2020). SEP plans can be started by most employers, including those that are self-employed.


401(k) Plans

401(k) plans have become a widely accepted savings vehicle for small businesses and allow employees to contribute a portion of their own incomes toward their retirement. The employee contributions, not to exceed $19,500 in 2021 (same as 2020), reduce a participant's pay before income taxes, so that pretax dollars are invested. If the employee is 50 or older then they may contribute another $6,500 in 2021 (same as 2020). Employers may offer to match a certain percentage of the employee's contribution, increasing participation in the plan.


Profit-Sharing Plans



Your Goals for a Retirement Plan

Business owners set up retirement plans for different reasons. Why are you considering one? Do you want to:

  • Take advantage of the tax breaks, to save more money than you'd otherwise be able to?
  • Provide competitive benefits in addition to - or in lieu of - high pay to employees?
  • Primarily save for your own retirement?

You might say "all of the above." Small employers who want to set up retirement plans generally fall into one of two groups. The first group includes those who want to set up a retirement plan primarily because they want to create a tax-advantage savings vehicle for themselves and thus want to allocate the greatest possible part of the contribution to the owners. The second group includes those who just want a low-cost, simple retirement plan for employees.

If there were one plan that was most efficient in doing all these things, there wouldn't be so many choices. That's why it's so important to know what your goal is. Each type of plan has different advantages and disadvantages, and you can't really pick the best ones unless you know what your real purpose is in offering a plan. Once you have an idea of what your motives are, you're in a better position to weigh the alternatives and make the right pension choice.

If you do decide that you want to offer a retirement plan, then you are definitely going to need some professional advice and guidance. Pension rules are complex and the tax aspects of retirement plans can also be confusing. Make sure you confer with your accountant before deciding which plan is right for you and your employees.

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