Q: I own a small decorating business and I’ll be the first to
admit that I don’t know anything about taxes or retirement
plans. I’d like to set up a 401(k) or an IRA or some other kind
of retirement plan for me and my three employees. What are the
various retirement plan options available for a small business
owner and in your opinion, which would work best for me?
-- Wanda S.
A: Wanda, I appreciate your confidence in my humble opinion,
but asking me for financial advice is like asking Donald Trump
for a recommendation on hair care products. I can tell you what
works best for me and my business, but you’ll need to do your
homework and seek professional advice to figure out what would
work best for you. As a side note, I hear that Donald Trump is
coming out with his own line of hair care product soon to be
called “Big Head.” The formula is 1% mousse, 1% liquid nails,
and 98% hot air. It should be a big seller among the high brow,
comb-over crowd.
Here’s my best advice on retirement plans: find yourself a
financial advisor (or financial planner) who is has experience
working with small businesses and have him or her explain the
options available and make a recommendation as to the type of
plan best suited for you and your business. When I say
“financial advisor” I’m not talking about your know-it-all
brother-in-law or your accountant. I’m talking about a broker
or financial planner (or other licensed professional) who has a
proven track record of making his clients money and is an expert
on IRAs, 401(k)s, mutual funds, etc.
The best way to find a good financial advisor is to ask for
referrals from your most successful friends and associates.
Find the richest, stingiest man in town and ask who his advisor
is. Meet with several advisors, explain your situation, and ask
for their recommendations. You should also make sure the
advisor is a good fit for your personality and your business.
If all goes well you will be doing business with this person
for many years to come, so make sure the relationship feels
comfortable to you and that you are confident in the advisor’s
ability to manage your money.
Let me give you a quick overview of a few of the retirement
plans available to small businesses so you at least have an
idea of what’s out there before you start your search for a
good financial advisor.
As a small business you basically have three types of
retirement plans that you can take advantage of: the
Self-Employed 401(k); the Simplified Employee Pension Plan or
SEP IRA, and the Savings Incentive Match Plan for Employees or
SIMPLE IRA. Each allows you to make pre-tax contributions to
the plan, which lets you save for retirement and lessen your
taxable income by the amount of the contribution. Your
investments also grow tax-deferred until withdrawal.
A Self-Employed 401(k) is an option for self-employed
individuals or business owners with no employees other than a
spouse. The business can be a sole proprietorship, a
partnership, or a corporation, including S corps. You can make
salary deferrals to this type of plan of up to $14,000 for
2005.
Next is the Simplified Employee Pension Plan or SEP IRA. A SEP
is an option if you earn a self-employed income from a full or
part time business, even if you are covered by a retirement
plan at your fulltime job. A SEP allows you to contribute up to
25% of earned income, up to $41,000 for 2004 and $42,000 for
2005.
My preferred type of retirement plan is the Savings Incentive
Match Plan for Employees or SIMPLE IRA. The SIMPLE IRA was
created to make it easier for small businesses with 100 or
fewer employees to offer a tax-advantaged, company sponsored
retirement plan.
With a SIMPLE IRA you and your eligible employees may
contribute up to 3% of earned income (with a maximum
contribution of $10,000) on a pre-tax basis to individual
SIMPLE IRAs. You must deduct Social Security and Medicaid from
your gross income, but you can then make your SIMPLE IRA
contribution before other taxes are levied, effectively
lowering your taxable income.
As the employer you must make “matching” or “non-elective”
contributions into your employees’ SIMPLE IRA accounts.
Matching contributions means that the business matches the
elective deferral contributions made by employees. For example,
if the employee opts to contribute 3% of his salary to the plan,
the employer must match the 3% contribution.
At first you might cringe at matching your employees’
contributions, but as the business owner and an employee
yourself this can be great news. As an employee of your own
business you can contribute up to $10,000 to your SIMPLE IRA
and the business can then match your contribution
dollar-for-dollar, which means that you can put up to $20,000
in tax free dollars into the plan per year. The cost of the
contributions is also deductible as a business expense.
The non-elective contribution option requires that the company
contribute 2% of every employee’s earned income to the plan on
the employee’s behalf regardless of whether or not the employee
contributes to the plan himself. For 2005 the maximum
contribution you would be required to make is $4,200.
Like a traditional IRA, you can withdraw money from a SIMPLE
IRA at any time; however distributions within the first two
years of participation are subject to higher early withdrawal
penalties than traditional IRAs or Roth IRAs. Withdrawals
within the first two years are subject to a 25% early
withdrawal penalty. Withdrawals taken after the first two years
are subject to a 10% early withdrawal penalty.
As the employer, the advantages of a SIMPLE IRA include:
company contributions to the plan are tax deductible as a
business expense; plan documents are simple and easy to
administer; administration costs are low; and there is no
government reporting required by the employer.
The advantages of a SIMPLE IRA for your employees include:
contributions are immediately 100% vested; contributions and
earnings are tax-deferred until withdrawal; employees can
contribute 100% of earned income up to $10,000 for 2005; and
employees can direct their own investments within the IRA.
This is a complex topic and I’ve just tipped the iceberg here,
but hopefully this will give you enough information to get the
investment ball rolling.
Here’s to your success!
Tim Knox
About The Author: Tim serves as the president and CEO of threesuccessful technology companies and is the founder of
DropshipWholesale.net, an online organization dedicated to the
success of online and eBay entrepreneurs. Related Links:
http://www.prosperityandprofits.com
http://www.smallbusinessqa.com http://www.dropshipwholesale.net
http://www.30dayblueprint.com
Article Source: http://www.articlepros.com
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