One of the less publicized fallouts of our economic tailspin has been the overnight devaluation and in some cases decimation of personal savings. This phenomenon has effected people from all walks of life and all ages.
But, there is a silver lining to every cloud… Now that the economic bubble has burst, it is forcing many people to focus on and re-evaluate their financial planning, and major priority is being given to planning for retirement in particular.
For those who are self-employed or who own very small businesses (10 or fewer employees), the onus of good financial planning for retirement is that much greater since there are no matching employer contributions to rely on, there may be fewer assets to put aside, and the cost of the best retirement plans may make them prohibitive to the smallest businesses.
Having a good retirement plan for yourself and your employees to fall back on in later years is essential. But with all the qualified retirement plans and programs available it may be hard to know which one is right for you. Here is a brief rundown of your options:
The Simplified Employee Pension Plan ( SEP)
The SEP is one of the simplest and cheapest qualified retirement plan options for the self-employed or for those who have only a few employees. The plan is funded with tax-deductible employer contributions, and the employer must cover all eligible employees. Self-employed individuals and small business owners can make tax-deductible contributions to SEP accounts of up to $49,000 per year in tax year 2009. SEPs are also flexible in terms of contributions from one year to the next. If, for example, business is slow one year, account owners can reduce their SEP contributions or skip them altogether.
The Savings Incentive Match Plan or SIMPLE-IRAs are somewhat of a hybrid between a SEP-IRA and a 401(k). With the SIMPLE IRA, both the employee and the employer are required to make tax-deductible contributions. The employer contribution is defined at a fixed match rate, usually 3% and is mandatory each year for all employees who participate. The 2009 contribution limit for SIMPLE IRAs is $11,500, or $14,000 for employees who are age 50 or older as of December 31st of 2009 plus an employer matching contribution (up to 3% of your salary). This may be a good option for businesses with only a handful of employees, but compared to other retirement plans, your own allowable contributions are limited.
Traditional IRA and Roth IRA
Since IRA accounts are available to anyone who earns taxable income and they can be held simultaneously with other qualified retirement accounts, it is definitely worth considering- especially if you are able to put aside more than the maximum contributions allowed with other plans yet you earn less than disqualifying income limit.
There are two types of IRA accounts: the traditional IRA and the Roth IRA. With the traditional IRA, you can claim a tax deduction on contributions and your account earnings grow tax-deferred until you take the money out upon retirement. With a Roth IRA, you do not claim a tax deduction. Your contribution is made with after tax income. The retirement earnings in your Roth IRA then grow tax-free. This means you will not have to pay taxes on your distributions from the account.
Unlike the popular 401(k) plan which can get expensive and difficult to administer, the self-employed 401(k) is actually quite easy set up and cheap to maintain. Moreover, the self-employed 401(k) offers higher contribution limits than other retirement plans, it can be consolidated with a traditional IRA account, and there is a lot of flexibility when it comes to making contributions.
Keogh Retirement Plans
Those who are self-employed and support only a handful of employees may want to consider the self-employed Keogh plan. Like the other qualified retirement plans, the account holder must be 59 1/2 in order to withdraw money from the account, and required distributions begin when the account holder reaches 70 1/2. Similar to an IRA contributions are pre-tax thus lowering taxable income, but contribution limits are more liberal than with an IRA.
There are two kinds of Keogh Plans: the Defined Benefit Plan and the Defined Contribution Plan. Each one has its own rules, benefits, and deductible limits. Deciding which Keogh Plan type to choose and administering it once chosen will require the services of a professional.
Profit Sharing Plans
With a profit sharing plan, all employees (owners can claim themselves as employees) receive a percentage of the company’s profits. Annual contributions up to $49,000 are made to the account, but because they are dependent on the company’s profitability, they may vary from year to year. Under a profit sharing plan employers are only required to contribute when the business makes a profit, which may make them particularly attractive to small businesses. These plans will generally require the services of a trained professional for administration so this cost should be factored in.