Which Retirement Plan Should You Establish for Your Small Business?

If you’re an owner of a small business and are curious about offering retirement benefits to yourself and your employees, this article is for you. The bottom line is, Americans are not saving enough for retirement. As Financial Planners, we recommend people strive to save at least 15% of their income. 22% of Americans have less than $5,000 saved for retirement; 15% have no retirement savings per a Northwestern Mutual 2019 Planning Study. A retirement plan for a small business can allow both you as the owner and your employees to put money away tax deferred. In addition, offering a retirement plan can be an effective tool in attracting talent and keeping employee satisfaction high.

Let’s take a look at some options for you and your business.

SEP IRA

The SEP, or Simplified Employee Pension, plan is an IRA an employer or self-employed person can establish. Only employees that have worked for your company 3 out of the last 5 years are eligible to participate. The SEP provides the owner the greatest benefit without additional cost for employee contributions. Keep in mind though, whatever percentage contribution you make for yourself must be the same for your employees. For example, if you are compensating yourself with $250,000 and put in 20% ($50,000), you’d have to put in 20% of compensating for each eligible employee. Someone making $50,000 would have to receive 20% ($10,000). This plan is best suited for self-employed individuals.

SIMPLE IRA

The Savings Incentive Match PLan for Employees is a great option for small business with less than 100 employees. It’s easy to setup and low cost just like the SEP IRA. You and your employees can defer salary up to $15,500 for 2023. In addition to employees contributing, employers must contribute as well in line with one of the following methods: 2% of their compensation as a non-elective contribution for everyone regardless of whether they contribute or not OR match up to 3% (if they do not contribute, you do not match). Keep in mind that Simple IRA plans must be in effect for two years before any rollovers in or out of the plan take place.

401(k)

If you're considering offering an employer-sponsored retirement plan, a 401(k) is a popular option for small business and large corporations alike. In 2020 there were about 600,000 401(k) retirement plans with over 60 million active participants. There is flexibility with contributions. Matching must be at least a 2% non-elective OR a 100% match on the first 3% of compensation and 50% match on the next 2% (4% total match). The deferral max for 2023 is $22,500. The administrative duties involved with maintaining an employer-sponsored retirement plan can be daunting for small business owners. It can be costly to setup – approximately $5,000. There are also annual filings and compliance requirements, and you would have to coordinate with payroll, advisors, third-party administrator, and recordkeeper.

It's worth noting that the costs and administrative requirements of each plan can vary, and business owners should consult with a financial advisor or retirement plan specialist before selecting a plan.