Are you a small business owner or do you work for a small business? If so you may or may not be aware of the retirement options available to your employer in addition to an individual retirement account set up by you. The main three retirement options available for small business owners are the Simplified Employer Plan or SEP, a regular 401(k) plan, and the Simple IRA. While you the employee are not able to decide which plan will be utilized, we will examine the details of each so you can have a better understanding of each. Depending on the company’s owners and how many employees the firm has will also aid in which plan they may offer.
The Simplified Employer Plan or SEP is mainly designed for businesses with highly compensated owners and very few employees. These plans work very similar to IRA plans that individuals would establish for themselves. These plans may be funded after the end of the tax year up to the due date of the return plus any legal extensions. These plans allow for high levels of contributions for the owners. In 2017 the contributions are 25% of the owner’s compensation up to a maximum of $53,000. The reason this plan works well for companies with few employees is that the amounts contributed must be the same percentage of the compensation for all employees not just the owners for all eligible employees, which is generally all of the employees of the company. And finally, all of the distributions of the SEP are taxable as ordinary income and a 10% penalty will be imposed on all distributions made to people under the age of 59 ½.
The 401(k) plans are best suited for small business to larger firms with over 50 employees. The contribution limits are lower than that of a SEP, but they can still be substantial in nature. In 2017 the maximum contributions to a 401(k) are $18,000 for those under age 50 and those over age 50 get an extra $6,000 in catch-up contributions for a total of $24,000. All of the contributions must be made through salary deferral. Depending on the type of 401(k) these salary deferrals could lower the employee’s taxable income. If the 401(k) is a ROTH 401(k), the full salary is taxable regardless of if funds are contributed to the 401(k) plan. In order to get the maximum employee participation, many companies offer a company match on a percentage of the employee’s salary that is deferred and contributed to the plan. These plans generally will have higher administrative fees when compared to other plans and have an annual filing requirement associated with them as well. And like an IRA there is a 10% penalty for withdrawals before age 59 ½ unless the person has retired from the company and is at least 55 years old, in that instance, there is no penalty. Traditional 401(k) plans are taxed as ordinary income, and ROTH contributions will be tax-free upon withdrawal.
And finally, there is the Simple IRA. This plan like the 401(k) is voluntary for the employer and employee. It is designed for companies with fewer than 100 employees. This plans must be established by October 1st of the year in which the first contributions are made. Contributions are made through annual salary deferrals up to $12,500 for employees under the age of 50 and $15,500 for those over the age of 50. This plan unlike the 401(k) has an employer matching component to it. The most popular matching is 3% of the annual compensation or 100% of the employee’s annual contributions. Like with the 401(k) plan the employer’s contribution is a tax deduction for the company. Contributions are immediately 100% vested and are not subject to payroll taxes. The withdrawal rules are different for a Simple IRA with is 25% if a withdrawal is within the first two years of participation.
These are the three most common retirement plans that are offered by companies in the United States. If you have any questions on them feel free to ask and as always you can leave a comment on the site.
