For business owners, retirement planning can be challenging, but don’t worry, we’ll break it down into manageable pieces.
Think of an IRA as your personal retirement piggy bank. There are two main types:
The contribution limit for IRAs in 2024 is $7,000, or $8,000 if you’re over 50. Just remember, if you dip into this account before age 59.5, there’s a 10 percent penalty, except for special uses, such as a first-time home purchase.
Imagine a defined contribution plan as a garden where you plant retirement seeds and watch them grow. With these plans, like 401(k)s, employees contribute a part of their paycheck pre-tax. Some companies match a portion of what the employee puts in—offering free money growing alongside employee contributions.
The contribution limits here are higher than those for IRAs—up to $23,000 in 2024, plus an extra $7,500 if you’re 50 or older.
Defined Benefit Plans
Also known as pension plans, defined benefit plans are like a promise from a company to pay a specific amount in retirement and are usually based on your salary and years of service. While less common now, they offer the security of knowing exactly what you’ll get when you retire.
If you’re a business owner with an existing retirement plan, you should stay informed about how to optimize or correct it for the benefit of your employees and your business. Below are some key points to consider.
Compliance mistakes happen, but the good news is there are ways to fix them. The IRS has provisions for making corrective distributions and contributions. For example, if your plan pays benefits in excess of the proper amount, you’ll need to address this either by recouping the overpayment or having the employer or a third party reimburse the plan.
Automatic enrollment can be a game changer for increasing participation in your 401(k) plan. It means employees are automatically signed up for the plan unless they opt out. This approach helps ensure that more employees are saving for retirement and also helps keep your company in line with plan testing requirements. There’s even a $500 tax incentive for businesses that include auto-enrollment provisions in their 401(k) plans, which could save your business money over time.
When planning for retirement income, you should consider how you’ll transition from accumulating savings to withdrawing savings. This involves:
As you transition into retirement, start thinking about how to withdraw from your retirement accounts in a tax-efficient manner. This involves:
Vesting in employer-sponsored retirement plans is like a loyalty program for work tenure. It determines when employees truly “own” the employer’s contributions to the retirement plan. If an employee leaves the company prior to being fully vested, some of all of the employer’s contributions to their account will return to the company.
There are a few types of vesting schedules:
Matching contributions in an employer-sponsored retirement plan, such as a 401(k), is a bit like a company offering a bonus to employees for saving for their future.
Here’s how it works: When employees contribute a portion of their salary to a retirement plan, the employer might add a matching amount. This match is often a percentage of what the employee earns in a year, up to a certain limit.
For instance, an employer might match 100 percent of employee contributions up to 3 percent of their salary and then 50 percent of the next 2 percent of compensation.
For the employee, this is a great incentive to save more. Depending on the specific provisions of the retirement plan, these matching contributions may be elective or non-elective to the employer.
Types of Small Business Retirement Plans
Frequently Asked Questions
Is it preferable to contribute to an SEP or an IRA?
Whether an SEP or an IRA is preferable depends on your specific financial situation, including factors such as your income, business size, and retirement goals. SEP IRAs often allow higher contribution limits, making them ideal for people with higher income and those looking to save more for retirement, while traditional IRAs are more straightforward and might be better for those with lower income or simpler retirement needs.
What is the difference between defined contribution and defined benefit plans?
Defined contribution plans, like 401(k)s, depend on the amount you and possibly your employer contribute and the plan’s investment performance. Your retirement benefit varies based on these factors. In contrast, defined benefit plans promise a specific retirement benefit based on factors such as salary history and years of service.
What is the significance of being 100 percent vested?
Being 100 percent vested in a retirement plan means you have full ownership of the funds in the plan, including any employer contributions. Before being fully vested, you risk losing some or all employer contributions if you leave the company.
Should one remain at a job until achieving vesting status in the employee-sponsored retirement plan?
Deciding whether to stay in a job until you’re fully vested in a retirement plan depends on your circumstances. Consider factors like your career goals, job satisfaction, and how much you stand to gain by staying until you’re fully vested.
Use our guide of questions that are essential to ask an advisor before you hire them. Don’t make a mistake by working with the wrong financial advisor. Ask the right questions to determine if a financial advisor is right for you.
