Small Business Retirement Plans: Which One Is Right For You?
Investing in a small business retirement plan can help you save for your future while unlocking immediate tax benefits. If you have employees, offering an attractive retirement plan can help recruit and retain top talent.
The right plan depends on your business entity, how many employees you have (if any), who contributes and how much, as well as the tax implications at contribution and distribution time.
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5 retirement plans for small business owners
Here’s a quick overview of common retirement plans for small businesses.
|Plan||Best for||Contribution limits||Key features|
|Traditional or Roth IRA||A starter plan||$6,500 in 2023 ($7,500 for age 50+)|| |
|Solo 401(k)||Self-employed individuals||Salary deferrals up to $22,500 in 2023 ($30,000 for age 50+) plus an additional 25% employer compensation|| |
|SEP IRA||1 to 3 employees||The lesser of $66,000 in 2023 or up to 25% of compensation (no catch-up contribution for those age 50+)|| |
|SIMPLE IRA||Up to 100 employees||Salary deferrals up to $15,500 in 2023 ($19,000 for age 50+), plus employer-matched or fixed contributions.|
*Total contributions can’t exceed $22,500 in 2023 ($26,000 for age 50+)
|SIMPLE 401(k)||Up to 100 employees||Salary deferrals up to $15,500 ($19,000 for age 50+), plus mandatory employer contributions||A simpler version of the traditional 401(k) with optional loans and hardship withdrawals for employees in need|
You can also take the Labor Department’s short online quiz or check out the IRS small business retirement plans list to help decide what plan is right for your business.
1. Traditional or Roth IRA
|Best for||A starter plan|
|Contribution limit||$6,500 in 2023 ($7,500 for age 50+)|
|Tax advantage|| |
|Employer role||None — these are individual plans|
|Employee role||Each employee can set up and maintain their own IRAs|
A traditional IRA is a tax-advantaged personal savings plan that is easy to open and maintain. It can help jump start your retirement savings, especially if you’re self-employed or still growing your business.If you’d prefer to pay taxes now and not again in retirement, you might want to consider a Roth IRA instead. Although a Roth IRA has income limits and doesn’t offer immediate tax benefits, you can enjoy tax-free distributions after retirement.
Since this is an individual plan, it’s not connected to your business. Anyone can open and contribute to their own plan up to the annual limit set by the IRS. You can deduct the traditional IRA contributions from your taxable income, thus lowering your business’s tax liability. Furthermore, your Roth IRA contributions might be eligible for the Saver’s Credit.
2. Solo 401(k)
|Best for||Self-employed individuals|
|Contribution limit||$22,500 in 2023 ($30,000 for age 50+) plus an additional 25% employer compensation|
|Tax advantage||Similar to an employer-offered 401(k), you can make pre-tax contributions up to the annual limit|
|Employer role||25% employer contributions|
|Employee role||Employees aren’t allowed on this plan, except for yourself and your spouse|
The solo 401(k), otherwise known as the one-participant 401(k), is an excellent self-employed retirement plan for just you (and your spouse, if married). This plan is a bit tricky to understand, but it helps to think of yourself as two people: the employee and the employer.As an employee, you can contribute with elective salary deferrals up to 100% of your earned income up to the annual contribution limit as outlined above.
As the employer, you can contribute an additional 25% of compensation up to the maximum annual limit — $66,000 for 2023 (plus an extra $7,500 if age 50+). Remember, you can hire your spouse with this plan, who can contribute up to the standard 401(k) annual limit, plus the 25% employer contribution, essentially doubling your yearly savings.
Sole proprietors and single-member LLCs must follow special instructions when determining the employer’s 25% contribution: Compensation is defined as your net earnings after deducting one-half of self-employment tax and any plan contributions you made for yourself.
3. SEP IRA
|Best for||1-3 employees|
|Contribution limit||The lesser of $66,000 in 2023 or up to 25% of compensation (no catch-up contribution)|
|Tax advantage||Contributions grow tax-free until retirement|
|Employer role||Employers can determine the contribution rate but it must be the same for each eligible employee (with you also counted as an employee).|
|Employee role||Employees are immediately 100% vested and maintain ownership of all SEP IRA money|
A SEP allows employers to contribute to traditional individual retirement accounts, or IRAs. Businesses of any size, including sole proprietors, can set up a SEP. This account is often referred to as a self-employed IRA.Unlike 401(k) plans, elective salary deferrals and catch-up contributions aren’t allowed with SEP plans (so if you’re 50 or older, you might want to consider another plan). Also, contributions are capped on an employee’s first $330,000 of income for 2023. If you’re self-employed, employer contribution limits are based on your net profit minus half of your self-employment taxes and your own SEP contributions.
This plan is ideal for businesses with one to three employees since you have to offer the same contribution to everyone. For example, if you set the contribution rate at 10% of your compensation, you must provide the same 10% for all eligible employees. This can get costly for those with more employees or business owners wanting to invest a large amount for their future.
4. SIMPLE IRA
|Best for||Up to 100 employees|
|Contribution limit||Salary deferrals up to $15,500 in 2023 ($19,000 for age 50+), plus employer-matched or fixed contributions. |
*Total contributions can’t exceed $22,500 in 2023 ($26,000 for age 50+)
|Tax advantage||Contributions are tax-deductible but will be taxed in retirement. You can deduct employer contributions for employees as a business expense.|
|Employer role||You can match an employee’s contribution dollar-for-dollar or as a percentage of each employee’s salary, regardless of the employee’s contribution. |
When offering a SIMPLE IRA plan, a business cannot have any other retirement plan in place.
|Employee role||Employees are immediately fully vested in SIMPLE IRA funds. An advantage of the SIMPLE plan over the SEP is that employees can contribute to the plan and take advantage of catch-up contributions if they’re 50 or older.|
Like a SEP plan, a SIMPLE plan (Savings Incentive Match Plan for Employees) allows employers to set aside retirement money in an IRA. Small businesses with as many as 100 employees can offer a SIMPLE IRA.Employer contributions are generally required, either as a matched contribution on a dollar-for-dollar basis of up to 3% of the employee’s compensation or as a fixed contribution of 2% for all eligible employees. The fixed plan doesn’t require employees to make contributions, though they can do so as elective salary deferrals. The income limit for 2023 compensation is $330,000.
5. SIMPLE 401(k)
|Best for||Up to 100 employees|
|Contribution limit||Salary deferrals up to $15,500 ($19,000 for age 50+), plus mandatory employer contributions|
|Tax advantage||Contributions are tax-deductible but post-retirement withdrawals will be taxed. You can count employer contributions as a business expense.|
|Employer role||You must contribute up to 3% employee match or a fixed 2% for all eligible employees. You can’t offer another retirement plan in addition to this one.|
|Employee role||You can choose to defer some compensation up to the maximum limit.|
Like a SIMPLE IRA, a SIMPLE 401(k) retirement plan is available to businesses with no more than 100 employees. Employer contributions to a SIMPLE 401(k) are required and must be fully vested, giving employees immediate access to all funds. You cannot offer any other retirement plan if you offer a SIMPLE 401(k).As the employer, you must agree to either matching contributions up to 3% of an employee’s pay or offering a non-elective 2% contribution of each eligible employee’s compensation. The SIMPLE 401(k) plan has a two-year grace period if your business grows beyond 100 employees. At that point, you might consider switching to a Traditional 401(k) program.
Here are some key highlights for the SIMPLE 401(k), which don’t apply to the Traditional 401(k) plan:
- Not subject to the IRS-mandated annual non-discrimination tests
- All contributions are fully vested for all participating employees
- Easy benefit formula eases the burden of administration work
- Optional 401(k) loans and hardship withdrawals available for employees in need
You must follow the same steps to establish a SIMPLE 401(k) as you would with a Traditional 401(k) plan. You can consult with a bank, mutual fund provider or insurance company to help create and maintain the plan, or you can set it up yourself.Here are the basic four steps to follow:
- Produce a written plan.
- Create a trust fund to manage the plan’s assets.
- Implement a recordkeeping system.
- Share plan information with employees.
You also need to file Form 5500 annually.
Defined benefit plan
Although not as popular and typically more expensive, the defined benefit plan is an option for self-employed and small business owners wanting to set aside large amounts for retirement. You determine your ultimate savings goal in advance and your yearly contributions change to keep you on track.
You can have other retirement plans with a defined benefit plan and it’s not limited by your company’s size. However, you can’t retroactively decrease benefits — once the amount is set, it’s fixed for the life of the plan.
Generally, the employer must offer this plan to all employees 21 or older who worked at least 1,000 hours in the past year. The contributions are generally 100% tax-deductible, but the plan is usually more work to manage, with higher fees than the other options. Additionally, not all brokerage companies offer this plan, although you can get started with a Charles Schwab Personal Defined Benefit Plan.
Why start a retirement plan?
Setting up a retirement plan can benefit you, your business and any employees that work for the company.
- Jumpstart your savings Watch as your funds grow due to compounding interest, dividends and capital gains. Plus, if you’re 50 or older, many retirement plans offer a catch-up contribution to boost your savings.
- Enjoy tax benefits Retirement plans offer a range of tax benefits for the employee and employer, such as elective salary deferrals and business tax deductions.
- Attract and retain employees Offering attractive fringe benefits, such as a decent retirement plan, can keep you competitive in today’s job market. In turn, this can help recruit and retain talented employees, allowing your business to continue to grow.
Where to open a small business retirement plan?
In some cases, it’s possible to do much of the work of setting up a retirement plan for you and your employees on your own. But you will still need to decide where to set it up.
Here are a few examples of financial institutions that can host your retirement savings plan — and even run it, if you choose. We include the potential costs of establishing and maintaining an account.
No matter which plan or provider you choose to begin saving for retirement as a small business owner, you can benefit from tax savings and peace of mind that you’ve taken care of your financial future.
Accounts offered: Schwab small business retirement plans encompass solo 401(k), SEP IRA and SIMPLE IRA plans, among other options.
Fees: This brokerage and financial services company doesn’t require a minimum deposit or fee to open or maintain business 401(k) plans, SEP-IRA, SIMPLE IRA and other business retirement plans. However, you could owe brokerage commissions or fund expenses.
Accounts offered: Small business retirement plans from Vanguard, an investment management company, include SEP-IRA, SIMPLE IRA and individual 401(k) plans. Vanguard charges $20 for each SEP-IRA account, but will waive this fee if you have at least $50,000 in qualifying Vanguard assets.
Fees: For SIMPLE IRA accounts, Vanguard charges a $25 yearly fee that may be waived in certain instances.
Vanguard’s individual 401(k) plans come with a $20 annual fee that may be waived.
Accounts offered: Fidelity is another investment company to consider for your small business retirement plan needs. Your options include a self-employed 401(k), SEP IRA, SIMPLE IRA and the Fidelity Advantage 401(k).
Fees: With few exceptions, there are no account fees and no minimum amount to open a small business retirement plan with Fidelity.
How to open a small business retirement plan
Finding the perfect retirement plan for your small business is only part of the process. Here’s what you need to know to get the plan up and running.
1. Research each plan’s requirements
Each retirement plan has different rules regarding setting up the account, annual filing and required paperwork. Refer to your desired plan’s “how to get started” above. You can also find more information by clicking on your plan’s type on the IRS website.
2. Gather necessary paperwork
Some retirement plans require extra paperwork. For example, you have to provide a written plan when establishing a 401(k).
3. Find your preferred company
Decide if you want to work with a mutual fund, brokerage or insurance company. Research their plans to see how their fees, commissions and customer support compare.
4. Decide on contribution percentages
Some plans have mandatory employer contributions, such as the SIMPLE 401(k). Others don’t allow employer contributions at all. If you go with an employer contribution, you must decide between a matched or fixed contribution rate.
Note that many retirement plans, such as IRAs, allow you to make contributions for the previous year up until the tax deadline. For example, you have until April 18, 2023 to make an IRA contribution for the 2022 tax year.
5. Share the plan details with all eligible employees
If you have employees, you need to provide relevant information to all of the plan’s participants. This can include benefits, rights, fees and key features. In addition, you need to inform participants of any changes that occur. Refer to the IRS guidelines to ensure you follow the legal requirements.