Weigh all retirement plan options
At one time, pension plans and other qualified retirement plans were usually offered only by larger companies, but now, many small companies have caught up. In fact, if you are self-employed with just one or two employees—or maybe just yourself—you still have plenty of retirement plan options at your disposal. Here are four popular choices for self-employed business owners.
1. SEPs: A self-employed individual may adopt a Simplified Employee Pension (SEP) plan, set up in a form similar to a traditional IRA. All other employees must be covered. You generally contribute to the plan based on a percentage of compensation, up to the tax law limits, although annual contributions are not required. For 2017, deductible SEP contributions cannot exceed the lesser of 25% of the employee’s compensation or $54,000. As with all qualified plans, the maximum compensation taken into account in 2017 is limited to $270,000. (Limits for qualified plans in 2018 will be announced shortly.)
2. SIMPLEs: A Savings Incentive Match Plan for Employees (SIMPLE) is available only to a business with 100 or fewer employees and no other retirement plan. You must make a matching contribution equal to a certain portion or percentage of an employee’s contribution or a minimum nonelective contribution for all plan participants. With a SIMPLE, you can use an IRA or 401(k) version. For 2017, you can contribute up to $12,500 to a SIMPLE ($15,500 if age 50 or older). As a further enticement, you do not have to file an annual return for the plan.
3. Solo 401(k) plans: This plan may cover a business owner having no other employees (not counting your spouse). Generally, the rules and requirements for traditional 401(k)s apply. For instance, a self-employed can defer up to $18,000 in 2017 ($24,000 if age 50 or older), while overall deductible contributions for this defined contribution plan, including matching contributions, cannot exceed the lesser of 25% of compensation or $54,000 ($60,000 if age 50 or older). Key advantage: Because the percentage part of the annual contribution limit does not apply to solo 401(k)s, this vehicle may be preferable to others.
4. Keogh plans: This plan was designed to be the main qualified retirement plan for self-employed individuals and is considered a relic of the past by some, but it is still kicking around. There are two main types: defined contribution Keoghs and defined benefit Keoghs. The basic rules for these types of plans apply, but with a twist: The annual contribution limit is based on “earned income” instead of “compensation” and thus effectively reduces the percentage cap for self-employed individuals. In contrast to defined contribution plans (see above), a defined benefit plan in 2017 may provide an annual retirement benefit equal to the lesser of 100% of earned income for the three highest-paid years or $215,000.
When choosing a plan for your business, investigate all the possibilities. Then you can make a well-informed decision that is suitable for your situation.