In a hot hiring market, business owners often have to up the ante to attract the candidates with the most potential. Competitive salary and vacation time are two things all prospective candidates will want to see, but some type of retirement savings vehicle is becoming a more crucial part of the compensation plan. Employees want to know they’ll be taken care of now and in the future. Offering a retirement plan like a 401(k) is usually a smart move for your small business.

Of course, that’s easier said than done. Small businesses don’t have the same needs when it comes to a company-wide retirement plan. A company with 500 employees probably has different needs than one with 3 employees, so if you run a small business, you’ll need to choose the plan that best fits your situation. We’ll discuss some different retirement plans small business can consider.

Traditional or Roth 401(k)

The bread and butter of most small business retirement plans is the 401(k) plan, which can be offered as a Roth as well. The 401(k) allows for tax-deductible contributions from both employer and employee, up to certain amounts. For the employee, the maximum annual contribution is $19,500. Business owners can also contribute to the retirement plans of their employees, as long as total contributions don’t exceed $58,000 (or 100% of the employee’s salary). Funds must remain in the account until age 59.5 or penalties will be administered.

If you’re a business owner who wants to set up a 401(k), you’ll need to consider a few things. A traditional 401(k) is funded with pre-tax dollars, but a Roth 401(k) uses after-tax contributions which allow investments to grow tax-free. Both types of accounts have their own pros and cons, so you’ll need to consider your employee base. The SECURE Act also provided enhanced tax credits for business owners that set up 401(k) plans. If you have less than 100 employees, you can get up to $5,000 in tax credits for setting up a qualified 401(k) plan for your employees, plus an additional $500 for offering automatic enrollment.

The deadline to set up a 401(k) plan is December 31st of the initial year, so there’s plenty of time to get things in order for 2022.

Solo 401(k)

Meant for self-employed individuals, the solo 401(k) works similarly to the traditional 401(k) in terms of tax benefits and contribution limits. Only you and your spouse are allowed to be covered by a solo 401(k) plan, this isn’t an option for a company looking to expand.

Solo 401(k) plans allow both employee and employer contributions. Why does this matter if you’re both the employee AND the employer? Because your employee self can use the standard $19,500 contribution limit while the employer version of you can contribute up to the max limit of $58,000. Plus, if the business is incorporated, your employer contributions will be considered a business expense.

Simple IRA

Here’s a rough acronym – the Savings Incentive Match Plan (SIMPLE) IRA. However, despite the awkward name, it’s a useful type of retirement vehicle. If you own a business with less than 100 employees, the SIMPLE IRA allows you to set up IRA accounts for each of them. SIMPLE IRAs have employee contribution limits of $13,500 (or 100% of salary if earning less than the limit). But as an employer, you must also contribute to these accounts.

Employers have two choices for their mandatory contributions – either a dollar-for-dollar match up to 3% or a 2% non-elective contribution. Note that SIMPLE IRAs have an increased penalty for early withdrawal. The standard 10% hit applies for any non-qualified withdrawal before age 59.5, but if you attempt to withdraw before accumulating 24 months of contributions, the penalty is bumped to a whopping 25%.

SEP IRA

The Simplified Employee Pension (SEP) IRA is another type of small business retirement vehicle, though this one is more beneficial to self-employed individuals. The SEP IRA does not allow employee contributions and must be fully funded by the employer, which is why it’s popular amongst sole proprietors. But SEP IRAs can be expanded to include employees, so this IRA offers some versatility.

The maximum tax-deductible annual contribution for a SEP IRA is 25% of salary or $58,000, whichever amount is smaller. However, employers must be aware that each participant in the plan must receive the same percentage of contributions. If you only have a handful of employees, this may not be an issue but SEP IRAs become very expensive to fund as the size of the company grows.

Disclosures

The opinions voiced are for general information only and are not intended to provide specific advice or recommendations for any individual.

A Roth IRA offers tax deferral on any earnings in the account. Qualified withdrawals of earnings from the account are tax-free. Withdrawals of earnings prior to age 59½ or prior to the account being opened for 5 years, whichever is later, may result in a 10% IRS penalty tax. Limitations and restrictions may apply.

Contributions to a traditional IRA may be tax deductible in the contribution year, with current income tax due at withdrawal. Withdrawals prior to age 59½ may result in 10% IRS penalty tax in addition to current income tax.