The most expensive and complicated retirement plan for the self-employed, the defined benefit plan is most appropriate for someone looking for a large tax deduction.
Employers can save a maximum of $195,000 per year. But you usually need an actuary to determine the amount that can be contributed.
It is worth noting that the defined benefit plan will give you your largest contributions, but it comes with strings attached. For instance, you have to have a plan document and probably with an actuary. It will be the most expensive to do and will usually require you to make a contribution every year.
In contrast, the Solo-K, SEP and SIMPLE IRAs allow more flexibility by allowing employers to reduce contributions in a year with poor cash flow.
Defined Benefit plans can still be a good option for business owners who want to save the most money on a tax-deferred basis as possible.
You need to be careful with most retirement plans. The IRS is cracking down on many plans sold by insurance agents and stockbrokers that have life insurance in them. If they call your retirement plan a listed, or similar transaction you will have big problems. Not only will the IRS disallow your deductions and charge you interest and penalties, but you will also be fined for not telling on yourself.
A SIMPLE IRA is just that – simple. The name is an acronym for Savings Incentive Match Plan for Employees.
SIMPLE IRA plans are designed for small businesses with no more than 100 employees who earned $5,000 or more on the payroll for the previous calendar year, but some advisers and tax professionals think these plans are more suited for much smaller companies. They typically recommend them for employers that have seven or less employees and for someone who is not making a lot of money, and who consequently don’t have a lot to put into retirement. Even those advisors agree, however, that they are easy and simple. Including instructions, the account application is about four pages to fill out, and you can probably do it in 10 minutes.
A SEP IRA, or Simplified Employee Pension plan, is as easy and low cost to set up and maintain as the SIMPLE IRA. But instead of the employee making contributions to the plan with a match from the employer, the employer makes the entire contribution.
Self-employed workers may find the SEP ideal due to its low setup and maintenance costs. Business owners can save quite a bit more in a SEP than the SIMPLE or other IRAs. For 2009, the contribution limit is 25 percent of net income up to $49,000.
Who can open one? Any employer or self-employed person.
Cost and complexity? Low.
Employer contribution limit? 25 percent of employees' net income up to $49,000.
Employee contribution limit? Not applicable.
Annual reporting requirements? None.
Similar to a 401(k), a Solo 401(k) lets small-business owners share the fun and benefits in a slightly different way. The business must be very small, limited to the owners of the business and their spouses.
The Solo 401(k) allows business owners to put away more money than a SIMPLE or SEP IRA, and there is some flexibility when it comes to contributions. You can contribute more or less every year, but a maximum of $16,500 for 2009, and a profit sharing component can also be added to the Solo-K.
Business owners can add the profit sharing part to maximize contributions to the plan. The employer can make a maximum tax-deductible contribution to the plan of up to 25 percent of compensation.
Q & A
Who can open one? Self-employed business owners with no employees other than a spouse.
Cost and complexity? Medium.
Employer contribution limit? $16,500 of salary deferral plus 25 percent of compensation, or $49,000, whichever is less, if a profit sharing component is added to the plan.
Employee contribution limit? Not applicable.Annual reporting requirements? Yes.
Self-employed workers have the same retirement needs as anyone else, and maybe they have more money to invest and deduct. The problem is that they don’t have a beneficent employer who offers carrots in the form of retirement benefits so they have to grow their own. Below are a few ideas.
Lance Wallach on IRA Help © ALL RIGHTS RESERVED.