3 Retirement Plan Options for Small Business Owners

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Whether you work for a large company or for yourself, a retirement plan is important. Having your own retirement plan (or offering retirement plans for your employees) may seem out of reach, but there are actually a lot of options to choose from.

"Independent professionals may assume that they do not have access to the same types of retirement savings plans offered at large corporations," said Terry Dunne, managing director of automatic rollovers at financial services company Millennium Trust. "Similarly, small business owners may feel less capable of offering attractive retirement plan options when they are looking to attract talented hires to their organization."

However, Dunne explained that this is not the case.

"In reality, there are a number of choices available for both [independent workers and small businesses], as well as a range of service providers that offer the supporting tools and guidance necessary to select the best options to meet a range of retirement saving needs," he said.

So what are your options? Here are the three main plans available for small business owners and self-employed individuals.

Self-directed or personal IRAs

"In a self-directed IRA [Individual Retirement Account], the account owner directs all investment decisions on behalf of the retirement plan, while a qualified trustee or custodian holds the IRA assets on behalf of the IRA owner," Dunne explained.

Dunne noted that, often, individuals who have left a job and want to move retirement funds from their former employer's 401(k) plan typically choose to roll over their assets into an IRA plan.

When considering a self-directed IRA, you need to know that there are two types: traditional and Roth. What's the difference?

• "The traditional IRA allows annual tax-deductible contributions that depend on the individual's modified gross adjusted income," Dunne said. "Withdrawals are taxed. However, earnings on principal and interest accumulate tax-deferred until funds are withdrawn from the account penalty-free after age 59 and a half. Minimum required distributions are mandatory after age 70 and one-half."  

The traditional IRA is a good choice for individuals whose tax strategy is to defer taxes until after retirement, or for those who anticipate that tax rates during their retirement will be lower than their current rate, Dunne said.

• Roth IRAs have distinct tax benefits, Dunne said, noting that contributions are not tax deductible, but can be made past age 70 and one-half.

"Earnings from a Roth IRA accumulate tax-free, and unlike a traditional IRA, withdrawals are free of tax and penalties, provided certain conditions are met," he said.

Solo 401(k)s

Solo 401(k) plans are similar to self-directed IRAs in that there are traditional and Roth types. However, Dunne said that they're a lesser-known retirement plan option. Why? They don't cover employees.

"These plans are suitable only for single-employee businesses," Dunne said. "Only the business owner and their spouse may participate and make contributions to the plan."

Because of this, these plans work well for working professionals like attorneys, CPAs (certified public accountants) and real estate agents. These types of plans are ideal for those businesses' structures, Dunne said. The plans also offer more generous annual contribution limits than any of the other options; tax-deferred contributions can be up to three times that offered by other plans, Dunne explained.

Employer-sponsored IRAS

Employer-sponsored IRAs are the least-familiar retirement option plan, Dunne said. These plans work for small business owners who would like to offer retirement benefits to current employees, or to potentially attract new hires through benefits packages.

There are two options for employer-sponsored IRAs: Simplified Employee Pension IRAs (or SEP IRAs) and Savings Incentive Match Plan IRAs (SIMPLE IRAs). So how do they work?

• SEP IRAs allow employers to make contributions to their employees' retirement accounts of up to 25 percent of the employee's compensation, or a maximum of $52,000 in 2014, whichever is less, Dunne said. They are also funded 100 percent by the employer; employees do not contribute.

"The employer is not required to make a contribution every year but must contribute the same percentage for employees that they may contribute for themselves in a given year," he said.

• SIMPLE IRAs enable employers with fewer than 100 employees to establish an IRA for each participating employee, Dunne said.

"The SIMPLE IRA has requirements similar to a traditional IRA," he said. "However, with a SIMPLE IRA, employees can make salary deferral contributions of up to 100 percent of their compensation, not to exceed $12,000 in 2014 and you, as their employer, must also contribute to their accounts."

You can either match your employees' contributions dollar for dollar for up to 3 percent of their compensation, Dunne explained, or contribute 2 percent of each eligible employee's compensation.

"Before deciding on a plan provider, it is import for individuals and small business owners to determine what kinds of investment options they would prefer to have," Dunne said.

Dunne also advised employers to ask themselves these questions before they decide on a retirement plan:

• Do you prefer simple administration?
• Do you expect to have employees?
• Is it critical that your employees be able to contribute to the plan?
• Will it be important to attract and keep good employees?
• Do you want to maximize your contributions?
• Will you want to contribute every year?
• Do you want plan contributions to be deductible as a business expense?

Your answers to these questions can help you better evaluate which plan works best for your business.