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The Role of Your Business in Retirement

As a business owner, your professional life is consumed with the daily tasks of growing and operating your business. You work hard because you realize the importance of providing for yourself and your loved ones – today and well into the future. And that means continually investing time and money into the business.

While growing your business is important, it’s also crucial to create value outside the business. Someday you’ll want to retire, sell the company or pass it on to a family member or business partner. If your net worth is completely tied up in the business – and you’ve put little or nothing aside in a retirement account – you could face some challenges.

To begin, you may need to sell the company to monetize it, but that’s assuming it’s in a position to be sold. Or, you could continue to work into your retirement years, but there’s a chance your family may not realize the value of your company when you pass. Many business owners mistakenly rely on the value of their business to fund their retirement, but they never stop to consider if it has salable value or what needs to be done to achieve a successful sale.

Rather than depending on the sale of your business to fund your retirement needs, take control of your retirement by saving outside the business. Think of it as a form of diversification. Just as you wouldn’t invest all your personal money in one area, you generally shouldn’t have all your money tied up in a business that you may or may not be able to sell.

With that in mind, let’s look at some options.

Retirement plans for you

Owner-only 401(k) – This is a simplified 401(k) plan for a business with no employees other than the owner and his or her spouse. Contributions can be made to the plan both as an employee and an employer. Consider that:

  • Annual contribution limits are higher than with a SEP IRA, including the ability to catch up on your contributions if you are age 50 or older.
  • For 2020, you can generally contribute elective deferrals up to 100% of compensation or a maximum of $19,500. If you are 50 or older, you can contribute $26,000 or receive employer non-elective contributions up to 25% of total compensation as defined by the plan.
  • Instead of a pretax contribution, you may contribute all or part of your salary deferral amount as an after-tax Roth contribution.
  • Contributions (except Roth contributions) may be tax-deductible, and earnings can grow-tax-deferred.
  • The plan must be established by the last day of your business tax year, but no later than December 31 of the year for which the contributions are made.

Owner-only defined benefit plan – This plan is well-suited for business owners who want to increase or maximize their contributions. These plans allow for the highest contribution levels, often more than $100,000 a year. They are generally best for individuals who are older than 45, earn more than $100,000 a year and can contribute for at least three years. Key features include:

  • Contributions are tax-deductible, and earnings are tax-deferred until you withdraw the money.
  • For 2020, the annual benefit cannot exceed 100% of the average compensation of the three highest consecutive years, or a $230,000 benefit per year.
  • The plan must be established by the end of your business year in the year you will make contributions.

Retirement plans for your employees

In addition to providing for your own retirement, you may want to offer retirement plans that attract and retain employees. Plans that use salary deferrals are the most popular choices. While these plans allow an employee to contribute on his or her own behalf, you can also make business contributions on behalf of your employees.

SIMPLE IRA – This plan is a low-cost way to help your employees save for retirement. It allows business owners and key employees to defer contributions, even if other employees choose not to contribute. As a business owner, you must make a small contribution to employees or commit to a small matching contribution. Consider this plan if:

  • You want a plan that is primarily employee-funded with low required employer contributions.
  • You have 100 or fewer employees who have earned at least $5,000 for the previous year.
  • You don't maintain another retirement plan during any part of the calendar year.

Key features include:

  • Participants may contribute on a pretax basis, up to the annual limit of $13,500 for 2020.
  • Individuals age 50 or older may make catch-up contributions for 2019 up to $3,000 for a total of $16,500.
  • Employer contributions are tax-deductible.
  • Contributions must be made by your business tax-filing deadline.
  • Salary deferral contributions must be deposited up to 30 business days after the end of the month they were deferred.

SEP IRA – With this plan, there is no limit to the number of employees you can have, but it’s generally most appropriate for business owners with no employees or fewer than 10 employees. However, business owners with employees must be willing to contribute an identical percentage of salary for each eligible employee. Keep in mind that:

  • Annual contribution limits are much higher than with a traditional or Roth IRA.
  • For 2020, you can contribute up to 25% of your compensation or $57,000, whichever is less.
  • Contributions are tax-deductible and grow tax deferred.
  • These plans have relatively low account and administrative costs.
  • The plan must be established and funded by your business tax-filing deadline, including extensions.

401(k) – This plan makes it possible for your employees to defer part of their salary for retirement savings. You can help by making optional tax-deductible matching contributions. The plan may also allow for Roth deferrals, which are contributed on an after-tax basis but have the potential for tax-free growth. Keep in mind that:

  • The plan must be established by the year-end date for your business.
  • Salary deferrals must be deposited as soon as reasonably possible – for a plan with fewer than 100 employees, they would be deposited within seven business days of withholding.
  • Employer contributions may be deposited up until the business tax-filing deadline, including extensions.
  • The amount owners and highly compensated employees can contribute is limited by how much all other employees contribute; however, with a Safe Harbor 401(k), owners and highly compensated employees can contribute the maximum salary deferral, regardless of how much the other employees defer.

At Edward Jones, we can help with your retirement plan needs. For more information contact your Edward Jones financial advisor.

More Resources

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