The term small business retirement plan is a curious phrase. Is there a difference between a small business retirement plan and a big business retirement plan? If we are talking about a 401(k) profit sharing plan design the answer is no. They both allow for the same statutory maximum. They both allow for a maximum savings rate of $57,500 for people over 50 years old. What you may not realize is that smaller organizations are often in a better position to take advantage of the maximum contribution levels from a 401(k) profit sharing and a cash balance plan combination. These three allow for the maximum deferral from tax qualified plans.
Small business retirement plan features
A challenge faced by executives offering small business retirement plans is carrying out the fiduciary duties. I believe you should seek out a retirement plan consultant that not only has expertise in retirement plans but also shares in the fiduciary liability. If you have a financial advisor today, ask them if they are acting as fiduciary on your plan. In the majority of cases the answer is no. If they do say they are, please make sure to get that in writing.
You have a few fiduciary risk management options that a retirement plan consultant can help you evaluate. You may hire an independent fiduciary that basically runs the plan. You can choose a discretionary trustee that provides a wide breadth of services, just short of an independent fiduciary. You can hire an ERISA 3 (38) investment manager that takes on the discretionary management of your investments. Consider as your first step hiring a 3(21) fiduciary advisor to provide ongoing investment recommendations to the plan sponsor. The selection of the providers comes after the blueprint is set.
A retirement plan consultant will that is familiar with ERISA regulations will likely have designations such as Professional Plan Consultant™ or Accredited Investment Fiduciary®. They will have education tools to beef up your understanding of your fiduciary duties.
Small business retirement plan savings designs
You may have heard of three-legged retirement stool that include savings, pensions Social Security. I believe that any retirement plan needs to start with the conversation around how much money does the owner and other key employee need to save. One of the upshots of a small business retirement plan versus the big business, is that most big employers don’t give out the maximum contribution. That’s due to a host of features of issues of course the biggest one being the cost to cover all of their thousands of employees. That’s not the case with a small business retirement plan. A 401(k) plan allows you to save 22,500 if you’re over 50, profit sharing adds an additional $35,000 to get to a max of $57,500.
Another potential savings option is adding a cash balance plan. This may take give you the ability to save another $235,000 if you’re over 60. Based upon cash flow of your business and potentially to save money on taxes you can use this as a wealth accumulation tool.
These decisions should be driven by how much you, the owners and highly compensated employees need to save. Do you know how much you need to save to re-create the income that you want? Some rules of thumb suggest a starting point of 70% of income. Your lifestyle may easily dictate you will need more than that.
Small business retirement plan and taxes
If you are the small business owner you should be aware of the true tax advantages you get to decide on. First, you are an employee. Your matching contribution to yourself and your employees is a deductible expenses. You can also decide to pay your retirement plan consultant’s fee and take that as a deduction. If your plan is like many, your account balance represents more than 40% of the plan’s assets. Further, the investment fees of the plans are being paid from each participant’s balance as a percentage, such as 2%. If so, your large balance is subsidizing the rest of the plan.
Instead, why not consider shifting that expense to your schedule C and take a tax deduction. More importantly, by reducing the investment fee you are increasing your rate of return. To highlight, the General Accounting Office estimated that a 1% annual fee reduces an accumulated balance by 17%.1 Would you rather have $1,000,000 or $830,000?
Small business retirement advantage
Hopefully you’re glad you have the ability to take advantage of your small business retirement plan. If you need help, or just a call or email away. If you’d like to know more about these issues were just call or email away.
(1) PRIVATE PENSIONS, 401(k) Plan Participants and Sponsors Need Better Information on Fees, 2007. More recent data may alter these assessments or outcomes.
(2) The opinions voiced in this material are for general information only and are not intended to provide specific investment or tax advice or recommendations for any individual. We suggest you discuss your specific tax issues with a qualified tax advisor.
(3) Securities and Advisory services offered through LPL Financial, a Registered Investment Advisor. Member FINRA/SIPC.
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