Best Retirement Plans for Your Business

As a director of your own company, it’s down to you to set up, manage and stay on top of your retirement plan in the most tax-efficient way. I am going to show you how, when done correctly, a retirement plan can help you save for the future.

If you are a sole proprietor, a partner in a partnership, or an LLC member, the personal contributions you make to the retirement account can be deducted. If you have incorporated your business, the corporation can deduct contributions made on your behalf as a business expense. In any case, regardless of the method you choose, your contributions will result in substantial income tax savings.

As well as tax deductions a retirement plan has another great tax perk to it, namely tax deferral. Assuming your plan is turning in a profit then, depending on the type of plan you have, you will avoid having to pay taxes on investment earnings from retirement accounts until you withdraw the funds.

So, for these two reasons a retirement plan is a win-win.

How to make retirement plan contributions

You can of course make contributions directly to your retirement plan as an employee, using the wages you earn and contributing that way.

Another way of making payments into the retirement plan is directly from your company, depending on the type of retirement plan you have in place there will be limits in place as to the level of payments you can make this way.

For example, with a 401(k) plan, you can make a maximum contribution for a small business owner in 2022 is $61,000 ($67,500 if you’re 50 or older)—which includes contributions as both the employee and employer.

In any case, the different plans, whether it’s an IRA or a 401(k) have different rules regarding payments, and as such, it is best to consult with a financial expert to see how you can maximize the tax incentives of the various retirement plans that are available to you.

Why dividends?

As a limited company director, there are two ways that you can extract income from your company. You can either pay yourself an income in the form of a salary, or you can pay yourself in dividends.

A dividend is basically the remaining money once your company has paid all its business expenses, liabilities, and outstanding taxes. Qualified dividends are taxed at 0%, 15%, or 20%, depending on your income level and tax filing status. Ordinary (nonqualified) dividends and taxable distributions are taxed at your marginal income tax rate, which is determined by your taxable earnings.

Most tax experts advise that you pay yourself 60% in wages and the remainder in the shape of dividends to avoid possible issues with the IRS.

What are the choices of retirement plans as the owner of an LLC?

Generally speaking, there are five main types of retirement plans available to business owners in the US, namely;

• Traditional or Roth IRA
• Solo 401(k)
• SEP IRA
•  SIMPLE IRA
• Defined benefit plan

Each one of these plans has its pros and unique characteristics so it may be best to consult with a financial expert to help determine which plan is best for you. But I will provide a quick breakdown of each of these options.

Traditional or Roth IRA

The IRA is perhaps the best-known type of retirement plan in the US, coming in second after a 401(k), and is great for those just starting to work.

Contribution limits are $6,000 in 2022 ($7,000 if age 50 or older) and $6,500 in 2023 ($7,500 if age 50 and older).

In a traditional IRA, contributions will result in a tax deduction, with a Roth IRA the tax perks are further down the line as any withdrawals you make in retirement are tax-free.

Solo 401(k)

If you own a business or are a self-employed person with no employees (except a spouse) then the Solo 401(k) may be a good fit for you.

Contribution limits in 2022 stand at $61,000, plus a $6,500 catch-up contribution or 100% of earned income, whichever is less. In 2023 this limit will rise to $66,000. As an employee, you can contribute with salary deferrals of up to 100% of your compensation or $20,500 in 2022 or $22,500 in 2023. And as an employer, you can make additional contributions of up to 25% of compensation.

As for tax perks, any contributions you make are pretax, and withdrawals made after age 59½ are taxed.

SEP IRA

The Simplified Employee Pension IRA is recommended for self-employed people or small-business owners with no or few employees.

In 2022 contribution limits are the lesser of $61,000, which will rise to $66,000 in 2023, or up to 25% of compensation or net self-employment earnings, with a $305,000 ($330,000 in 2023) limit on compensation that can be used to factor the contribution.

You can deduct the lesser of your contributions or 25% of net self-employment earnings or compensation — limited to that $305,000 cap per employee in 2022 or $330,000 in 2023 — on your tax return. Distributions in retirement are taxed as income.

SIMPLE IRA

The Simple IRA is best suited for larger businesses, with up to 100 employees.

In 2022 the contribution limit stood at $14,000, plus catch-up contributions of $3,000, these will be increased to $15,000 and $3,500 in 2023. If you also contribute to an employer plan, the total of all contributions can’t exceed $20,500 in 2022 and $22,500 in 2023.

Contributions made now help reduce the current tax burden, but as such distributions in retirement are taxed. From the perspective of a business owner, it is useful to know that contributions made to employee accounts are deductible as a business expense.

Defined Benefit plan

Defined benefit plans are ideal for high-income self-employed individuals with no employees.

The contribution limit is based on the benefit you’ll receive upon retiring, and other factors such as your age and expected returns.

Contributions as a rule of thumb are tax-deductible, this means that the distributions, however, are taxed as income.

When Can You Withdraw From Your Retirement Plan?

Once you reach the age of 59½, you can withdraw funds from your Traditional IRA, or 401(k) without restrictions or penalties. In some cases, this age can be lowered to 55.

If you are not sure if you are financially viable enough to stop working entirely, then we would recommend that you seek financial advice.

How to start a retirement plan as a company director

The right choice of pension plan will ensure you have the options and flexibility you need when saving for your retirement as a company director. The good news is that most of these accounts are incredibly easy and simple to set up.

That said it may be best to consult a financial professional, especially if you are pressed for time. They can help you select a suitable plan for your needs and also with busy work, for example, if you have previously worked for another company then you may also have existing retirement plans which could help you consolidate into your new plan.

Regardless of the retirement plan that you decide to open bear in mind that you will need to invest in it in order to grow your savings and help provide financial security for your future. If you are an experienced investor then you will no doubt know your way around the stock market, then you may already have a good idea of which broker you would like to open an account with and how you would like to invest.

For people who have little or no experience with investing, there are other options that can support you through the process and you may want to consider selecting a broker that will match you with a ready-made fund that is expertly managed in order to maximize your gains, whilst remaining within your risk profile.

Of course, there are associated costs that you will need to take into consideration before you choose your brokers. The good news is that there is plenty of competition between brokers, meaning you can shop around to find the best provider for you.

You may choose to leave all this in the hands of a financial advisor, in which case you should go to our guide on How to Find a Local Financial Advisor.

How to choose your retirement fund broker

There is so much choice when it comes to brokers, all of whom are competing for your business. So how do you choose the best one based on your circumstances? Here are some tips on how to make your selection.

Cost – All brokers have fees, surcharges, trading costs, and various associated levies. If you are not careful these can bite into your earnings and hurt your bottom line. Generally speaking, if you are just starting your pension, with a small amount of money, then you will probably pay less in costs with a percentage fee rather than a fixed fee. Larger pots can start to cost a lot in fees with a percentage structure and may be more suited to a flat monthly fee. Also look for providers who reduce the percentage fee as your pension pot grows, or alternatively make plans to switch providers once your pot has reached a certain amount.

The account fee is not the only cost to be aware of, and these ‘hidden costs’ can soon start to add up. Potentially one of the most significant costs to you is the price of buying and selling shares. This can range from zero commission trading to $30.00 per trade so is certainly a consideration. Of course, the impact on you personally will depend on how many times per month you are likely to trade.

Minimum Contributions – Ensure you can afford the minimum contributions as well as the starting amount. This can be as little as $1 for some providers whilst other providers will require substantial amounts to get you started. As a limited company director, you may want to contribute more in some months than others in line with your changing profits. For this reason, it is also worth checking that the provider you are considering is flexible with contributions.

Investment Options – Each person’s requirements for investment options will differ depending on their investment style and expertise. Complete novice investors would be better off selecting a platform with a good range of managed funds to pick from so someone else can do all the hard work for them. However, seasoned investors will want a good range of stocks, shares, ETFs, and funds with which to create a diversified portfolio. This group will also need to be aware of the cost of buying and selling shares.

One of the major issues with being self-employed is the lack of spare time, and therefore you might want to consider a personal retirement plan broker that is quick and easy to set up and can manage your investments for you with minimal intervention on your part.