As a leader of a successful business, you may be in the position that you are looking to create a retirement plan for you and your employees. Maybe you are looking to make sure that you have the right plan for your situation. Well, every year we help clients determine the best plan to implement for their specific situation.
While most of our clients implement 401(k) plans, there are many different plan types to choose from. This article is an overview of the most commonly used employer provided retirement plans. You can also “click here” to download a chart of the different plans.
The 401(k) plan is the most common in small businesses due to its flexibility and list of advantages. With 401(k) plan employees can make contributions along with their employers. To be eligible for this the employees must be at least 21 years old with one year of service (1,000 hours) and can be established by any employer. Some of the pros of the 401(k) is that it allows larger contributions compared to most other accounts. For example, the max for 2022 is $20,500 if the employee is under 50 and the employer can contribute a max of $40,500. Another plus of this plan is that the Roth option is allowed. What this means is if you decide to use a 401(k) Roth you pay taxes when you put the money in versus when you take it out which is how a normal 401(k) works. Another great thing about this plan is that the beneficiary can borrow money from the account, but it must be paid back in five years, if the employer allows it.
SEP IRA (employee)
If you are looking to set up a retirement plan for your business, then you may have been thinking about a SEP IRA. When looking at this type of retirement plan it is important to know some of the advantages and disadvantages that come with it and how the account works overall. SEP IRA accounts are employer sponsored meaning the employers are the ones that put the money aside, unlike some of the other accounts the employees can’t contribute themselves. In order to be eligible an employee must be 21 years old and must have worked for the employer for three of the last five years. One of the good things about a SEP IRA is that the contribution limits are much higher than the other types of accounts. Employers can contribute 25% of wages up to $61,000 for 2022. While this is a major upside to the SEP IRA one of the downsides is that the employer must contribute equal amounts to all eligible employees. In other words, the employer can not contribute more to their account than they can to their other employees. One more thing with the SEP IRA is that the account is 100% vested, this means that if at any time the employee leaves the company, they get to take all their money with them.
Another type of retirement IRA account is a Simple IRA. With Simple IRA’s not only can the employer contribute to the account, but the employee can contribute as well. Unlike the SEP IRA, the employers are required to make contributions to the account annually. As far as the maximum contributions go, employees are limited to $13,500 (additional $3,000 if they are over 50). The employers have two options when it comes to their contributions. They can either match the employee’s dollar for dollar up to 3% of wages, or they can contribute 2% of wages up to $290,000. So, who is eligible for a Simple IRA? Anyone self-employed and any business with 100 or fewer employees can use this type of account. When it comes to employees being eligible, they must have earned $5,000 dollars from the employee in the last two years and are reasonable expected to do so in the current year. This type of retirement account is also 100% vested so the employees can always take the money if they leave the company.
Defined-Contribution (Profit Sharing Plan)
The defined contribution account is a lot like the defined benefit account in many ways but does have some rules that set it apart. Like the defined benefit account any employer can use this type of account but only employees at least 21 years of age with one year (1,000 hours) are eligible. With the defined-contribution account the employer is not required to make contributions annually. With a defined contribution plan the risk is with the employee since the employer doesn’t have to make contributions. The maximum employees can contribute per year for 2022 is $20,500 ($6,500 additional if over 50) but the employer can contribute a max of $40,500 for a total of $61,000 combined. Like a defined contribution plan and a 401(k), borrowing money from the account by the beneficiary is allowed if the employer sets up the account that way.
If you are looking to put away the most amount of money and are over the age of 50 you have probably been looking into a defined benefit retirement plan. This type of plan allows a lot larger contributions than a 401(k) plan can. With a defined benefit plan employers are required to contribute annually but employees are given the option to contribute as well. The employer is also required to contribute to all employees. The maximum benefit payout is limited to 100% of average compensation for the three consecutive years of the highest compensation (limited to $290,00), but not to exceed $230,000. Any employer can establish this but for employees to be eligible they must be at least 21 with one year of service (1,000 hours). Another benefit of the defined benefit plan is that an if an employer allows, the beneficiary can borrow money out of their account, but it must be paid back in 5 years.