Self-employed investors, understand more than anyone, the importance of a return on their investments. Self-employment offers many potential tax benefits, which can be a lure to those who choose to follow that path. While there are various tax benefits through tax deductions, a small-business retirement plan is often overlooked.
Maximizing these benefits for those that have the free cash flow can be a major advantage of self-employment. In order to better understand the options available, we’ll divide these plans into two separate categories, Defined Contribution & Defined Benefit plans.
Defined Contribution Plans
A Defined Contribution plan is a plan that has a specific formula for contribution based on one’s self-employment wages. The first plan we’ll look at is the Simple IRA.
The Simple IRA
This plan is designed for an employer who has fewer than 100 employees, and those employees earn more than $5,000, and would like to establish a plan for the employer as well as their employees with very little overhead expenses. The benefit of the Simple IRA is that since it is an IRA, there are typically very little or no administrative costs. The plan allows you to contribute on your own behalf with only a small obligation to match your employees who are vested after a certain duration of having being employed within that organization. The negative aspect is the maximum dollar contribution for the owner is substantially lower than other plan options.
For 2015 the employer can contribute 100% of their compensation up to $12,500.00 or $15,500.00 for those over age 50. For each employee, the employer can choose to make either a 3% matching contribution or a 2% non-elective contribution, regardless of whether the employee chooses to participate in the plan. Once funds are contributed to a Simple plan on behalf of the employee that is eligible, the employee is immediately vested and the employee may take the funds with them when they leave. The plan must be in existence for at least 2 years before the assets can be rolled to an individual IRA upon the employee or owner leaving the business.