GPS For Retirementville

401(k) plans
Most consultants consider 401(k) plans to be an extremely effective retirement savings tool. Such plans offer individuals the ability to set aside $15,500 a year tax free and an additional $5,000 in “catch-up” contributions for those 50 or older. Unfortunately, small business owners tend to underutilize these plans, often due to misperceptions. For example, small business owners may believe they do not have enough employees to make these plans worthwhile or that they cannot afford a company match. In reality, an owner does not need to have any employees to participate in a 401(k) plan. As a sole proprietor, an individual can receive 401(k) tax benefits through “individual 401(k)s.” In 2008, the contribution limits for these plans are a generous $46,000 per year. For those with just a few employees, even as few as one, the Internal Revenue Service allows for a variety of other 401(k) plans. In addition, there is no mandatory company match. The only requirement is that a 401(k) plan, if offered, be made available to all of a business’ employees.

IRAs—traditional and Roth
Bothtraditional and Roth IRAs are investment vehicles that provide for the tax-free accumulation of retirement income. In a traditional IRA, an individual is eligible to begin withdrawing his or her funds at age 59-and-a-half. The investor may, however, wait until age 70-and-a-half to begin taking distributions. An advantage of the IRA is that it is simple to set up. A disadvantage, however, is that the contribution limits are quite low (currently only $5,000 per year or $6,000 if the investor is 50 or older). For most individuals, this is far too little to fund a comfortable retirement.

While similar to the traditional formula in many ways, the Roth IRA differs significantly in that taxes are paid on income before the money is deposited into the Roth. Then, the money deposited in the Roth grows tax free and, when funds are withdrawn from the Roth, no taxes are due. Since none of the investment growth is ever subject to income tax, the net investment return is increased significantly.

SEP (Simplified Employee Pension) plans
The SEP plan is popular among small- to medium-size businesses. In a SEP, the employer is solely responsible for contributing to IRA plans for his or her employees. For this reason, the SEP is an attractive benefit that allows smaller companies to compete with larger firms for the most desirable workers. Another advantage of the SEP is that it is a simple plan to administer. In a 401(k) plan, for example, there are many administrative requirements and complexities that add to the cost. For example, administrators of these types of plans may need to set up a separate trust, which obviously increases costs. The SEP, on the other hand, does not require a separate trust and is therefore often a good choice for a sole proprietorship or partnership.

Other retirement options
In additionto traditional options, financial consultants have been developing more innovative plans in recent years. These plans often focus on owners who feel that they have discharged their obligations to their employees and are concerned primarily with their own retirement. They are also an option for employers who are maxing out the benefits they pay to their qualified plans (a few of which are noted above) and are looking to do more. Such plans may be known as “non-qualified” plans, which means they are not subject to some of the constraints of ERISA (Employee Retirement Income and Security Act) and its regulations, which govern “qualified” plans, such as 401(k) plans, pension plans and the like. Because these plans are “non-qualified,” employers can offer themselves (and upper management, if they so choose) retirement options that they do not have to make available to “rank-and-file” employees.

For most owners, the key concern is having enough money to maintain a comfortable lifestyle after retirement.

An example would be a tax-deductible deferred compensation plan. While deferred compensation plans have been around for quite some time, the concept of “tax-deductible” deferred compensation is a more recent development. The basic mechanism behind this type of plan is that it requires participation in a Professional Employer Organization, which performs certain services for the employer and acts as a co-employer of the employee. In essence, this can allow upper management to take advantage of a sort of super-charged 401(k) plan. Large contributions can be made (often hundreds of thousands of dollars, if desired) with income tax deferred to later years.

Another advanced approach to retirement planning may involve the use of “phantom stock.” Say an employer wants to retain a key employee but does not want to part with corporate ownership. On the other hand, he or she wants upper management to feel it has a powerful interest in growing the company by providing a reward for that growth. In this case, the owner can set up an arrangement whereby the valued employee will not receive actual stock but will receive financial benefits that mirror the company’s performance. This can provide excellent benefits to key personnel, and such plans are relatively inexpensive to set up.

Another common but more advanced strategy may be a defined benefit pension plan. A specific advantage this type of plan has over many other plans is that it allows business owners who have not put away much to put away a much more significant amount in a short period of time. These plans allow an individual who earns $150,000 a year, for example, to invest as much as $80,000 of that income toward his or her retirement. Because defined benefit pension plans make it possible for owners to achieve greater growth in a shorter period of time, they have become much more popular with small- and medium-size businesses.

Make retirement a priority
Clearly, a variety of retirement savings options are available, but these options, whether traditional or more innovative, will do little good for those who do not use them. Unfortunately, any financial consultant can cite numerous cases of clients who have not given retirement planning the attention it deserves. To some extent, it is understandable. As noted previously, small business owners face numerous challenges each day in keeping their businesses profitable. Nonetheless, effective retirement planning and accumulating enough money to enjoy a comfortable retirement depend heavily on commitment, making the right investment decisions and giving one’s money time to grow. Unfortunately, owners who neglect these realities may find they will never be able to retire or they will fail to enjoy retirement to its fullest. To overcome this, small business owners need to make themselves a priority, and bring the same enthusiasm and commitment to retirement planning that they bring to managing their businesses. Even if some time has passed, it is possible to do some catching up with the right retirement vehicles. Just remember that although the decisions can seem difficult, the answers can become much clearer with the aid of a qualified retirement specialist; however, you must commit to taking the first step.”