Retirement Plans for Small Businesses

BOSTON ( TheStreet) -- With big changes to retirement plans racing toward us, likely putting pressure on small businesses to end employee aid, it makes sense to look at what's in place now.

Selecting the right retirement plan for your small business can be daunting because of the many different types from which to choose. The good news is that because there are so many choices, it's possible to find one that exactly matches the needs of both you as the employer and business owner and your employees.
Big changes in retirement plans are racing ahead in Congress, but first we have to understand what's in place now for small businesses and their workers.

Most retirement plans fall under one of two categories: IRA-based type of plans and qualified retirement plans, which are regulated by the Employee Retirement Income Securities Act and have special provisions to maintain the tax benefits. The plan that would best suit your business will depend on factors such as whether you as an employer will want to contribute to participants' accounts, how much flexibility you want, whether you want to make the plan available to all of your employees and the nature and size of your business.

For sole practitioners and smaller business owners who seek a plan that is simple to set up and easy to administer, consider an IRA-based plan such as a SEP-IRA or Simple IRA. A major difference between the two is how the contributions to the plan are made. With SEP-IRAs, the employer -- not the employees -- makes contributions, which are deductible to the business. An advantage of SEP-IRA plans is that contributions are discretionary. Although the contribution percentage must be consistent among every eligible employee, it can vary year to year from as little as 0% to up to 25% of compensation, provided that the total contribution to any one person does not exceed $49,000.

With Simple IRAs, employers and employees contribute. Although employees' contributions are discretionary, up to $11,500, employers are required to match the deferral, up to 3% of the contributing employee's wages. Deciding between the types of plans will partly depend on whether you want to match deferral amounts as a benefit and savings incentive for your employees, or if you would prefer to have your employees fund their accounts on their own.

Unlike IRA-based plans, qualified plans are generally more expensive and complex to administer because they must follow regulations set forth by Erisa, as mentioned above. For example, to keep its qualified status and maintain a favorable tax benefit, a qualified plan must follow certain testing rules to ensure it does not discriminate too favorably toward senior management. Qualified plans also have many advantages, though, such as allowing participants to take out loans, having protection against creditors and offering business owners the ability to exclude groups of employees.

The most common type of qualified plan is the 401(k), in which employees can defer a portion of their salary up to $16,500 annually into their account. A well-designed 401(k) or other qualified plan can help you as a business owner reward and keep talented, long-term employees through the use of vesting schedules or other plan provisions to determine who is eligible to participate. For example, if your business has a high turnover rate, these plans allow you to exclude certain employees until they have a worked at the company for a certain number of years. Or, if you have a number of part-time employees, 401(k) plans may be tailored so only full-time staff members are eligible.

Often, 401(k) plans also have a profit-sharing plan component in which employers may make contributions to participants' accounts. For a business owner, an advantage of this type of employer-sponsored retirement plan is its flexibility -- you do not have to contribute to the plan every year, as long as contributions are made regularly. In less profitable years, for example, you can reduce your contribution or choose not to fund the plan at all, and increase the amount another year when it makes more sense for your business.

If your objective is to maximize your contributions, you may want to consider either an individual 401(k) (if you are a sole practitioner) or another type of qualified plan such as a defined-benefit plan. With individual 401(k) plans, the contribution limit is higher than SEP-IRAs and Simple IRAs due to the way the contribution amount is calculated. These plans also allow for loans, generally up to a maximum of $50,000. Defined-benefit plans (pensions and cash-balance versions) provide the largest potential contribution for business owners; they are also the most complex, expensive and difficult to manage, though. As a result, they're more appropriate for larger businesses.

Although the many choices available for retirement plans can be overwhelming, the key is to narrow down the selection by carefully assessing your objectives. If possible, you may also want to seek the advice of an experienced adviser to help guide you through the process.

If Congress changes how these plans work -- announcement that could come as soon as December -- ensure your adviser is up on those changes.

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Greg Plechner is a CFP and a principal at Modera Wealth Management LLC, based in Westwood, N.J., and Boston and a member of NAPFA, the National Association of Personal Financial Advisors.

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