5 Pension Plans for Self-Employed People

As a savvy business owner, you may regularly keep your eyes trained on your business and personal finances. While this helps you to keep your overhead as low as possible, it can also play a critical role in helping you to achieve your goal to retire by the age of 37. In order to retire early, you may need to make full use of the pension plan options that are available to you. There are several self employed pension plan options available for independent business owners like you. Exploring the differences between them can help you make a more educated decision about how to save and invest your retirement dollars.

What Pension Options Are There?

Each of the available self employed pension plan options have unique benefits and features. By learning more about them, you can determine which is the right plan for you to use when preparing for retirement.

1. Simplified Employee Pension (SEP IRA)

A Simplified Employee Pension, or a SEP IRA, is a popular option that many self-employed individuals use for retirement planning purposes. This self employed pension plan is unique in that it only uses employer contributions, and the employer may contribute as much as 25 percent of the employee’s gross annual compensation into this plan each year. However, the employee is fully vested at all times and has complete control over how the funds are invested.

There are some excellent benefits associated with investing in a SEP IRA. For example, this program has very low overhead fees and administrative paperwork. It is easy to get started with the plan and simple to make regular contributions.

However, one downside to consider if you have multiple employees is that employers must make equal monthly contributions for each employee. This is not an issue if you are a one-person operation. However, if you hire an administrative assistant to help you manage your daily activities, you may not want to make the same level of contributions for your employees as you make for yourself.

2. Solo-401k

The Solo-401k plan is an excellent option for small business owners who have a one-person operation or whose spouse also works for the company. With this plan, you can enjoy the same benefits as a traditional 401k, and you also have the same requirements.

For example, you may contribute up to $18,000 per year out of your own funds. The business may contribute an additional matching amount, and the total compensation from both the individual and the business cannot exceed $54,000. This means that both the business and the individual can enjoy tax benefits.

You will have complete control over the investment of the assets, and you can begin taking withdrawals from this self employed pension plan without penalties when you reach the age of 59 and a half. This type of pension plan uses pre-taxed dollars as contributions, so you will pay taxes on the withdrawals in retirement.

It is not an option for businesses that have multiple employees. If you are currently a one-person operation, you may want to think ahead about potential plans to expand the size of your team in the months and years to come.

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3. Savings Incentive Match Plan for Employees (SIMPLE IRA)

The SIMPLE IRA, or Savings Incentive Match Plan for Employees, is available to you if your business has fewer than 100 employees. This plan must be the sole retirement plan offered by the company, and it cannot work in conjunction with other self employed pension plan options. With this plan, the employee may contribute up to $18,000 per year, and this is pre-tax money.

The employer has to contribute to the retirement account as well. It may contribute up to three percent of the employee’s contributions in a matching plan. Otherwise, it may contribute up to two percent of the employee’s income across the board. The employer chooses which of these contribution options it wants to move forward with.

This plan does not have discrimination testing, and it has minimal reporting requirements and fees as an administrative benefit. Because it uses pre-taxed money from the business and the individual as contributions, it offers tax benefits for both parties.

4. Defined Benefit Plan

A defined benefit pension plan is one of the more traditional types of pension plans available. While many businesses have moved away from this model, it remains a viable option that may be right for some business owners to consider. With this plan, the employee contributes a set amount of money into the plan each year.

Upon retirement, the individual receives retirement benefits on a monthly basis. Their salary level and years of employment with the company determine the amount of the benefits they receive. This is a fixed number that is known to the employee from the beginning, but it may be adjusted to account for cost-of-living increases.

The employee has no control over how the business invests the funds. However, this guaranteed pension benefit may provide the employee with peace of mind when preparing for the future. The burden of investing the funds, managing assets, doing administrative paperwork and more falls onto the shoulders of the employer.

The company must properly invest the assets so that the pension benefits are available to employees as promised upon retirement. Because of this, this type of pension plan can be burdensome and stressful for business owners to manage.

5. Profit-Sharing Plan

If you are looking for a convenient way to pass along the profits of your business to yourself or your team members while decreasing tax liability, the use of a profit-sharing plan makes sense. With this type of plan, the employer is the only contributor. The funds contributed to the plan are a percentage of the company’s gross profit. There are tax benefits that come with investing in a profit-sharing plan. Additionally, the amount of the profit-sharing contributions can be adjusted quarterly as needed. The funds may commonly be used to purchase company stock, but this is not always the case.

Furthermore, this plan may be used in conjunction with other pension plans, such as a solo-401k plan. The contribution limit is equal to 25 percent of the employee’s total income or $53,000 per year, whichever is less. The company is required to properly document the contributions by filing a special form with its tax returns. Despite this, the administrative tasks associated with this type of pension plan are fairly straightforward and easy to comply with.

With many different self employed pension plan options available, it is important that you explore each of these plans thoroughly. After that, think ahead and begin planning for an early retirement. It can be helpful to determine how each plan may impact your tax liability and your early retirement. Keep in mind that some of the plans must be the sole retirement plan the business offers. Others can work in conjunction with each other. This enables you to maximize the benefits that they provide.

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