Which Retirement Plan Suits You?

All retirement plans are not the same.

In fact, there is such a wide variety of retirement plans available that it is worth it to read up on your choices. Here’s a brief look at the different plans and what they have to offer.

The traditional 401(k). Most people have such a retirement savings plan, and it works like this. The plan is funded with pre-tax dollars taken out of your paycheck (through payroll deductions). If you’re lucky, your company will match your level of contribution or even make contributions on your behalf – after all, the employer contributions are tax-deductible.

The I.R.S. will currently let you put up to $17,500 a year in a traditional 401(k); COLA (Cost of Living Adjustments) may drive that limit higher in the future. The I.R.S. also allows catch-up contributions (additional contributions from those aged 50+), with a current annual limit of $5,500. In 2013, the total amount put into a 401(k) by you and your employer can’t exceed the lesser of 100% of your compensation or $51,000 ($56,500 if you are 50 or older).^1,2

There are several variations on the traditional 401(k) theme …

The Safe Harbor 401(k). A byproduct of the Small Business Job Protection Act of 1996, the Safe Harbor plan combines the best features of the traditional 401(k) and a SIMPLE IRA, making it very attractive to a business owner. With a Safe Harbor plan, an owner-operator can avoid the big administrative expenses of a traditional 401(k) and enjoy higher contribution limits. The Safe Harbor plan allows for employers to make matching or non-elective contributions. Employers typically match contributions dollar-for-dollar until the employee’s contribution equals 3% of an employee’s compensation. Past that, an employer may optionally match employee contributions at 50 cents on the dollar until the employee’s contribution equals 5% of employee compensation.³

The SIMPLE 401(k). Designed for small business owners who don’t want to deal with retirement plan administration or non-discrimination tests, the SIMPLE 401(k) is available for businesses with less than 100 employees. Like a Safe Harbor plan, the business owner must make fully vested contributions (a dollar-for-dollar match of up to 3% of an employee’s income, or a nonelective contribution of 2% of pay for each eligible employee.). For 2013, the maximum pretax employee contribution to a SIMPLE 401(k) is $12,000. Catch-up contributions for those 50 and older are limited to $2,500. Employees with a SIMPLE 401(k) can’t have another retirement plan with that company.^1,3

The Solo 401(k). Combine a profit-sharing plan with a regular 401(k), and you have the Solo 401(k) plan, a retirement savings vehicle designed for sole proprietors with no employees other than their spouses. These plans permit a 2013 employee contribution of up to $17,500, $23,000 if you’re 50 or older. They also permit a profit sharing contribution of up to $51,000 in 2013 ($56,500 for those 50 or older).⁴

The Roth 401(k). Imagine a traditional 401(k) fused with a Roth IRA. Here’s the big difference: you contribute after-tax income to a Roth 401(k), and when you reach age 59½, your withdrawals will be tax-free (provided you’ve had your plan for more than five years). The annual employee contribution limits are the same as those for a traditional 401(k) plan: $16,500 for 2013, $22,000 for those 50 or older.^1,5

You can roll Roth 401(k) assets into a Roth IRA when you retire – and you don’t have to make mandatory withdrawals from a Roth IRA when you turn 70½. With a standard 401(k), you could only roll over the assets to a traditional IRA and thus have to make the required withdrawals.⁵

The DB(k). The DB(k) is a defined benefit retirement plan with some of the features of a 401(k), designed for companies with fewer than 500 employees. A DB(k) offers participants a retirement savings plan with the potential for a small income stream in the future, mimicking the pensions of years past. The pension-like income equals either a) 1% of final average pay times the number of years of service, or b) 20% of that worker’s average salary during his or her five consecutive highest-earning years.⁶

And then there are SEP-IRA, SIMPLE IRA and Keogh plans …

The SEP-IRA (Simplified Employee Pension). This employer-funded plan gives businesses a simplified vehicle to make contributions toward workers’ retirements (and optionally, their own). The employer contributions are 100% vested from the start, and the employer can supplement the SEP-IRA with another retirement plan. In 2013, an employer’s annual contribution limit to a SEP-IRA can’t exceed the lower of $51,000 or 25% of an employee’s salary. The same annual contribution limits apply for the self-employed.⁷

The SIMPLE IRA. This is like a SIMPLE 401(k) – a small business retirement plan with mandatory employer and optional employee contributions and a $12,000 maximum contribution limit in 2013 ($14,500 for employees 50 and older). Employers can choose to make a 2% non-elective contribution (that is, plan participants get an employer contribution equal to 2% of their compensation), or a dollar-for-dollar match up to 3% percent of their compensation.^1,8

The Keogh plan. Keoghs are popular with self-employed business owners, and they are available to sole proprietorships, LLCs, and partnerships. There are defined benefit, money purchase and profit-sharing variations; the defined benefit variation is a qualified pension plan offering a fixed benefit amount. In 2013, the contribution limit for a Keogh defined contribution plan is $51,000 (subject to self-employment income limits), while the contribution limit for a Keogh defined benefit plan is the lesser of $205,000 or 100% of your average compensation for your three highest-earning years.⁹

Did you know you had so many choices? If you are an employer, you may not have realized you have such an array of choices in retirement plans. But you do, and asking the right questions may represent the first step toward implementing the right plan for your future or your company. If you have any questions about these plans, please contact us. I would be happy to speak with you.

*Investors should consider the risks, characteristics, tax ramifications, and limitations of each plan prior to investing. In general, tax-deferred contributions, and earnings, will be taxed upon withdrawal.

**The opinions voiced in this material are for general information only and are not intended to provide specific advice or recommendations for any individual. To determine which investments(s) or plan may be appropriate for you, consult your financial and tax advisor prior to investing.

Citations.

1 www.shrm.org/hrdisciplines/benefits/articles/pages/2013-irs-401k-contribution-limits.aspx