If you’re a small-business owner, with no full-time employees (except possibly your spouse or business partner), you’re probably used to taking care of just about everything on your own. So, if you’re thinking of establishing a retirement plan — and you should — you might also be attracted to “going solo” with an “Owner-only” 401(k).
An Owner-only 401(k), sometimes known as an Individual 401(k), has been around for a few years now, and has proven quite popular — and with good reason. This plan is easy to establish, easy to administer and, most importantly, gives you many of the same benefits enjoyed by employees of a company that offers a traditional 401(k) plan.
These benefits include the following:
• Tax deferred earnings — Your earnings aren’t taxed as they accumulate.
• Tax deductible contributions — An Owner-only 401(k) consists of two components — salary deferral and profit sharing contributions, both of which are generally 100 percent tax deductible. If you choose to make Roth salary deferrals to your Owner-only 401(k), your contributions aren’t deductible, but you won’t pay taxes on your earnings, provided you don’t take withdrawals until you’re 59-1/2 and it’s been five years since your first year of Roth deferral.
•Variety of investment choices — You can choose to fund your Owner-only 401(k) with a wide range of investments. And you can construct an investment mix that’s appropriate for your risk tolerance and long-term goals.
An Owner-only 401(k) can potentially allow you to make greater contributions, at an identical income level, than other small-business retirement plans, such as a SEP IRA. In 2012, you can defer up to $17,000, or $22,500 if you’re 50 or older (as long as you don’t exceed 100 percent of your income).
Then, in addition, you can make a profit-sharing contribution equal to 25 percent of your income (slightly less if you are unincorporated). So, by combining the salary deferral and profit-sharing components, you can potentially contribute up to $50,000 to your Owner-only 401(k) in 2012, or $55,000 if you’re 50 or older. And these figures are doubled if your spouse also contributes to the Owner-only 401(k).
However, you’re not obligated to contribute anything to your plan. So, if your business is slow one year, you might scale back your contributions, or put in nothing at all. Then, when business picks up again, you can get back toward contributing whatever you can afford, up to the maximum.
Clearly, the Owner-only 401(k) can offer you some key advantages in building resources for retirement. But it’s not the only small-business retirement plan on the market, so, before you make a decision, you may want to consult with your tax and financial advisers to determine if an Owner-only 401(k) is indeed the right plan for you.
But don’t wait too long. You’ll have to establish your Owner-only 401(k) by Dec. 31 if you want to receive any tax deductions for 2012. And in any case, the sooner you start putting money away, the faster the progress you will make toward the retirement lifestyle you’ve envisioned.
This article was written by Edward Jones for use by Laura Evans, Edward Jones financial adviser of Richmond Hill.