Academic journal article Journal of Accountancy

Help Small Businesses Choose the Right Employee Retirement Plans: CPAs Can Help Business Owners Make Sense of the Various Options Available

Academic journal article Journal of Accountancy

Help Small Businesses Choose the Right Employee Retirement Plans: CPAs Can Help Business Owners Make Sense of the Various Options Available

Article excerpt

Retirement plans offer significant tax advantages to small business owners and give them and their employees incentive to save for the future. Several types of retirement plans are available to small businesses, each with its own requirements and restrictions. The same plan is not necessarily ideal for companies of all sizes and ownership structures, so small business owners need to do their homework before making a decision.

As a CPA, you can help business owners select and implement the plan that is most appropriate for them. You can base your recommendations on the unique characteristics of your client's business, such as the owner's retirement goals, how the business is set up (as a sole proprietorship, a limited liability company, a C corporation, or an S corporation), the number of employees, and so on. You can also help them understand the legal and compliance issues related to each type of plan, as well as any tax advantages it might bring.

What follows is an overview of the types of plans, as well as a discussion of issues to consider as you assist small business-owner clients throughout the often-confusing process of choosing a retirement plan.

MAJOR TYPES OF RETIREMENT PLANS

Various types of retirement plans are available to small business owners. The major ones include the following (see the chart, "Comparison of Retirement Plans for Small Businesses," for more details on the four most common types of plans):

Simplified employee pension (SEP) plans

SEPs can be used by businesses with any number of employees. Contributions are made by the employer only (up to the lesser of 25% of each qualified employee's compensation or $55,000 for 2018) and are tax-deductible as a business expense. The primary advantage of SEP plans is how simple they are to administer. After adoption, no annual IRS forms generally need to be filed for a SEP, and administrative costs are minimal.

There are three steps to establishing a SEP. The employer must (1) execute a written agreement to provide benefits to all eligible employees; (2) give employees certain information about the agreement; and (3) set up an IRA account for each employee. The IRS has a model SEP plan document, Form 5305-SEP, Simplified Employee Pension--Individual Retirement Accounts Contribution Agreement. However, not all employers can use Form 5305-SEP, and instead some must use a prototype document.

However, SEPs do not allow employees to defer income, and employees are always 100% vested in employer contributions to their SEPs. Therefore, they may not be the best choice for companies in industries with high employee turnover or that want to use a retirement plan to help retain employees. Another potential drawback to these plans is that they require the employer to make contributions at the same percentage to all eligible employees. Because of this requirement, a smaller company with a self-employed owner may lack sufficient cash flow to support such a plan if the owner wants to make a large contribution to his or her SEP.

Savings incentive match plan for employees (SIMPLE) IRA plans

SIMPLE IRAs are generally available to businesses with 100 or fewer employees who received $5,000 or more in compensation in the preceding year. These plans are funded by tax-deductible employer contributions and pretax employee contributions.

As the name implies, SIMPLE IRAs are simple to implement and administer. To implement this plan the employer can use Form 5304-SIMPLE, Savings Incentive Match Plan for Employees of Small Employers (SIMPLE)--Not for Use With a Designated Financial Institution, or Form 5305-SIMPLE, Savings Incentive Match Plan for Employees of Small Employers (SIMPLE)--for Use With a Designated Financial Institution. As with Form 5305-SEP, the employer is required to keep the form in its records but does not file it with the IRS.

A small employer may wish to implement a SIMPLE IRA plan because it allows employees to defer income by making salary reduction contributions (subject to annual limitations) to their SIMPLE IRAs. …

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