Alternatives to a 401(k):
While the 401(k) is the best-known retirement savings vehicle for businesses, there are other options that may be a better choice for your needs. To the left is a quick reference to the more popular retirement plans for small businesses. For more information consult the Internal Revenue Service Publication 560, Retirement Plans for Small Business.
Simplified Employee Pension Plan (SEP IRA)
This can be the ideal plan for a sole proprietor or a very small company, with only a few employees. It is basically an IRA that is set up by the company for employees. An employer makes tax-deductible employer contributions, and unlike many other plans, there are no complicated plan documents that need to be filed. The contribution limits are based on a formula: 25% of compensation up to a maximum contribution of $44,000. One advantage is that contributions don’t have to be made every year, giving an employer some flexibility.
Another plus is that these plans are easy to set up and use: Employers need only fill out a single-page form to get things started. The disadvantages to this type of plan are that employees do not have a company-sponsored vehicle into which they can contribute retirement savings and there can be no discretion over how much you provide in benefits to different classifications of employees — all employees will receive the same percentage of pay.
Savings Incentive Match Plan for Employees IRA (SIMPLE IRA)
Companies with 100 or fewer employees can set up SIMPLE IRA plans. Employees can contribute pre-tax dollars up to $10,000 in 2006 ($12,500 if they’re older than 50) and employers can match employee contributions dollar for dollar up to 3% of compensation, or provide a 2% nonelective contribution for each employee up to $4,400. SIMPLE IRAs are also easy to establish. Employers fill out forms to establish the plan and set up the account; typically much of the paperwork is handled by the financial institutions that handle SIMPLE plans.
Profit Sharing Plans
As the name implies, in a profit sharing plan, an employer contributes a share of profits to his or her employees. Employees do not contribute to these accounts. A company can contribute up to 25% of an employee’s salary, up to a limit of $44,000. The amount distributed by the employer can vary from year to year. Unlike the two options discussed above, a profit sharing option can be utilized in conjunction with a 401(k) option within one retirement plan. Also, a profit sharing plan can provide different levels of benefits to different reasonable classifications of employees (for example, staff and shareholders could receive different amounts, subject to special testing).