Not too long ago, if you wanted to reap the benefits of a 401k retirement account, you had to be an employee of a large company that offered this type of account as part of their overall compensation package. This was bad news for self-employed individuals and people who owned their own small businesses. While they did have retirement account options, none were as attractive as the 401k.
Now, though, small business owners and self-employed individuals can open individual 401ks that offer significant advantages over other small company retirement plans like IRAs or 403bs. Any person who is a business owner with no employees other than a partner or spouse can open an individual 401k, which is also referred to as a solo 401k, uni-k, personal (k), mini-401k or one-person 401k. It doesn’t matter whether you just started your company or you have been in business for years. These retirement plans give you the large employer benefits that allow you to stay small yet save big.
Individual 401k Rules:
The rules governing solo 401ks are very similar to those that apply to traditional 401ks. These accounts are open to sole proprietors like independent contractors, partnerships, LLCs, S corporations and C corporations. The main difference between a personal 401k and a traditional 401k is that the business owner cannot have any salaried employees over the age of 21 who work more than 1,000 hours in a calendar year. However, a business owner is eligible for a solo 401k if he employs independent contractors instead of salaried employees.
There are no rules dictating how much the business owner must contribute to an individual retirement plan, but there are limits on how much can be contributed on a yearly basis. For 2013, the maximum amount that may be contributed to a mini-401k is $17,500 or $23,000 if you are 50 years old or older. For incorporated business, such as an S or C corporation, an additional 25 percent of W-2 income can also be contributed as a profit-sharing contribution. This amount is capped at $51,000 or $56,500 for individuals aged 50 or older for 2013.
Companies that are not incorporated, such as sole proprietorships, partnerships, or LLCs, can make a profit sharing contribution of up to 20 percent of the net adjusted business profit. This is calculated by subtracting business expenses from the gross self-employment income and then subtracting 50 percent of the self-employment tax.
Borrowing Benefit Can Save Your Business:
One of the main reasons why small businesses choose to open an individual 401k rather than one of the other types of retirement accounts is because they can borrow from the 401k. As anyone who has tried to run a small business knows, cash flow problems can sometimes cause a company to suffer. With a solo 401k, owners have the option of borrowing up to 50 percent of their account balance up to $50,000. They do not have to pay taxes or penalties on this amount as long as they pay back the loan within a set period of time.
Having access to this money, even if most experts advise against taking out 401k loans, can be a lifeline for small businesses. You are essentially borrowing the money from yourself and paying yourself back with interest. If you need a tool to help keep your business afloat during a financially difficult time, having an individual 401k can be a solution. Just be sure to pay it back on time, or you will end up paying both taxes and penalties on the outstanding balance.
As a small business owner, you actually have numerous retirement fund options. However, if you want to hang with bigger companies, opening an individual 401k can give you big retirement benefits without compromising your small company ideals.
Images courtesy of FreeDigitalPhotos.net