Retirement plans offer varying tax benefits

To address these and other issues, you may want to consider an employer-sponsored retirement plan, which can offer not only tax benefits but also significant advantages to you and to your employees.

A retirement plan not only gives your business the competitive edge in attracting and retaining quality employees, it also offers the ability to accumulate retirement funds tax-deferred, so you don’t have to pay taxes on the money until you withdraw the funds.

But keep in mind that withdwawals before age 59 1/2 may be subject to a 10 percent penalty from the Internal Revenue Service.

Employer retirement plans are categorized as either salary deferral plans or employer-funded plans. Salary deferral plans let participants contribute a portion of their paycheck directly into the retirement plan.

Depending on the type of plan, an employer also can make contributions. Employer-funded plans are those that receive contributions directly from the business, and employees do not contribute.

One type of salary-deferral plan is the savings incentive match plan for employees – or Simple – individual retirement account.

Simple plans allow employees to make pretax salary deferrals into the plan. In addition, the employer makes a required contribution, providing a tax deduction for the business.

Simple plans are suitable for sole proprietorships, partnerships and corporations with fewer than 100 employees who have each earned at least $5,000 in compensation for the prior year. Nonprofit organizations, including government entities, also may have these plans.

Another salary-deferral plan is an owner-only 401(k), which is a retirement plan for businesses with no employees other than the owners and their spouses, including self-employed individuals, corporations and partnerships. The owner-only plan allows participants to make tax-deductible salary deferral contributions in addition to an employer tax-deductible contribution.

All earnings accumulate tax-deferred. In addition to the owner-only 401(k), other types of 401(k) plans, such as traditional and safe harbor, also are available.

Simplified employee pension plans are available to business owners, and are a collection of individual retirement accounts. The SEP is a cost-effective option that provides tax deductions for the business and requires no annual IRS filings. SEPs are suitable for any type of business. With an SEP, only the company, and not the employee, contributes to the plan.

Profit-sharing plans are defined contribution plans. This means that the amount contributed to the plan is limited, but the amount paid to the employee at retirement is discretionary.

The amount paid to the employee at retirement depends on plan contributions and on the return earned by the investments in the plan.

Contrary to what the name implies, contributions to a profit-sharing plan are not necessarily based on the profitability of the company, but on the amount of each participant’s compensation and how much the employer chooses to contribute to the plan.

Profit-sharing plans allow the employer to make tax-deductible contributions. Employees do not contribute to this type of plan. Any type of business can set up a profit-sharing plan.

There are several options available to you and to your business. Your financial consultant can help you choose the most appropriate plan for your goals and your employees’ needs.

If you already have a plan in place, review it to be sure that it is meeting those goals and needs.

Timothy M. Reese is senior vice president-investments with A.G. Edwards & Sons Inc., member SIPC.

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