Solo entrepreneurs, business owners and professionals often work days, nights and weekends. They may not have time to put together a financial plan that would save a significant amount of their income for retirement while also cutting their taxes by possibly tens of thousands of dollars each year. But it’s easy to do – and for some there is still time to do this and file your 2021 taxes on time if you filed an extension.
Consider this scenario:
You work as a doctor, attorney, real estate professional or tech company owner and earned $500,000 in 2021. If you are married and file a joint return, you and your spouse will pay a marginal income tax rate of 35% in federal income taxes alone on part of your earnings. At a 35% marginal tax rate, a $50,000 retirement contribution would save you $17,500 in federal income taxes.
If you have a calendar-year partnership or S Corporation and filed an extension, you have until Sept. 15 to file the 2021 federal business return. If you have a Schedule C on your Form 1040 and filed an extension, you have until Oct. 15 to file your 2021 federal income tax return. This gives you plenty of time to start one or more new retirement savings plans – a way to build long-term wealth – while potentially making a huge dent in your tax bill.
Here’s a quick summary of some of the retirement plans available to you:
A Simplified Employee Pension (SEP)
A SEP allows a small-business owner to set up and contribute to a SEP Individual Retirement Account (SEP IRA). Contributions to a SEP are limited to approximately 20% of your net earnings from self-employment (or 25% of your W-2 wages if you have an S Corporation) with a limit of $58,000 for 2021 and $61,000 for the 2022 tax year.
Business owners who haven’t yet filed their 2021 returns still have time to contribute to one of these plans until the extended due date.
A Solo 401(k) Retirement Plan
This is a retirement account designed for self-employed business owners with no other employees (besides a spouse). While the deadline has passed to make an “elective deferral” contribution for the 2021 tax year, there is still time to make an election to adopt a plan for the 2021 tax year, which would allow the “employer” contribution for 2021.
If you were paid a sufficient salary or had sufficient net earnings from self-employment (depending on entity type), the “employer” can contribute up to $58,000 for the 2021 tax year and $61,000 for the 2022 tax year. In future years when an “elective deferral” is possible, a catch-up contribution of an extra $6,500 is available for those 50 or older.
Cash Balance Plans
Cash balance plans give one more option for retirement and tax savings for solo business owners with high incomes – such as those already maximizing the 401(k) plan or SEP IRA. If you extended your return, you have until Sept. 15 to still make contributions to a cash balance plan for the 2021 tax year (a Schedule C does not get an extra month like the other plans).
These plans are different from SEPs and 401(k)s because they are defined benefit plans instead of defined contribution plans and will require a contribution each year. The maximum amount you can contribute is dependent on your age and the terms of the plan (you work with an actuary to determine the contribution), but over time may allow larger and larger contributions. These plans can be combined with a 401(k) to allow even higher contributions, though you will have to coordinate the overall contributions between the plans.
With a combined plan, you could be contributing more than $100,000 annually to retirement (and sometimes much more). In addition to helping a solo owner quickly build wealth, a cash balance plan has other benefits. For example, once the owner retires, they have the option of taking these savings in an annuity spread out over several years or as a lump sum, which can be invested.
It's clear that by contributing to one or more of these plans, entrepreneurs and solo small-business owners can generate the savings and investment returns they will need to comfortably retire. I recommend to my clients that they contribute at least 10% to 15% annually, enabling them to accomplish that goal.
As a financial adviser and CERTIFIED FINANCIAL PLANNER™ professional at Moneta, Maggie Rapplean brings an entrepreneurial spirit that helps her connect with other business owners and next-gen investors, as well as 401(k) plan sponsors. She focuses on family financial planning, financial planning for women, business financial planning and financial planning for couples. With nearly a decade of experience, Maggie delivers financial education to retirement plan participants and her clients with the goal of increasing financial literacy and retirement readiness. She graduated Summa Cum Laude from the University of Missouri – St. Louis, earning her bachelor’s in Business Administration and is currently earning her MBA at UMSL.
AT&T Working to Restore Service Amid Network Outage: What to Know
Despite AT&T outage, Verizon and T-Mobile say their networks are operating normally but there may be issues when connecting to other carriers.
By Joey Solitro Published
Will Florida Property Tax Be Eliminated?
Property Taxes A new proposal is raising questions about revenue generation in the Sunshine State.
By Kelley R. Taylor Published
Three Common Mutual Fund Misconceptions Debunked
Mutual funds let investors access a basket of securities rather than buying individual ones on their own, but there are some misconceptions about them.
By Brian Spinelli, CFP®, AIF® Published
529s: No Longer the Ho-Hum Investing Device for College
Changes to the plans allow for the savings to be rolled into a Roth IRA, as long as certain rules are met, if a child decides not to pursue their education.
By Neale Godfrey, Financial Literacy Expert Published
To Make the Case for Equities in the Long Term, Look to the Past
While cash yields are attractive now, if we look at the performance of equities in the past, we can expect that, going forward, they could be a better bet.
By David Blanchett, PhD, CFA, CFP® Published
Workplace Financial Coaching Has Become Ever More Important
Employees face growing challenges to their financial wellness today, so it’s more critical than ever that employers provide the help they need to navigate them.
By Greg Ward, CFP® Published
Six Reasons to Use a Real Estate Agent When You Sell
So many financial factors depend on the outcome when you downsize for retirement that enlisting a professional can be well worth the price.
By Evan T. Beach, CFP®, AWMA® Published
Looking into Leasing Solar Panels? Think Twice
Leasing solar panels hasn’t turned into the great deal that many expected as solar companies go out of business and tax breaks and incentives get slashed.
By H. Dennis Beaver, Esq. Published
Three Reasons Not to Use a Real Estate Agent When You Sell
While this financial adviser doesn’t recommend taking that route, he does see scenarios where it could make sense for you.
By Evan T. Beach, CFP®, AWMA® Published
Soon-to-Be Retirees, Beware: Small-Caps Are Cheap for a Reason
Higher interest rates make debt more expensive for smaller companies, and that could become challenging for them if we head into slower economic times.
By Michael Joseph, CFA Published