Published January 2003

Retirement plan can give tax benefits in new year

If you’re a small-business owner looking back on your financial situation for 2002, you may be wondering if you could have found more ways to reduce your taxes. Here’s one possibility to consider for 2003: Start a retirement plan.

You can now receive a tax credit for establishing a new retirement plan, provided you have fewer than 100 employees. Your credit is worth $500 (50 percent of the first $1,000 of qualified start-up costs) in the first year of your new plan and in each of the two following years. While the tax credit is certainly nice, it only extends for a few years. But once you establish a retirement plan, it can provide you with other tax benefits indefinitely.

The contributions you make to your employees’ plans are deductible to your business. And, since you’ll be participating in the plan, you’ll also be making deductible contributions on your own behalf. Plus, your earnings will grow on a tax-deferred basis, which means your retirement savings will accumulate faster than they would if placed in a vehicle on which you paid taxes every year.

So, there you have it: a tax credit for opening your retirement plan, tax-deductible contributions and tax-deferred earnings. All in all, it’s clear that — from a tax standpoint — a retirement plan can help you significantly.

Which type of plan should you choose? There’s no one right answer for every business owner. However, here are a few of the most popular plans out there:

• SIMPLE IRA — As the name suggests, a SIMPLE IRA is quite easy to set up and inexpensive to administer. In 2003, employees can contribute up to $8,000 to their SIMPLE IRA, which can be funded with virtually any type of investment. Your business is generally required to match your employees’ contributions up to 3 percent of their salary, unless you decide to put in 2 percent of each eligible employee’s compensation. If you choose the matching option, you can reduce the match to between 1 and 3 percent in two of every five years.
• SEP-IRA — Like the SIMPLE plan, a SEP-IRA is inexpensive to set up and easy to administer. Your company’s contributions can be up to 25 percent of an employee’s annual compensation, subject to maximum dollar amounts permitted by the IRS. And you have the flexibility to reduce, increase or stop contributions at any time.
• Profit-sharing plan — With a profit-sharing plan, you can provide an incentive to employees by linking their contributions to your business’ performance. You can contribute up to 25 percent of the annual compensation of eligible employees, but you’re free to determine the contribution amount every year.
• 401(k) — You may be wondering about opening a 401(k) plan. While small businesses are certainly eligible to set up a 401(k), the expense and administrative details have led most owners to consider one of the plans listed above. But in recent years, some financial institutions have begun offering small businesses a less costly, less complex 401(k) — so it could be an option for you.

See your tax adviser before you decide on a retirement plan. Once you find a plan that’s right for your needs, put it to work. Your employees will be happy, and when tax time rolls around, so will you.

Eric Cumley is an investment representative with Edward Jones Investments at 1201-C SE Everett Mall Way in Everett. He can be reached at 425-353-2322. Edward Jones is an NYSE-member investment firm with more than 8,000 locations nationwide.

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