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If you are a business owner, it is important to understand the various retirement savings options available to you as this choice can dramatically impact long-term financial health for you and your employees. A critical decision often revolves around whether to set up a SEP IRA or a 401K plan. Each has distinct advantages and situational benefits, dependent on different business structures and owner priorities.
A SEP IRA (Simplified Employee Pension) is often chosen for its simplicity and ease of setup. Business owners can establish a SEP IRA in a matter of minutes at most financial institutions. One of the key advantages of a SEP IRA is its high contribution limit, allowing business owners to contribute up to 25% of their income or $69,000 in 2024, whichever is less. This makes it an attractive option for high earners who wish to maximize their pre-tax savings efficiently.
However, the SEP IRA is particularly beneficial for businesses with few or no employees, as the employer must contribute equally for all eligible employees. This can become financially burdensome for businesses with multiple employees, making it potentially less attractive in these cases.
On the other hand, a 401K plan offers greater flexibility and higher potential contribution limits through a combination of employee deferrals and employer contributions. For business owners under 50, the total contribution limit can also reach $69,000 in 2024, but this includes personal deferrals of up to $23,000, which can be pre-tax or Roth, and the rest through employer contributions or after-tax contributions that can be converted to a Roth IRA, providing a tax-free growth opportunity.
401K plans can also be particularly advantageous for businesses with employees. They allow for varying contribution levels and include features such as loans and hardship withdrawals, which are not available in SEP IRAs. These features add a layer of liquidity for employees, making 401K plans a versatile and employee-friendly option. For solo entrepreneurs or small business owners, a Solo 401K may be an ideal choice. It offers the same high contribution limits as a standard 401K but is simpler to administer since it’s intended for businesses without employees other than the spouse.
In certain circumstances, a 401K plan can be advantageous for high-income earners looking to use strategies like the backdoor Roth IRA, which can be complicated by the existence of a SEP IRA due to the pro-rata rule in tax reporting.
Ultimately the choice between a SEP IRA and a 401K should be informed by several factors: the size and structure of the business, the income levels involved, and the specific financial goals of the business owner. Business owners should consider their current and projected financial situations and consult with financial advisors to choose the most suitable plan that aligns with their strategic objectives and provides the maximum benefits for both the owners and their employees. This decision is important not just for tax implications but also for attracting and retaining quality employees by offering a competitive plan as part of a benefit package.
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Important Disclosures:
Securities and advisory services offered through EWA LLC dba Equilibrium Wealth Advisors (a SEC Registered Investment Advisor).
* Government bonds and Treasury Bills are guaranteed by the U.S. government as to the timely payment of principal and interest and, if held to maturity, offer a fixed rate of return and fixed principal value. However, the value of fund shares is not guaranteed and will fluctuate.
* Corporate bonds are considered higher risk than government bonds but normally offer a higher yield and are subject to market, interest rate and credit risk as well as additional risks based on the quality of issuer coupon rate, price, yield, maturity, and redemption features.
* The Standard & Poor’s 500 (S&P 500) is an unmanaged group of securities considered to be representative of the stock market in general. You cannot invest directly in this index.
* All indexes referenced are unmanaged. The volatility of indexes could be materially different from that of a client’s portfolio. Unmanaged index returns do not reflect fees, expenses, or sales charges. Index performance is not indicative of the performance of any investment. You cannot invest directly in an index.
* The Dow Jones Global ex-U.S. Index covers approximately 95% of the market capitalization of the 45 developed and emerging countries included in the Index.
* The 10-year Treasury Note represents debt owed by the United States Treasury to the public. Since the U.S. Government is seen as a risk-free borrower, investors use the 10-year Treasury Note as a benchmark for the long-term bond market.
* Gold represents the afternoon gold price as reported by the London Bullion Market Association. The gold price is set twice daily by the London Gold Fixing Company at 10:30 and 15:00 and is expressed in U.S. dollars per fine troy ounce.
* The Bloomberg Commodity Index is designed to be a highly liquid and diversified benchmark for the commodity futures market. The Index is composed of futures contracts on 19 physical commodities and was launched on July 14, 1998.
* The DJ Equity All REIT Total Return Index measures the total return performance of the equity subcategory of the Real Estate Investment Trust (REIT) industry as calculated by Dow Jones.
* The Dow Jones Industrial Average (DJIA), commonly known as “The Dow,” is an index representing 30 stock of companies maintained and reviewed by the editors of The Wall Street Journal.
* The NASDAQ Composite is an unmanaged index of securities traded on the NASDAQ system.
* International investing involves special risks such as currency fluctuation and political instability and may not be suitable for all investors. These risks are often heightened for investments in emerging markets.
* Yahoo! Finance is the source for any reference to the performance of an index between two specific periods.
* The risk of loss in trading commodities and futures can be substantial. You should therefore carefully consider whether such trading is suitable for you in light of your financial condition. The high degree of leverage is often obtainable in commodity trading and can work against you as well as for you. The use of leverage can lead to large losses as well as gains.
* Opinions expressed are subject to change without notice and are not intended as investment advice or to predict future performance.
* Economic forecasts set forth may not develop as predicted and there can be no guarantee that strategies promoted will be successful.
* Past performance does not guarantee future results. Investing involves risk, including loss of principal.
* The foregoing information has been obtained from sources considered to be reliable, but we do not guarantee it is accurate or complete.
* There is no guarantee a diversified portfolio will enhance overall returns or outperform a non-diversified portfolio. Diversification does not protect against market risk.
* Asset allocation does not ensure a profit or protect against a loss.
* Consult your financial professional before making any investment decision.
In 15 minutes we can get to know you – your situation, goals and needs – then connect you with an advisor committed to helping you pursue true wealth.
EWA, LLC dba Equilibrium Wealth Advisors, is an SEC-registered investment advisory firm providing investment advisory and financial planning services to clients.
Investments in securities and insurance products are not insured by any state or federal agency.
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In 15 minutes we can get to know you – your situation, goals and needs – then connect you with an advisor committed to helping you pursue true wealth.