Those of us who write about personal finance will, almost by default attempt to explain your personal finances, even your marital finances, as a business endeavor. And as truthful as those analogies might be, it still doesn't prepare you for your own business. If the entrepreneurial spirit is truly alive, then chances are you have given some thought to opening your own business.
More than the business plan is needed. More than just that great idea; the one that you know is just what some consumer somewhere cannot live without. More than just that spirit of being your own boss. More than the freedom to call the shots, be the builder of your own destiny. Being in business for yourself is a huge risk against your retirement.
Your reliance on your skills will sap the very lifeblood out of you, leaving you thrillingly exhausted at the end of each day. It will be great and terrifying, all at the same time. And many of us will fund that venture with money that may not come directly from your previous employer's 401(k) - at least I hope not - but from money you could have put away for that future.
There is a way to not lose out on that future as long as you apply some of the principles that guided your retirement plan before you struck out on your own. And if you tapped those funds, there are ways to recoup those lost dollars quickly.
But you have got to act fast. Right from the beginning. Without a doubt, you will need a salary from your business. And just like when you had that other job, the one with the 401(k), you should account for a pre-tax retirement contribution.
There are several ways to get going. First, we will discuss the easiest one to set up. In the next post, we will talk about other plans to think about as your business grows.
The solo 401(k) is for a sole proprietor, a business of one. It was created for people with great ideas, folks like you Your business can have a spouse for an employee but generally, the self-employed, the entrepreneur, the small business owner must go it alone. The good thing about solo 401(k): simplicity.
Simple to use and easy to maintain, you may contribute up to $13,000 of tax-deferred income with a bonus incentive thrown in for good measure in allowing you to add up to 25% of profit from your business as well. You might be living on tuna and crackers, but this type of plan can allow the start-up business owner the advantage of playing 401(k) catch-up in a relatively short time. The contribution limit is $41,000.
The relaxed rules that come with a solo 401(k) offer you the ability to decrease your contribution or suspend it altogether. By try not to. Because other rules in the plan might come in handy during some rough spots in your business's future. Known as hardship withdrawals, these loans against your solo 401(k) often have more favorable terms than those plans administered by larger enterprises. You might, at some point in time consider rolling over your previous 401(k) into your new plan.
Yet, like everything that seems too good to be true, there are a few drawbacks to the to the solo 401(k).
First, you need to find a plan administrator. Typically, these might be mutual fund managers but not always. The fund families are generally less expensive (trust and equity companies can charge anywhere from $400 upward to set up the account, and an additional percentage or fixed fee on the balance of the account) costing about ten dollars to set-up the account and 0.25% against the account balance, it may on the surface seem like a no-brainer to chose these folks. But the funds they offer you may add additional costs to the account in the way of fees and some fund families, like Fidelity want $10,000 upfront to begin with any fund.
Here is a list of plan administrators (a downloadable pdf.).
You should also consider your business's growth potential. If its quick, and you anticipate hiring employees, setting this kind of plan up may be a waste of time. Once your solo 401(k) is set up and your business grows, you will need to transition to a traditional 401(k) sooner than you would have liked to - or had the time to.
If you do anything, keep this in mind: this is a taxable event and should have the stamp of approval on it from someone who is a professional. Find a good one through references or very good friends.
Next up, the SEP-IRA.