The right plan benefits you and your employees

Q. I own a small property and casualty insurance agency, and have always contributed to, and encouraged my two employees to contribute to, either a tax-deductible IRA or a Roth IRA. I've just started making a decent amount of money and want to put away more for my own retirement. Someone suggested a defined benefit plan, but that seems like something I may want to consider in the future when I am sure about my income stream and when I have employees that are much younger than I. Do you agree? I am 40, making $275,000 a year, and my employees are 33, making $35,000, and 35, $95,000. I also don't want to spend a fortune on a third-party administrator, so I'm leaning toward a 401(k), SEP IRA or a SIMPLE IRA. Which would you recommend?

I agree with waiting on the defined benefit plan. It is quite a commitment, and works in favor of business owners who are older than their employees and make a higher wage. The administrative costs and the required funding of the plan probably outweigh the benefits at this time.

Unless you have expertise in this area, you would also want to hire a third-party administrator for a traditional 401(k) plan. It will be subject to top-heavy rules which ensure that employer contributions do not discriminate in favor of highly compensated or key employees, which would include you. You could adopt a safe-harbor 401(k) plan, but this requires you to make some contributions that are immediately vested, meaning employees are entitled to the money you contribute even if they leave in a short period of time. Non-safe-harbor contributions can have a vesting schedule. Even with a safe-harbor plan, it would still be prudent to hire a third-party administrator. The maximum employee contribution to a 401(k) for 2012 is $17,000 (plus $5,500 if 50 or over), and the total, including the employer match, is $50,000. This would be a nice savings vehicle for you, but costly if your employees decide to make substantial contributions because you have to offer the same match to all eligible employees.

The SEP IRA is fairly easy to administer and would allow you to contribute 25 percent of each employee's compensation up to a maximum contribution of $50,000. You could contribute $50,000 to your SEP account, but you would need to contribute $32,500 ($95,000 + $35,000 at 25 percent) for your employees. They are immediately vested, so they are entitled to the entire contribution if they leave for any reason.

The SIMPLE IRA also is easy to administer but more flexible when it comes to employer contributions. The drawback to this plan is the lower dollar amount of allowed contributions. Employees are allowed to contribute as much as $11,500 ($14,000 if 50 or over) or 100 percent of earned income, whichever is less. The employer must choose one of two matching options. One is 3 percent of the employee contribution on a dollar-for-dollar basis. This can be reduced to a 1 percent match every two years of a five-year period. If you don't want to match employee contributions, you can contribute 2 percent on behalf of each eligible employee regardless of his or her participation in the plan. The total contribution limit for employee and employer match is $19,000. All employees earning $5,000 during any two years preceding the current calendar year, and who are expected to receive $5,000 during the current calendar year, must be allowed to participate. The definition "employee" includes the self-employed. You can set less restrictive participation requirements by reducing or eliminating prior and/or current year compensation requirements. If participants meet the qualifications to contribute to a Roth or traditional IRA, contributing to a SIMPLE IRA will not affect their ability to do so. Once you have participated in a SIMPLE for two years or more, money can be transferred to most other retirement plans.