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This month’s newsletter will provide general information about the tax benefits from contributing to retirement accounts for individuals and businesses.

RETIREMENT OPTIONS

Eligibility and requirements for retirement account contributions and the associated tax benefits are extensive and depend on facts and circumstances specific to each taxpayer. The information below is not intended to be a comprehensive list of the rules and eligibility. If you have specific questions about contributing to a retirement account, please contact us.

INDIVIDUALS

401(k) – Generally offered by employers to W-2 employees. Contributing a portion of your income to a 401(k) provides a deduction for the amount of contribution, effectively reducing your current federal (and most states) income tax bill. Earnings in 401(k) accounts are not subject to tax until funds are withdrawn. However, unless an early-withdrawal exemption applies, funds cannot be withdrawn prior to reaching age 59 ½ without incurring a penalty. Further, a portion of the account must be withdrawn annually once the account holder reaches age 70 ½.

Some characteristics of a 401(k):

• Employers commonly provide a matching contribution, i.e., free money
• Eligibility is not generally limited by income, available to high income earners
• Max contribution of $19,000 in 2019 for those under age 50, $25,000 for those 50 and older
• 401(k) contributions are deductible in the year the contribution is made. There is still time to increase your contribution to max out your savings!
• Some 401(k) plans offer loan options that do not trigger early withdrawal penalties
• Roth 401(k) option allows for permanent tax-free earnings in exchange for forgoing a current deduction of the contribution

Traditional IRA – Generally, contributions to a Traditional IRA will provide a current year tax deduction to lower federal and state income tax. Earnings in a Traditional IRA are not taxed until withdrawn. However, similar to a 401(k), funds cannot be withdrawn prior to reaching age 59 ½ without incurring a penalty in the absence of an early-withdrawal exemption, and a portion of the account must be withdrawn annually once the account holder reaches age 70 ½.

Some characteristics of a Traditional IRA:

• No employer match
• Broader investment flexibility than 401(k)
• Maximum contribution of $6,000 in 2019 for those under age 50, $7,000 for those 50 and older
• Deduction phases out at certain income levels which is affected by existing coverage by an employer sponsored retirement plan
• No loan option available
• Must have “earned income” to be able to contribute
• Up to $10,000 can be withdrawn to purchase home by first time homebuyer without penalty
• You have until April 15^th of 2020 to make contributions for the 2019 tax year.

Roth IRA – Unlike a 401(k) and a Traditional IRA, a Roth IRA provides no current year tax savings since the contributions are not deductible. However, the earnings of the investments in a Roth IRA will grow tax free and can be withdrawn tax free if distributions are “qualified”. The contribution limits are the same as a Traditional IRA while the ability to contribute is phased out at higher income levels by comparison.

Some characteristics of a Roth IRA:

• Contributions (not earnings) can generally be withdrawn at any time tax free
• No required minimum distributions in retirement
• Must have “earned income” to be able to contribute
• You have until April 15^th of 2020 to make contributions for the 2019 tax year.

BUSINESSES

There are retirement plan options, such as Simple IRAs and defined benefit plans, available to businesses with employees. However, this section will focus on retirement options available to business owners who have a sole proprietorship or own 100% of an S corporation. Both options provide great tax deductions but do require some administrative attention so we recommend working with a trusted financial institution to set up and administer these plans.

SEP IRA – For 2019 you can contribute up to $56,000 or 25% of your compensation, whichever is lower, using a SEP IRA. Any profit-sharing contributions are deductible business expenses lowering the amount of profits from the S corporation or business subject to income tax. Some other common features:

• Can be set up any time before the extended due date of the return.
• Similar rules to traditional IRAs with respect to withdrawals and required distributions once the money has been contributed
• The plan is flexible in that you do not need to contribute every year should cash flow considerations not warrant a contribution (except when tied to profit sharing)
• No ability to take loans from the plan
• You have until the due date of the businesses return to make a contribution.

Solo 401(k) – The solo 401(k) works similar to the regular 401(k) discussed above in that it allows employee deferrals up to $19,000, but also allows an additional $37,000 (limited by the same 25% of compensation as the SEP IRA) to be set aside to reach a maximum of $56,000 for 2019. Some other common features:

• Can only be opened and contributions made before the end of the tax year. If you are interested in creating a 401(k) prior to yearend we suggest doing so as soon as possible.
• Form 5500-EZ Summary Annual Report annual filing requirement if assets of the plan exceed $250,000
• Possible to treat contributions as Roth 401(k), i.e. no tax benefit in the current year but no tax on withdrawals
• More stringent testing rules, especially if business were to ever hire employees
• Possible loans available to access previously contributed cash

Please let us know if you have any questions about these retirement options.

Thank you! We look forward to serving you again in the future!