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401(k) superior to SIMPLE or SEP IRA even for tiny businesses?


Guest Eric Cernyar
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Guest Eric Cernyar

I am a small business owner (S-corp) w/ only myself & my wife as employees. I'm looking into SIMPLE IRA, SEP IRA, and 401(k) options. The first two are easy to administer & book. The 401(k) takes more time, and can be expensive, but I've learned of a fairly cheap option (401keasy -- $500 setup + $495/yr). So is the 401k worth it? I'm not sure.

Assume that my S-corp offers my wife and I a compensation package worth $40,000, comprising the base salary plus retirement benefits. Assume that we want to see $14,000 of that go into retirement accounts (IRA or 401(k)). The corp. can accomplish this with either the SIMPLE IRA or, starting 2002, with a 401(k) plan.

SIMPLE IRA option (assume self and wife each get $20K pkgs):

$19,420 base salary

Take home pay = $13K - income taxes - FICA on base salary

Elective deferral = $6,420 (max is $6500 in 2001).

Employer matches = $580 (~3% of $19,400)

2002 401(k) plan:

$16K base salary

Take home pay = $13K - income taxes - FICA on base salary

Elective deferral = $3K (new limit is 100% of base salary)

Employer matches & non-elective contributions = $4000 (because employer can match more than dollar for dollar (right?) and, starting 2002, can deduct contributions up to 25% of the employees' compensation)

In both cases, we end up with $14K in retirement savings. But because there are no FICA/employment taxes on employer matches and contributions (correct me if I am wrong), choosing the 2002 401(k) plan would result in the combined FICA/employment tax savings of 2*($19.42K-$16K)*0.153, or $1046.52.

If so, then the benefits of a 2002+ 401k plan may exceed the dollar costs of administering it. However, administering a 401k will probably take a lot more time (even w/ 401keasy, so it prob. still isn't worth it).

Any thoughts?

Eric

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