The 9 Most Common Small Business 401k Mistakes

The 9 Most Common Small Business 401k Mistakes

It’s no secret that small businesses are often short on resources.  And my guess is that keeping close tabs on your 401k plan is not at the top of your to-do list.

As you likely know, sponsoring a 401k plan comes with certain responsibilities, and neglecting them can get you in hot water with the IRS and Department of Labor.

If you’re wondering whether your bases are covered, here are the 9 most common small business 401k issues I see in my practice:

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Buying Bonds vs Buying Bond Funds

Buying Bonds vs Buying Bond Funds

Stock markets tend to be pretty good at keeping investors up at night.  Peaks, troughs, business cycles, corrections, and crashes are par for the course when investing in stocks.  And for many investors this is just a little too much excitement.

For anyone uncomfortable with the risk of investing in stocks, bonds are often the first alternative. They won’t nock knock your socks off with huge returns, but bonds can provide steady income with less risk that your portfolio sours.

But when it comes to buying bonds, investors have a big choice to make: do you buy individual bonds or bond funds.

Unlike stocks, the choice between buying individual securities or a fund that includes individual securities has major implications.

Here’s a quick guide that explains what you need to know.

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4 Telltale Signs You're in the Wrong Investments

4 Telltale Signs You’re in the Wrong Investments

Investing is kind of like buying new shoes.

There are a thousands of options out there: running shoes, hiking shoes, dress shoes, and flip flops just to name a few.  The right pair for you will depend on what you need them for, how big your foot is, and how much you want to spend.

There are thousands of options in the investment world too, from individual stocks and bonds, to mutual funds and ETFs, to managed accounts and automated platforms.

One question I hear a fair amount is, “with all the options out there, how do I know if my portfolio is right for me?”

Much like buying a new pair of shoes, the right portfolio for you matches your needs.

If you need new shoes to take your dog for a walk around the block twice a day, you probably won’t go out and buy ski boots.  The same idea applies when investing.

 

4 Telltale Signs You’re in the Wrong Investments:

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What No One is Telling You

What No One Is Telling You About Long Term Disability

When someone mentions the word insurance, most of us think of one of three things:

  1. Aaron Rodgers doing a discount double check
  2. The GEICO Gecko using his British accent
  3. The coverage we carry on our cars, our home, our health, or our life

What most of us don’t think of is our long term disability coverage.

Since tangible assets like our cars and homes are easy to visualize, they’re often top of mind when it comes to insurance protection.

But what about the risk that we get sick or injured, and can’t work?

Long term disability insurance is meant to replace our income if this happens.  And coincidentally, our ability to earn a living is probably our biggest and most overlooked asset.

 

Earnings Capacity

Let’s take a moment to think about your ability to earn a living.  Just imagine for a moment what your lifetime earnings will look like.

Your lifetime earnings includes every single paycheck you earn throughout your entire career.  It counts every single raise, every single promotion, and every single bonus.

When you add them all together you’ll get a massive number.  It will be far bigger than the value of your home, your car, and probably your retirement nest egg.

Your ability to go out into the work force and earn this money is your earnings capacity.

 

Now Imagine It’s Gone

Many people consider the possibility that they die, and the impact that would have on their family.  But what if you were hurt or sick and unable to work?

Your family would be left with monthly expenses like a mortgage, utilities, and grocery bills.   They’d also be left without your steady paychecks to afford them.

Plus there’s a chance you might need additional help from a caretaker if you’re permanently disabled.  The end result?  Higher expenses, lower income.

 

It’s More Likely Than You Think

If you’re thinking “that’ll never happen to me,” the statistics would disagree with you.

The social security administration says that 1 in 4 of today’s 20 year-old’s will become disabled for some period of time before they retire.

And if you’re under 45, the chances that you become disabled are far, far greater than the chances that you die.

 

Let’s Think About This

  1. Our earnings capacity is our biggest and most important asset
  2. Becoming disabled is far more likely than we realize
  3. Losing our earnings capacity could cause our family severe hardship

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How to Calculate Solo 401k Contribution Limits

How To Calculate Solo 401k Contribution Limits

Whatever you want to call it: solo 401k, solo-k, uni-k, or one-participant-k,  the retirement plan is one of my very favorite for small business owners.  Solo 401k plans are easy to set up, low cost, and easy to maintain.  But despite the benefits, solo 401k contribution limits and the plan’s other intricacies can be murky.

 

When Can You Contribute To A Solo-401(k)?

 

The solo 401(k) is just what the name implies – a 401(k) plan for business owners without employees.

While most often utilized by sole proprietors and single member LLCs, solo 401(k)s can also be used in partnerships, multi member LLCs, S-corporations, and C-corporations as long as there are no qualifying employees.

Basically, you can make contributions in any year that you report income from self-employment on your tax return.  This can come in several forms:

  • Schedule C income from a sole proprietorship or single member LLC
  • W-2 compensation from an S-Corp or C-Corp
  • K-1 income attributable to self employment earnings, from a partnership or multi member LLC

 

Solo = No Eligible Employees

 

Not only must you have self employment income, but you can’t have any eligible employees.  This is where many business owners get tripped up, because the definition of an eligible employee can seem a bit murky.

Basically, the solo 401(k) is not much different than the traditional 401(k).  Solo 401(k) plans must have a plan document that describes how the plan is to be operated, just like traditional 401(k) plans.  Additionally, all 401(k) plans must be fair & equitable to all participants, and not discriminate in favor of highly compensated employees (or against non-highly compensated employees).

Solo 401(k) plans are no different.  They all have plan documents that must be followed, but since there are no other participants in a solo 401(k), there is no one to discriminate against.

From an administration standpoint this is great for business owners. Making sure that a traditional 401(k) is compliant requires non-discrimination testing each and every year, which can be onerous and expensive.  No employees = no testing required.
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