8 Retirement Savings Concepts Small Business Owners Must Know
As a small business owner, you're accustomed to juggling multiple responsibilities—from day-to-day operations to long-term growth strategies. Amidst these competing demands, retirement planning can easily fall by the wayside, yet it's one of the most critical components of your financial security. Your retirement portfolio isn't just about stocks and bonds; it also includes real estate and perhaps your most significant investment—your business equity. Balancing investments in retirement accounts with ongoing reinvestments in your business is essential for achieving tax flexibility and financial freedom when you approach retirement.
Understanding how to strategically use retirement accounts like 401(k)s, Solo 401(k)s, SEP IRAs, Traditional IRAs, and Roth IRAs can help you lower your current taxes, increase your financial control, and maximize the benefits available as you near retirement.
In this article, you'll learn:
The Immediate Impact of Retirement Savings
Roth Conversions as a Strategic Tax Tool
Mega Backdoor Roth Conversions
Avoiding Probate with Proper Beneficiary Designations
Protecting Assets with ERISA
Risks of Borrowing from Retirement Accounts
Retirement Savings and Medicare or AMT Implications
Choosing Between Roth and Traditional Retirement Accounts
1. The Immediate Impact of Retirement Savings
Contributing to retirement plans, such as a Traditional 401(k) or Simplified Employee Pension (SEP) IRA, is essential for securing your financial future, but these contributions also provide significant immediate tax benefits. When you contribute to a Traditional 401(k), your contributions are made with pre-tax dollars. This means that the amount you contribute is excluded from your current taxable income, effectively lowering your tax liability for that year. However, it's important to understand that while these savings offer immediate relief, you will eventually pay taxes on this money when you withdraw it during retirement.
Key Definitions:
Traditional 401(k): A retirement savings plan sponsored by employers that allows workers to contribute pre-tax dollars, reducing current taxable income.
SEP IRA: Simplified Employee Pension Individual Retirement Account, designed primarily for self-employed individuals and small business owners, offering higher contribution limits compared to traditional IRAs.
Example:
Consider Mike Brady, an architect and owner of Brady Architecture, LLC. Mike earns $230,000 annually and, after reviewing his retirement strategy in 2025, decides to contribute the maximum employee deferral allowed into his Traditional 401(k), which is $23,500 in 2025. Because Mike's contribution is made pre-tax, his taxable income is reduced from $230,000 to $206,500 for the year.
By making this strategic move, Mike not only reduces his current year's tax bill but positions himself to have a nest egg that is using compound growth to use in retirement if invested properly. For instance, Mike is currently in the 24% federal tax bracket for 2025, which applies to taxable income between $206,701 and $394,600 for married filing joint tax payers. By contributing the maximum to his Traditional 401(k), he lowers his taxable income down into the 22% bracket, thereby reducing his immediate tax burden.
Now, imagine Greg Brady, Mike's son, who also owns a small business but chooses not to contribute to his retirement plan. Greg is also married filing jointly and earns $230,000 annually but decides to keep all earnings taxable. As a result, Greg remains at the higher end of the 24% tax bracket, missing out on immediate tax savings and potentially paying higher taxes on his income.
Fast forward to retirement: Mike, who strategically contributed to his Traditional 401(k), has a nest egg in retirement savings and equity in his small business which if done properly can be used to create a flexible retirement income plan. This deliberate approach offers Mike greater retirement income control and potentially significant tax savings during his retirement years.
Greg, on the other hand, having not contributed pre-tax to his retirement accounts, may find himself with fewer options to control taxable income in retirement.
2. A Delayed Impact: Roth Conversions—The Smart Tax Move Many Business Owners Overlook
One retirement planning tool frequently overlooked by small business owners is the Roth conversion. A Roth conversion involves moving funds from a Traditional IRA or a 401(k) into a Roth IRA. While this strategy requires paying taxes immediately on the converted amount, it can significantly benefit you in the long run, providing potential tax-free growth of investments over time and tax-free withdrawals during retirement. Utilizing this approach during years when your income is temporarily lower—such as during business downturns, sabbaticals, or early retirement before RMDs and social security payments—can be particularly advantageous. By strategically timing conversions, you effectively manage your taxable income, positioning yourself to potentially fall into lower tax brackets in retirement.
Key Definitions:
Roth IRA: An Individual Retirement Account allowing contributions with after-tax dollars, resulting in tax-free growth and withdrawals during retirement.
Traditional IRA: A retirement account that allows contributions on a pre-tax basis, reducing your current taxable income, with taxes deferred until withdrawal.
Roth Conversion: Transferring money from a Traditional IRA or 401(k) into a Roth IRA, incurring immediate tax liability but gaining future tax-free growth and withdrawals.
Required Minimum Distributions (RMDs): Minimum amounts the IRS requires you to withdraw annually from certain retirement accounts after reaching age 73 (as of 2025).
Example:
Consider Carol Brady, who runs a successful interior design firm. Typically, Carol earns around $400,000 annually, placing her in the 32% married filing jointly tax bracket. However, due to a temporary economic downturn, Carol's business income drops significantly, lowering her annual earnings to approximately $90,000. This reduction in income presents an ideal opportunity for a Roth conversion.
Recognizing the advantage, Carol decides to convert $50,000 from her Traditional IRA to a Roth IRA. The $50,000 conversion is added to her income (assuming Mr. Brady doesn’t earn an income) totaling $140,000. Which puts her in the 22% bracket. By converting during a low-income year, Carol pays taxes on the converted amount at her temporarily reduced rate, thus securing future tax-free withdrawals when her income rebounds and potentially increases further.
Alternatively, Jan Brady, Carol's stepdaughter, who also runs her own small business, overlooks the Roth conversion strategy. Despite facing a similar downturn, Jan opts to keep her money in a Traditional IRA. When her business recovers and her income returns to higher levels, Jan remains at a higher tax rate for future withdrawals, potentially paying more taxes in retirement compared to Carol.
Bonus Estate Planning Tip: Roth IRAs also provide substantial estate planning benefits. Unlike Traditional IRAs, Roth IRAs do not have Required Minimum Distributions (RMDs) during the original account owner's lifetime, allowing funds to grow tax-free indefinitely. Additionally, heirs inheriting a Roth IRA receive these assets completely tax-free, whereas Traditional IRAs, under the SECURE Act, require non-spouse beneficiaries to withdraw all funds within ten years, potentially incurring substantial taxes.
3. Mega Backdoor Roth Conversions: Supercharge Retirement Savings
For high-income small business owners looking to significantly boost their retirement savings, the Mega Backdoor Roth strategy offers a powerful solution. This advanced technique enables you to contribute additional after-tax dollars beyond the standard employee deferral limits into your 401(k), which can then be quickly converted into a Roth IRA or Roth 401(k). By doing this, you ensure your retirement savings grow tax-free, providing substantial tax-free income in your retirement years.
This strategy is attractive to high-income earners because there is an income phase out on Roth IRAs starting at $165,000 for single filers and $246,000 for married filing jointly taxpayers. If you are above those ranges, then this would be one of the few ways to save after-tax/ Roth money.
Notes!
You must check with your retirement plan sponsor to see if your plan offers the after-tax contribution option. Also, if you plan does not have a Roth 401(k) option then the plan must allow for in-service withdraws so the money can be moved to an external Roth IRA.
The total contribution limit per plan account is $70,000 for savers under 50, $77,500 if age 50 to 59, and $81,250 for those age 60 to 63. This includes traditional, Roth, after-tax, and employer contributions.
For example, if you are 35 years old and defer $23,500 in 2025, your employer/you match is $10,500, you have $36,000 available to contribute and convert after-tax. ($70,000 - $23,500 - $10,500 = $36,000)
Be aware that this will increase your taxable income for the year you convert. You must make sure this makes sense for you overall tax plan. The cost of this transaction is meant to save you more money in the future. If you’re in a high tax bracket now, this may not be the best strategy for you.
Key Definitions:
Mega Backdoor Roth Conversion: An advanced retirement strategy allowing after-tax contributions to a 401(k), immediately followed by converting those funds into a Roth IRA or Roth 401(k).
Roth 401(k): Similar to a traditional 401(k) but funded with after-tax dollars, allowing for tax-free growth and withdrawals.
Example:
Marcia Brady owns a successful boutique marketing agency, earning a significant annual income. In 2025, Marcia maximizes her Traditional 401(k) contributions with the employee deferral limit of $23,500. However, her Solo 401(k) plan also permits additional after-tax contributions, allowing her to take full advantage of the combined total contribution limit of $70,000 for 2025.
Seizing this opportunity, Marcia contributes an additional $46,500 in after-tax dollars to her Solo 401(k). Immediately following her contribution, Marcia converts the entire after-tax amount into a Roth 401(k), effectively executing the Mega Backdoor Roth conversion. This strategic move ensures that her retirement funds will grow tax-free, enabling Marcia to enjoy substantial tax-free withdrawals in retirement.
Let's contrast Marcia's scenario with her brother, Peter Brady, who also owns a small consulting firm but remains unaware of the Mega Backdoor Roth strategy. Peter only contributes the standard employee deferral of $23,500, missing the opportunity to further enhance his retirement savings through after-tax contributions. Because of this, Peter loses out on substantial tax-free growth opportunities, potentially forcing him to rely on higher taxable income sources and losing income control in retirement. Consequently, Peter could remain in higher tax brackets, paying more taxes over time.
In contrast, Marcia’s proactive strategy positions her to carefully manage retirement withdrawals from various tax-efficient sources, effectively keeping her taxable income lower during retirement. This flexibility allows Marcia to potentially drop into lower tax brackets in retirement, significantly enhancing her overall financial efficiency.
Understanding and utilizing the Mega Backdoor Roth strategy can therefore offer significant long-term financial benefits for high-income small business owners. Leveraging this approach can dramatically increase your retirement security, flexibility, and financial independence.
4. Bypassing Probate with Beneficiary Designations
Beneficiary designations on retirement accounts like a 401(k), Solo 401(k), SEP IRA, Traditional IRA, or Roth IRA allow your assets to bypass probate—the court-supervised process of validating a will and distributing assets. Properly naming beneficiaries ensures your retirement savings pass directly to your heirs, avoiding probate's lengthy process, legal costs, and lack of privacy.
Key Definitions:
Probate: The legal process used to validate a deceased individual's will and oversee the distribution of their assets.
Beneficiary Designation: The act of naming individuals who will directly receive retirement account assets upon your death.
Example:
Mike Brady designates his oldest daughter, Marcia, as the primary beneficiary of his Solo 401(k). Upon Mike’s passing, Marcia immediately receives the retirement assets, avoiding probate entirely. In contrast, Mike’s brother-in-law, Sam, who neglected beneficiary designations, unintentionally subjects his assets to probate, causing delays, public exposure, and increased legal expenses.
5. ERISA Protection: Safeguarding Retirement Assets
The Employee Retirement Income Security Act (ERISA) provides substantial creditor protection for retirement plans, including employer-sponsored plans like 401(k)s, Solo 401(k)s, pension plans, and certain other qualified retirement plans. These protections are critical for safeguarding your hard-earned retirement savings against potential claims from creditors, lawsuits, or bankruptcy. ERISA's robust protection ensures that even during challenging financial periods, your retirement assets remain secure and intact.
However, it's crucial to recognize that not all retirement accounts benefit equally from ERISA's protections. Individual Retirement Accounts (IRAs), including Traditional and Roth IRAs, are notably less shielded from creditors and bankruptcy proceedings. Instead, their level of protection typically depends on state laws, which can vary significantly. This makes it essential to understand your specific state's protections and potentially adjust your retirement savings strategies accordingly.
Key Definitions:
ERISA (Employee Retirement Income Security Act): A federal law enacted in 1974 that provides protection and regulatory oversight for employer-sponsored retirement plans, safeguarding plan participants against creditor claims and bankruptcy proceedings.
Creditor Protection: Legal provisions that protect specific assets, including certain retirement accounts, from being claimed by creditors or seized during bankruptcy or litigation.
Example:
Carol Brady owns a successful interior design firm that recently experienced significant financial difficulties due to an economic downturn. Despite her business struggles, Carol has peace of mind knowing her retirement savings are safely protected within her company 401(k)—an ERISA-covered plan. This means her retirement funds cannot be targeted by creditors or included in bankruptcy proceedings, allowing her to maintain financial stability for her future.
Conversely, Carol's sister, Aunt Jenny, who exclusively contributed to Traditional IRA accounts, faces a different scenario. Due to state-specific laws, Jenny's IRAs provide weaker protections against creditors. When Jenny faces similar financial difficulties, her retirement savings become vulnerable, exposing her to potential losses from creditors' claims and reducing her overall financial security.
Understanding these distinctions can help small business owners strategically choose retirement vehicles that offer the strongest protections based on their financial risk profile and location.
For more detailed information about ERISA protections and retirement planning strategies, visit the U.S. Department of Labor's website at https://www.dol.gov/general/topic/retirement/erisa
6. Loans from 401(k) During Hardship
Many retirement plans like Solo 401(k)s allow participants to borrow from their account during financial hardships. While this can provide necessary funds during urgent situations, it is critical to fully understand the mechanics, repayment obligations, and potential consequences involved.
When taking a 401(k) loan, you can typically borrow up to 50% of your vested account balance or $50,000, whichever is less. The loan repayment period is generally five years, though longer terms may apply for loans used to purchase a primary residence. Importantly, you are required to repay the borrowed amount with interest, which is credited back into your own retirement account rather than paid to a third-party lender. This means the interest payments effectively become part of your retirement savings, helping offset some opportunity cost from the temporarily withdrawn funds.
However, careful attention must be given to repayment terms. Missing scheduled repayments can lead to serious financial consequences. If repayments are not made as agreed, the outstanding loan balance will be considered a distribution from the 401(k). As a distribution, the unpaid amount becomes immediately taxable as ordinary income, and if you are under age 59½, an additional 10% early withdrawal penalty applies. These taxes and penalties can significantly reduce your overall retirement savings and hinder your long-term financial security.
Key Definitions:
401(k) Loan: A loan allowing participants to borrow funds from their own retirement savings, typically limited to 50% of the vested balance or $50,000.
Hardship Withdrawal: Accessing retirement account funds due to severe financial hardship, typically involving taxes and potential penalties.
Vested Balance: The portion of your retirement account that you fully own and is available for borrowing or withdrawal.
Example:
Peter Brady, the owner of a small construction company, encounters unexpected medical expenses. To cover this immediate financial hardship, he borrows $20,000 from his Solo 401(k). Peter agrees to repay the loan within five years, including interest, with repayments deducted directly from his checking account and reinvested into his retirement savings. By diligently making his payments on time, Peter successfully avoids penalties and taxes, maintaining his financial stability.
In contrast, Bobby Brady, Peter's brother, also borrows from his Solo 401(k) to cover similar expenses. Unfortunately, Bobby falls behind on repayments. As a result, the unpaid balance is treated as a distribution, incurring substantial income taxes and a 10% early withdrawal penalty due to his age being under 59½. These financial penalties significantly diminish Bobby’s retirement savings, negatively affecting his long-term financial goals and security.
Understanding these critical details and carefully managing repayment schedules can help ensure that borrowing from your 401(k) during hardship does not compromise your retirement goals.
For additional information regarding 401(k) loans and IRS rules, visit: https://www.irs.gov/retirement-plans/plan-participant-employee/retirement-topics-loans
7. How Retirement Savings Affect Medicare & AMT
Withdrawals from retirement accounts significantly impact your overall tax burden by influencing Medicare premiums through Income-Related Monthly Adjustment Amounts (IRMAA) and potentially triggering the Alternative Minimum Tax (AMT). Proper tax planning and strategic withdrawal strategies can help you avoid or minimize these higher tax liabilities.
IRMAA represents additional Medicare premium charges applied when your modified adjusted gross income (MAGI) surpasses certain thresholds. For high earners, IRMAA surcharges can be substantial—in 2025, the maximum surcharge for Medicare Part B is as high as $443.90 per month, with Part D reaching a maximum surcharge of $85.80 per month. These additional monthly premiums significantly raise healthcare expenses in retirement.
The AMT, on the other hand, is a parallel tax calculation designed to ensure individuals with high incomes pay at least a minimum amount of tax. Retirement account distributions, particularly from Traditional IRAs, SEP IRAs, and 401(k)s, can increase taxable income enough to trigger AMT, creating an unexpected tax burden.
Effective retirement planning includes using proper tax location strategies—meaning strategically deciding from which retirement income source accounts to withdraw and when. Utilizing accounts like Roth IRAs, where withdrawals are tax-free, can help you manage your taxable income carefully, potentially avoiding the higher income brackets associated with IRMAA and AMT.
Key Definitions:
IRMAA (Income-Related Monthly Adjustment Amount): Additional Medicare premiums charged when your income exceeds specific levels.
Alternative Minimum Tax (AMT): An alternate federal tax calculation ensuring higher-income individuals pay at least a minimum tax amount, potentially resulting in higher taxes.
Tax Location: The strategy of managing distributions from different account types (Traditional IRA, Roth IRA, taxable accounts) to minimize tax liabilities.
Modified Adjusted Gross Income (MAGI): Your adjusted gross income with specific tax deductions added back in, used by the IRS to determine eligibility for certain tax benefits and surcharges.
Example:
Greg Brady owned and sold a successful consulting firm and, upon reaching age 73, begins withdrawing his Required Minimum Distributions (RMDs) from a sizeable SEP IRA. These mandatory withdrawals significantly raise his MAGI, pushing him well beyond IRMAA thresholds. Consequently, Greg faces the maximum Medicare Part B surcharge of $443.90 monthly and an additional $85.80 monthly for Medicare Part D. Furthermore, Greg’s increased income also triggers the AMT, compounding his tax burden.
In contrast, Jan Brady strategically converted portions of her SEP IRA to a Roth IRA during lower-income years before retirement. Because Roth withdrawals are tax-free, Jan carefully manages her taxable income in retirement, staying below the thresholds triggering IRMAA surcharges and AMT. By thoughtfully planning her tax location, Jan significantly reduces her overall retirement expenses and enjoys greater financial flexibility.
For more detailed information on Medicare premium adjustments and AMT implications, visit https://secure.ssa.gov/poms.nsf/lnx/0601101020 and https://www.irs.gov/taxtopics/tc556
8. Roth vs. Traditional: Reasons to Choose One Over the Other
Choosing between Roth and Traditional retirement accounts involves carefully considering your current income level, expected future income, and anticipated tax brackets. Traditional retirement account contributions reduce your taxable income immediately, providing an instant tax advantage; however, withdrawals in retirement are taxed as ordinary income. Conversely, Roth contributions are made with after-tax dollars, offering the benefit of tax-free growth and tax-free withdrawals in retirement.
Predicting your future tax bracket can be challenging, but strategically managing your current taxable income can help maximize tax efficiency. Small business owners often benefit from making Roth contributions early in their careers when income—and consequently, their tax rate—is lower. As their business and income grow, switching to Traditional retirement account contributions later in their careers can further optimize their tax savings by reducing their taxable income when they are in higher tax brackets.
Key Definitions:
Traditional IRA/401(k): Retirement accounts that offer immediate tax deductions on contributions, with taxable withdrawals during retirement.
Roth IRA/401(k): Retirement accounts funded with after-tax dollars, providing tax-free growth and tax-free withdrawals in retirement.
Example:
Consider Cindy Brady, who starts her small digital marketing business early in her career with modest earnings. At this point, Cindy is in a relatively low tax bracket, making it ideal for her to contribute to a Roth IRA or Roth 401(k). By paying taxes at her current lower rate, Cindy ensures future withdrawals will be completely tax-free, allowing her retirement savings to grow unhindered by future taxes.
As Cindy’s business grows over time, her annual earnings significantly increase, placing her in a higher tax bracket. To maximize tax efficiency, Cindy switches her contributions to a Traditional 401(k). These Traditional contributions immediately reduce her taxable income, helping her manage her higher tax liabilities effectively. During retirement, Cindy can strategically withdraw from both her Roth and Traditional accounts to control her taxable income, potentially lowering her overall tax rate in retirement.
In contrast, Greg Brady, who contributes exclusively to Traditional retirement accounts throughout his career, faces uncertainty around his future tax obligations, potentially missing opportunities to optimize his tax efficiency.
By proactively managing contributions between Roth and Traditional accounts based on current income and tax brackets, small business owners like Cindy can achieve greater flexibility and control over their retirement tax situation, significantly enhancing their financial security and planning capabilities.
Conclusion: The Hidden Benefits of Retirement Accounts
Retirement accounts are more than just investment vehicles for future financial security; they also play a crucial role in effective tax planning, estate management, asset protection, and personal privacy. Understanding the multifaceted benefits of these accounts empowers you to take strategic actions today that will positively influence your financial wellbeing far beyond your retirement years.
Beyond accumulating savings, retirement accounts offer tax flexibility, allowing you to control your taxable income strategically both now and in retirement. They significantly streamline estate planning, ensuring your assets transfer efficiently and privately to your heirs. Moreover, retirement plans protected by ERISA offer robust creditor protection, safeguarding your financial legacy even during economic downturns.
Additionally, retirement accounts can provide crucial financial flexibility through options like 401(k) loans during emergencies, carefully managed to avoid penalties and taxes. Proper planning around your retirement account withdrawals can also dramatically affect your healthcare expenses, protecting you from unexpected increases in Medicare premiums and potential AMT liabilities.
By leveraging these comprehensive benefits—tax efficiency, estate simplicity, asset protection, financial flexibility, and healthcare cost control—small business owners can achieve financial independence and security, setting themselves and their families up for a comfortable and prosperous future.
The information contained herein is intended to be used for educational purposes only and is not exhaustive. Diversification and/or any strategy that may be discussed does not guarantee against investment losses but are intended to help manage risk and return. If applicable, historical discussions and/or opinions are not predictive of future events. The content is presented in good faith and has been drawn from sources believed to be reliable. The content is not intended to be legal, tax or financial advice. Please consult a legal, tax or financial professional for information specific to your individual situation.
This content not reviewed by FINRA
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