TRANSCRIPT:
Many run their own business in pursuit of higher income, but don’t consider how running a business affects your retirement. Let’s talk more specifically about an S-Corp and how that affects your retirement.
Hi, I’m Hunter Brockway, founder of Boca Retirement Strategies, here to guide you to a successful, stress-free retirement while helping you spend wisely and avoid excessive taxes. Although pensions are long gone, when you are a W-2 worker, for the most part, you have your retirement options laid out in front of you. Your employer deducts 6.2% of your paycheck and contributes it to Social Security. Your employer also pays another 6.2% towards Social Security for you. They often have an established 401(k) plan or other retirement options that you can sign up for, hopefully with generous employer contributions. However, all of this changes when you set up your own S-Corp.
So, how does owning an S-Corporation affect your Social Security? As mentioned, Social Security is taxed with 6.2% from you and 6.2% from your employer. When you retire, your Social Security benefit is calculated based on your 35 highest earning years, with the highest income threshold currently set at $168,600 per year.
The major appeal of electing an S-Corporation is how much you pay yourself. Of course, everyone should pay themselves a fair and reasonable salary in accordance with the IRS, right? So, let’s assume that fair and reasonable salary is below the $168,000 threshold. This means your future Social Security benefit will not track towards the highest possible benefit. Additionally, if in some years the business isn’t performing well and you decide to take zero dollars in salary to keep it afloat, that year’s Social Security benefit will be calculated as zero. Conversely, if your business performs exceptionally well and you pay yourself $500,000 per year for 25 years, your Social Security benefit will be calculated at $168,600 for 25 years and $0 for 10 years. Keep in mind that the first dollars taxed by Social Security are worth more than the last dollars of the threshold, so it could be advantageous to earn some income.
While electing an S-Corp can help control your taxable income, it also affects your future Social Security benefit. For those looking to save more, a popular retirement plan option for small businesses is the Simple IRA. There are currently pre-tax and soon-to-be after-tax options available. The Simple IRA contribution limit is $16,000 per year, which generally increases annually to keep up with inflation. With some quick compound interest math, saving and investing $16,000 per year, not including increases to contributions, could potentially accrue $2 million over a 30-year working span. This would allow for safe withdrawals of about $110,000 annually, depending on taxes and other factors before considering Social Security benefits and other retirement dollars.
Small business owners also have the option to open SEP accounts, 401(k)s, or solo 401(k)s, which offer higher contribution amounts. Alternatively, you could open traditional or Roth IRAs. You can also check out our other video, which dives deeper into small business retirement planning options to find the best fit for you.
The most important lesson is that you should not rely solely on your business as your retirement strategy. Too often, people view their business as their baby and value it much higher than the market is willing to pay. Additionally, preparing your business for sale and actually selling it can take time, sometimes years.
So, take action:
- Social Security planning might be the last thing on your mind while growing your business, but the current max Social Security benefit is worth over $1 million if you claim at 70 and live to 90 or beyond. This is not something to leave on the table.
- Consider a retirement plan that fits your small business.
- Subscribe to our YouTube channel.
I’m Hunter Brockway, founder of Boca Retirement Strategies. If you have any financial questions, feel free to reach out at contact@bocaretirement.com. Enjoy your successful retirement, and thank you for watching.
