Smart retirement investments for small business owners
By Bailey McCann, Funding Gates
If you run a small business, retirement can be tricky. You can’t exactly just tell the HR department to pull 10 percent out and put it in the company 401(k). However, there are several options for small business owners and independent contractors.
Even though the current economic environment is punishing savers with extraordinarily low interest rates, it is critical to start building a nest egg as soon as possible. Interest rates are expected to go up in the next one to two years, at which time you should start to see more noticeable appreciations in your principle.
Anyone can open a Roth IRA account, which makes it a good, conservative vehicle for small business owners starting out with retirement savings. Contributions to a Roth IRA are done on a post-tax basis, meaning that contributions made from your net take home pay will not draw income taxes. Most major banks and even some community banks have a Roth IRA option, but you can also work through a broker.
Once you have established a Roth IRA, you can withdraw money from the vehicle at any time. However, you will incur tax penalties upon withdrawal if you do so before retirement age or for other personal expenses. Working with a tax advisor can help you ensure that, if you do need to take money out, you can find the most tax efficient option.
Bonds have long been a go-to source for conservative investors as you are guaranteed the face value of the bond at maturity regardless of how the interest value fluctuates. This provides a nice backstop in low- to no-interest rate environments such as we have now. However, it can also be a hard sales case to make if you’re just getting back the $100 you put in but two years later.
Bonds come in several lengths of time. Two, ten and thirty-year bonds are most common, and they can be purchased through a broker. Adding duration can indicate that you think rates will rise over the longer term. Bonds are also often backed by federal or state governments, ensuring they will be repaid. Cashing them in before maturity can incur some fees and a potential loss of value; however, most of the principle usually remains intact.
If you hold on to the bond until maturity, you’ll get the yield adjusted for inflation. Essentially, if that initial $100 has increased in value through a rise in rates, you might come away with $105 or $115 depending on duration and rate rises over time. Bonds have always been a safe investment for cautious investors; however, they do require time to mature. If you are close to retirement, they may not be as advantageous as equities for drumming up fast cash.
Mutual funds, which are available to most investors, typically require a relationship with a broker or an e-Trade account if you’re particularly investment savvy. Most initial investments are $1,000 to gain access to the fund. From there, your money goes into a variety of investments in equities made by the fund manager. The returns on this investment are spread over the pool, less the manager’s commission and any brokerage or trading account fees. Typically, mutual funds return around 3 percent over the principle.
Mutual funds come with considerably more risk than a Roth IRA or Bonds, specifically because you can also lose the entire value of the original investment. Investments in equities are not guaranteed by any outside body, and the FDIC insurance common to your checking account is also not available. So, going in, you have to be prepared to come out with nothing or almost nothing. Survivors of 2008 may already know what this looks like.
There are new mutual funds on the market that offer hedged approaches, which mean they can go with both long and short equities in an effort to mitigate some of the downside risk if markets go negative. Previously, mutual funds were only looking for upside. Mutual funds typically offer a prospectus that gives the rundown of their invested positions and approach. You can often find this on the fund’s website.
If you’re willing to put in the time and effort to self-direct your equity investments, there are a number of options. This requires setting up a trading account at e-Trade, Scottrade or any of the myriad trading shops mostly online. If your net worth is under $1 million, you’ll have to invest as a retail investor, meaning that Exchange Traded Funds (ETFs), iShares or buying small share blocks will be the options open to you.
Self-Directed Investing has the greatest risk to principle and also requires the most time in terms of research and understanding how investments are made. However, it is the only way to ensure you’re invested in exactly the types of things you want to be invested in versus a mutual fund, which doesn’t customize. You may lose all the money you put in, or you may see a sizeable return without the additional commission fees common to mutual funds.
Self-Directed Investing has been growing in popularity since these options first emerged in the 1990s, and trading shops online do offer more research into equities for retail investors than ever before. It is a viable, if time-consuming option for investors that want more control. A number of these trading accounts will let you practice first, with play money and then contribute. Accounts typically require minimum opening balances of $1,000 or more, with no guarantees you’ll get any of it back.
Bailey McCann is a writer for Funding Gates, the accounts receivable software for small businesses that allows them to track, organize and manage open invoices all with simple clicks. Bailey enjoys writing on business, finance and technology. She regularly covers topics of interest to entrepreneurs, investors and fund managers.