By Peter C. Thoms, CFA
Many freelance doctors who earn high income from self-employment are eligible to make very large annual, tax-deductible contributions to an IRS-approved retirement plan called a defined benefit plan. In many cases, they can contribute $100,000 or more annually—and thereby save $40,000+ in taxes every year while rapidly building a large retirement nest egg.
Or, said another way, doctors who are eligible for a defined benefit plan but do not move to establish one before the December 31 deadline may needlessly pay $40,000 or more in 2016 taxes.
When we first start going into the details of defined benefit (DB) plans with people who are good candidates for them (individuals who have high income from self-employment), we often run into some skepticism. How, they ask, can it possibly be legal to make a $100,000+ tax-deductible contribution to a retirement plan and thereby save up to $40,000 in taxes annually?
Well, it is possible and it is legal, and individuals with high income from self-employment would be wise to familiarize themselves with the potent tax advantages that DB plans offer. In fact, people that are good candidates for DB plans but that are not currently contributing to one are probably paying tens of thousands of dollars more in tax each year that they need to.
It is true there is not that much information out there about DB plans. Perhaps the main reason is that they are not suitable for 98% of the population. For financial writers, it is far easier to generate interest from an article on a topic such as a 401(k) or SEP-IRA, which are relevant to a broad swath of the population. Why write on a topic as esoteric and specialized (and boring sounding) as a defined benefit plan?
Defined benefit plans have been around for decades, however, and are IRS-approved. In many ways, they are like an Individual 401(k) Plan on steroids. They are perhaps the most powerful financial tool for high-earning self-employed individuals looking to both save on taxes and to rapidly build a large retirement nest egg. If you are one of the lucky 2% of the population that can take advantage of a DB plan, you should give it serious consideration.
There are a couple of things about DB plans you should know at the outset. First, because each DB plan is created specifically for a certain person’s circumstances, it costs money to set up and to administer. There is simply more paperwork involved than with an Individual 401(k) or SEP-IRA. Also, DB plans are more of a commitment than 401(k)s or SEP-IRAs, both of which do not require annual contributions. The drawbacks of DB plans, however, pale in comparison to the significant tax savings they can enable.
Is a defined benefit plan right for you? We only need a few pieces of information about your situation to generate a complimentary tax-savings proposal for you. There is no cost to you for this service and no obligation whatsoever. If you do find that a DB plan works for your situation, you will have to move quickly if you want to save on your 2016 tax bill. Plans must be established by December 31 of the year for which contributions are made. However, it takes time to create the plan documents, and pension administrators are incredibly busy in the last couple of months of the year. Thus, it is best to begin the process of establishing your plan no later than November 1st.
If you provide us with just a few pieces of information listed below, we will get back to you in 48 hours with a preliminary proposal that will outline how much in tax you could save each year by establishing and contributing to a defined benefit plan.
- Business Entity Type (e.g. S-Corp, sole prop., LLC)
- Owner’s Annual Income
- Date Business Started
- Owner’s Age
- Number of Employees
Visit us at www.LocumTenensTaxStrategy.com to learn more.
About the author: Peter Thoms is the founder and portfolio manager of investment management firm Orion Portfolios (www.orionportfolios.com), which manages retirement and non-retirement accounts for individuals, corporations, and foundations.