Covid-19 has disrupted tax and retirement planning for small-business owners, especially those who focused on saving their businesses from the pandemic’s fallout earlier this year. With some hard work, however, there is still time to get back on track by Dec. 31.
Here’s a great example. After his business tanked this spring, one of my clients didn’t take a paycheck for six weeks. To preserve cash, he also lowered the amount of his federal and state withholding tax and stopped contributions to his company retirement plan. Fortunately, in the past few months, his business has largely rebounded. And to his own surprise, revenue for 2020 will be higher than what he projected at the beginning of the year.
Now that he’s flush with cash, he needs to make several pro-active adjustments, starting with his tax withholdings and retirement plan contributions. And because his profit sharing contribution is tied to his compensation, we are also adjusting his wages, making his pay retroactive to pre-pandemic levels so he can achieve the maximum benefit.
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Many small-business owners across the country are facing the same scenario. If you took similar steps this spring, there are some action steps to take between now and year-end.
First, increase your compensation, tax withholding and retirement plan contributions. Much like my client, start by restoring your wages and tax withholdings to their pre-pandemic levels. And work to evaluate your retirement plan savings.
If your business has recovered, there is still time to contribute before year-end. For 2020, the maximum contribution for 401(k) plan salary deferrals is $19,500, or $26,000 for those age 50 and over.
In my client’s case, he needs to contribute an extra $3,250 by year-end to make up for the months he stopped his deferrals. We simply took his remaining six pay periods and divided into $3,250 to get him caught up.