When it comes to retirement savings, many self-employed folks feel a little worried. After all, they can’t just open a 401(k) retirement account through their employer. One of my readers was quite worried about his future retirement, and wondered what he could as a self-employed entreprenuer. Here are two great options for self-employed retirement acccounts (and you can even do both, if you wish!): the SEP and the IRA.
Simplified Employee Pension (SEP) retirement plan
A SEP retirement plan is one that you can set up as a self-employed individual. It has a few great advantages even over the 401(k). The annual contribution you can make to your SEP plan is much higher, and you can deduct your contributions from your taxes. This is a real boon for many self-employed individuals who know the bite taxes can take out of earnings when there is no employer to help offset the cost. Your SEP account will grow tax-deferred, meaning you don’t pay taxes on your retirement account earnings until you withdraw it. While this can be nice, you should take care to ensure that you will be able to pay taxes on what you take out in the future.
Individual Retirement Account (IRA)
Anyone who pays taxes can open an IRA savings account. You should note that the maximum annual contribution to an IRA is lower than the contribution for a SEP. But the good news is that you can have both. When getting involved in their retirement planning, some self-employed individuals open a SEP, contribute the maximum, and then also open an IRA so that they can contribute more. When you do this, it is important to keep your records separate, so that your tax information is more easily divined. There are two types of IRA: traditional and Roth.
Traditional IRA. A traditional IRA is one in which you can take a tax deduction. Your retirement earnings then grow tax-deferred until you take the money out.
Roth IRA. With a Roth IRA, you take no tax deduction. You pay your taxes on your earnings from your business first, and then contribute. The upside to this arrangement is that the retirement earnings in your Roth IRA grow tax-free. Which means you don’t have to pay taxes on your distributions from the account. Many people find this option more desirable, as taxes won’t be a concern during retirement as far as the Roth IRA is concerned.
It is important to note that there are income restrictions on IRAs. If you make more than a certain amount of money, you cannot contribute.
Retirement planning is an important part of your overall financial planning. It is important for you to plan for your future so that you can meet your financial goals. For the self-employed, it is especially important to plan for retirement carefully. There are no matching contributions from an employer, so you miss out on that “free money.” And while most people feel that being their own boss is worth that sacrifice, it is important to realize that it might mean better retirement planning.