As a self-employed worker or small business owner, your list of responsibilities never ends. Managing your taxes, training new hires and scaling your business can be time-consuming – but what about saving for retirement? Entrepreneurs can aim for comfort and relaxation in their golden years, although the path forward might be more complex. Here are the ways to save for retirement if you’re self-employed. If you need additional help saving and planning for retirement, consider working with a financial advisor.
Retirement Plans for the Self-Employed
Self-employment doesn’t mean you can’t save for retirement in a variety of ways. Specifically, the following options are available:
Traditional and Roth IRAs
Individual retirement accounts (IRAs) offer flexibility and accessibility. Anyone can open this account type, which comes in two varieties: traditional and Roth. The traditional IRA uses pre-tax dollars, meaning your contributions can lower your income tax burden during your career. Then, you’ll pay income taxes on withdrawals during retirement.
On the other hand, Roth IRAs use after-tax dollars, meaning the government takes its cut from your pay before you contribute to your plan. This way, your withdrawals in retirement are tax-free.
Therefore, both types offer different tax advantages. So, you can pick the one that benefits your situation. Remember, withdrawing money from an IRA before age 59 ½ will trigger a 10% penalty on top of the income taxes.
Lastly, the primary drawback to IRAs is the low annual contribution limit. In 2023, you can contribute $6,500 per year to your account or $7,500 if you’re 50 or older.
SEP IRA
A Simplified Employee Pension plan, or SEP IRA, allows you to deposit 25% of your earnings or $66,000 to a retirement plan, whichever is less. Like traditional IRA deposits, the limit can change every year.
Sole proprietors, partnerships, C-corporations, and S-corporations can open a SEP IRA. If you have any employees, each must receive the same amount in their SEP IRA as the owner, but making contributions is solely your responsibility. Depending on your situation, you can deduct your contributions from your taxes.
SIMPLE IRA
Self-employed workers and small business owners can use a Savings Incentive Match Plan for Employees (SIMPLE) IRA. To qualify for this plan, each employee of the business and the owner must have received at least $5,000 in compensation for the last two years.
If you have employees, you’ll also have to contribute at least 2% of their pay or 3% matching contributions to their individual accounts. You can contribute up to $15,500 annually to this plan, plus another $3,500 if you’re 50 or older.
Self-Employed 401(k)
Also called a solo 401(k) or one-participant 401(k), this plan allows business owners with no employees to create a 401(k) for themselves. The exception is if you have a spouse who works for the business; they can also partake in the plan.
The perk of this retirement savings vehicle is you can contribute twice. Specifically, you can contribute as an employee and once more as an employer. As the employee, you’ll follow federal guidelines for contributions, meaning you can deposit $22,500 to the account in 2023 or $30,000 if you’re 50 or older. Your contribution can be of the Roth or traditional variety.
Then, as the employer, you can make pre-tax contributions of 25% of your eligible compensation. The IRS online calculation tools or a tax professional can help you determine this number.
How Much Should You Save for Retirement?
While there is no universal target number for retirement savings, you can use a standard that fits your situation. For example, you could follow the 4% rule, which allows you to withdraw 4% of your holdings in your first year of retirement and then adjust subsequent withdrawals for inflation. For example, a $2 million portfolio would allow you to withdraw $80,000 in your first year of retirement.
Conversely, you could use the age milestones most retirement professionals recommend. Specifically, you’d want to save an amount equal to your salary by age 30. Next, you’d want your retirement account to contain three times your annual salary by 40. Then, at age 50, your account would have six times your salary, and finally 10 times your salary at your chosen retirement age.
How to Boost Your Savings When You’re Self-Employed
Whether you’re launching a startup or have owned a business for 15 years, saving for retirement can be a challenge. These strategies can help you boost your savings.
Don’t Put Off Saving
The best approach you can take to save for retirement is to start as soon as possible. If you start saving for retirement in your 20s, you’ll better your chances of retiring with enough money. However, it’s not too late to get going if you’re already in your 40s. The sooner you start depositing money into a retirement account, the sooner you can reinvest your returns and reap the benefits of compound interest.
Use Catch-Up Contributions
On that note, if you get a late start, you can also take advantage of the catch-up contributions mentioned earlier. At age 50 and up, you can contribute an extra $7,500 to a 401(k) and $1,000 to an IRA. While it won’t have the same benefit as starting a retirement fund decades earlier, it can help make up for lost time.
Automate Your Savings
It can be helpful if saving for retirement is a choice you only have to make once instead of every month. Fortunately, you can automate your savings, meaning you set your bank account to deposit a specific amount into your retirement account monthly. This way, your retirement contribution occurs regularly without requiring active management, and you’ll never miss a contribution.
Tighten Your Budget
If saving for retirement doesn’t seem realistic, it’s a good idea to examine your spending habits and create a budget. First, review your bank and credit card statements from the past couple of months to understand where your money is going. Then, you can reduce unnecessary spending and allocate more for retirement savings. For example, cutting your streaming subscriptions in half and eating home-cooked dinners may free up $100 in your budget that you can allocate to retirement savings.
Set a Goal
If staying motivated to save is challenging, having a goal to shoot for can help. Your goal can be whatever fits your situation, whether it’s an annual savings goal or a specific amount by a specific age. The feeling of making progress is encouraging and can help you maintain your pace throughout the year.
Delay Retirement
Every year you work is another year of income. As a result, postponing your retirement by a year or two can help you accumulate more in your retirement account. Plus, you’ll boost your Social Security income by 8% each year you delay it up until age 70.
Bottom Line
Self-employment throws all kinds of curveballs at you, but saving for retirement doesn’t need to be one of them. IRA plans and 401(k)s are available for those who run businesses or work for themselves. So, you can get started with a retirement account today.
In addition, you can increase your savings by starting as soon as possible, automating your savings, and using catch-up contributions. Whether you’re starting a company out of your garage or are a seasoned business owner, saving for retirement is an achievable goal.
Tips for Saving for Retirement When Self-Employed
- Your financial circumstances are as unique as your business. Fortunately, a financial advisor can optimize your tax situation, retirement savings and monthly budget. Finding a qualified financial advisor doesn’t have to be hard. SmartAsset’s free tool matches you with up to three vetted financial advisors who serve your area, and you can interview your advisor matches at no cost to decide which one is right for you. If you’re ready to find an advisor who can help you achieve your financial goals, get started now.
- If a solo 401(k) sounds appealing, it’s best to first understand the details of these accounts before committing to the plan.
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