For many, self-employment is a dream come true. You get to set your own schedule and make your own rules, and you may even get to do something you love for a living. If you’re like most entrepreneurs, your self-employment is the result of years of hard work and planning.
While self-employment may be fulfilling, it can also create unique challenges, especially when it comes to retirement planning. You don’t get the benefit of an employer 401(k) or pension. You may face tough decisions about whether to save for retirement or reinvest in your business. You may face cash flow challenges that make it difficult to save.
The good news is, as a self-employed individual, you have options that aren’t available for traditional employees. In fact, you may be able to put large sums away on a tax-advantaged basis each year. Below are a few popular vehicles you can use to save for retirement:
The Solo 401(k) is much like traditional employer 401(k) plans, except it’s meant for one-employee companies. As the owner and employee, you make both the participant and employer contributions. That allows you to put a significant amount of money into the plan each year.
In 2018 you can put as much as $18,500 into the plan, or up to $24,500 if you’re age 50 or older. That’s the employee contributions portion. As the employer, you can also contribute up to 25 percent of compensation. Your compensation is defined as your net income less one-half of your self-employment tax and contributions. Your total contributions can’t exceed $55,000.1
It’s important to remember that these contributions are deducted pretax. That means they reduce your taxable income and thus your tax exposure. The funds are then invested and grow tax-deferred until you take distributions in retirement.
The Simplified Employee Pension (SEP) IRA is a popular choice for entrepreneurs. It operates much like a traditional IRA but with higher contribution limits. You make tax-deductible contributions to the account, and your funds grow tax-deferred. You pay taxes on all distributions from the plan.
You can contribute up to 25 percent of your income to a SEP IRA in 2018, with a maximum contribution of $55,000. If you’re 50 or older, you can contribute as much as $61,000. Keep in mind that if you have employees, you’ll have to make contributions for them, too. However, contributions are discretionary, so you can change the contribution amount from year to year based on your income and cash flow.2
Defined Benefit Plan
A defined benefit plan, also known as a pension, could give you added flexibility and savings capacity. You can contribute to a defined benefit plan alongside a solo 401(k) or SEP IRA. You design the plan to meet your needs and fund it to provide a desired level of income after you retire. The contributions are considered business expenses, so they’re tax-deductible.
However, there are some important considerations with a pension. First, you have to commit to an annual level of funding, so it may not be a wise strategy if your cash flow fluctuates. Also, you’ll have to offer participation in the plan to any employee you hire. That could get costly over time if you plan on expanding.
Ready to start saving for your retirement? Contact us today at Carstens Financial Group. We can help you analyze your needs and develop a strategy. Let’s connect soon and start the conversation.
Licensed Insurance Professional. This information is designed to provide a general overview with regard to the subject matter covered and is not state specific. The authors, publisher and host are not providing legal, accounting or specific advice for your situation. By providing your information, you give consent to be contacted about the possible sale of an insurance or annuity product. This information has been provided by a Licensed Insurance Professional and does not necessarily represent the views of the presenting insurance professional. The statements and opinions expressed are those of the author and are subject to change at any time. All information is believed to be from reliable sources; however, presenting insurance professional makes no representation as to its completeness or accuracy. This material has been prepared for informational and educational purposes only. It is not intended to provide, and should not be relied upon for, accounting, legal, tax or investment advice. This information has been provided by a Licensed Insurance Professional and is not sponsored or endorsed by the Social Security Administration or any government agency.
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