Retirement plans for the self-employed and the small business owner

Now that I’m self-employed, I had to pick the best way to make tax-deductible contributions for my retirement. Do the same for yourself with this guide to self-employed retirement plan options.

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What’s your vision of retirement?

Individual Retirement Account (IRA)

The simplest option– which anyone with earned income can use, regardless of whether you’re in business for yourself– is a Traditional or Roth IRA. The downside is that you can only contribute $6,000 per year ($7,000 if you’re 50 or older), and you must have income of less than ~$150,000 in 2021 for the Roth IRA option. There’s no income limit for deducting your contributions to a Traditional IRA.

You can only contribute if you had at least that much in net income for the year. For example, if you only made $3,000, you can only contribute $3,000.

Open your IRA with no fees and a great investment lineup at Vanguard here.

Individual 401k (aka Solo 401k)

If you don’t have any employees besides your spouse or a partner or shareholder in the business, and if you want to contribute more than an IRA lets you, or want to get around the Roth phase-out income limit, then the Individual 401k is probably your best bet. You can contribute as both an employee*– $19,500 IRS limit for 2021– as well an employer with up to 25% of your net earnings. The grand total of both your employee + employer contributions can’t be more than $58,000 for 2021.

Set up an Individual 401k for free with Vanguard. Vanguard charges no management fees once your balance reaches $50,000, and it’s only $20 per year per investment fund until then, which is a fantastic bargain.

Just so you know, you will have to file Form 5500 with your taxes each year if you go this route, which will be handled no problems by your tax software or accountant.

*Note that this employee limit is aggregated across ALL jobs and 401k contributions you might make as an employee for a given tax year, so no ‘double-dipping’ allowed even if you have a day job with a 401k and a side hustle with a Solo 401k!

SEP IRA or Simple IRA if you have employees

A SEP-IRA lets you, the employer, make discretionary contributions to your employees, but they can’t make any on their own. They can open up their own individual IRAs if they would like to.

A Simple IRA lets employees contribute up to $13,500 ($16,500 for 50+) in 2021, but it’s limited to businesses with 100 or fewer employees. With a Simple IRA, you the employer must make contributions of at least 2% of employee salary through a direct contribution, or you can match some of the employee’s Simple IRA contributions.

You can compare these options in detail here. The SEP and Simple IRAs don’t require any separate IRS filings on behalf of you the employer.

Vanguard also offers a full-blown 401k option if your small business is getting bigger and you want something like what large employers offer. I imagine it costs more and has more hassle than the above options, but check it out if the other options don’t sound right for you and your employees.

Help your employees retire successfully

Educate your employees about their financial options and investment choices. Vanguard has excellent Target date retirement fund defaults, so make sure your employees get automatically shunted into those based on their ages, and make sure they are contributing at least 10% of their income by default as well. They can easily change this contribution, but you want to set them up for success even if they do nothing, which is very common.

Hire a pro to help you make the choice and set things up

If you want an independent financial advisor to guide you through your options as a small business owner or self-employed person, or to give a seminar to you or your employees on investing and personal finance, contact me.

Author: Ward Williams

Ward is an independent financial advisor at Better Tomorrow Financial. He started working as an independent investment advisor in 2009.

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