A report by Career Builder found that there are around 10 million self-employed jobs in the U.S. Of those who are self-employed, 30 percent of them are at least 55 years of age, approaching time for retirement. In addition to having heavy tax burdens, self-employed people are generally more likely to have the responsibility of seeking out a retirement plan on their own accord. Without the option to participate in company 401(k) plans, they have the task of locating an option that suits their individual needs. Here are a few tips to help guide through the process.
1. Get an Early Start
It’s easy to get caught up in the day to day and put off something like obtaining a retirement account. Each year that passes by that you put off opening up your retirement account is less earnings you accumulate in interest, and the numbers add up quicker than you may think. As an example, say that you earn $50,000 per year and you place $2,000 (four percent) annually into an IRA beginning at age 30. At age 65, you have accumulated around $315k (before taxes) with $70k in contributions. If you began that exact same IRA just 5 years earlier, your payout increases to over $450k with $80k in contributions.
2. Consider Your Income
Does your income remain relatively stagnant throughout the year? Or does it fluctuate each quarter or year? An SEP may be better for you if your income changes, whereas higher earners with a more stable income may benefit from a uni-401(k). It’s wise to base your contributions to a retirement account on your income and what you can afford first, then consider your desired future outcome — because if you end up in a financial bind, you run the risk of withdraw penalties.
3. Know the Numbers
Before you decide on a retirement account, review any applicable maximums, percentages, and tax implications. With an SEP IRA, for instance, you (as the employer) can contribute up to $52,000 or 25 percent of net earnings, whichever is less. Employees cannot contribute to an SEP. This is contrary to a single-participant 401(k), which allows $17,500 ($23,000 if over the age of 50) in salary deferrals and also allows 25 percent in non-elective employer contributions (both you and your business can contribute to the plan.)
4. Compare Scenarios
When deciding on a plan and annual contribution amounts, it helps to compare calculations using several scenarios. There are several factors to consider. Not only contribution payments and how much money you need to retire, but also tax implications. Without regular withholding, many self-employed individuals have to pay thousands in quarterly tax payments. It is the art of balancing the present and future — finding the situation that offer most tax and other benefits now, without compromising future gains.
5. Account for Inflation
A CBS News report indicates that when members of the middle class were asked about how much money they need to save for retirement, the median answer was $300k. Even using 2014 numbers, this only allows for $15k per year for 20 years. According to Buy Upside’s inflation calculator, at an inflation rate of three percent, that $300k will have the same buying power as about $225k 10 years from now. If you are retiring in 20 years, that number goes down to around $166k; and in 30 years, $123k.