I’m self-employed: What are my saving options?
email@example.com | 3/5/2014, 10:36 a.m.
Run your own shop and plan to keep it that way? The Simplified Employee Pension (SEP) IRA is probably your best bet. It is the plan of choice for most sole proprietors and moonlighters.
You can open one at virtually any bank, mutual fund sponsor or brokerage firm. Annual account fees are low or non-existent.
Your contribution limit is based on a simple formula: You can put away as much as 25 percent of your net income, up to a cap that increases periodically to keep pace with inflation – $52,000 in 2014.
Money stays sheltered from taxes during your savings years, and what's additionally appealing is a SEP's funding flexibility. You can wait to fund the plan until you file your taxes. So if your income turns out to be higher than expected, you can make a large contribution and cut your tax bill. If you have a tough year, you can scale your contribution back.
If you work alone now, but aspire to bigger things. Then a Savings Incentive Match Plan for Employees (SIMPLE) IRA may be better for you.
With a SIMPLE IRA, you can keep investing in the same plan after you hire someone. Though don't forget what the plan name stands for: you have to match your employees' contributions, up to 3 percent of pay.
The main problem with a SIMPLE IRA is that you can stash away no more than $12,000 a year ($14,500 if you're 50 or over), which may not be enough to meet your retirement goals. Also, if you need to make a withdrawal from a SIMPLE IRA plan within two years of its inception, the 25 percent penalty is significantly higher than the 10 percent fee you'd be charged for early withdrawal from a SEP IRA.
Individual 401k Plan:
The Individual 401(k) is an especially good choice if you are scrambling to build up your retirement savings and can afford to sock away a considerable portion of your earnings. The generous contribution formula lets you put aside more money at a lower income level than you can with a SEP IRA.
As an employee, you can stash away as much as $17,500. As the boss, you can contribute an additional 25 percent of compensation, up to a maximum of $52,000, including your employee contribution. These contributions are discretionary, so you can save the maximum in flush years and nothing in tougher times.
If you and your spouse are both in the plan and enjoy a banner year, you could save a total of $104,000. And if you are both 50 or older and eligible for catch-up contributions of $5,500 each, the total climbs to $115,000.
It's also possible to take out a loan against an individual 401(k). That can be useful if you need funds during a business crunch. You can borrow half the account's balance, up to $50,000, and typically take up to five years to pay it back (provider rules vary). That said, borrowing from a retirement plan should be a last resort, since it could seriously undermine your long-term goals.
Individual 401(k)s come with a bit of bureaucratic hassle. Once your balance exceeds a certain level – $250,000 in 2010 – you have to fill out an IRS form (form 5500) every year, which adds a bit to your accountant's bill.
(Charles Sims Jr. is president/ CEO of The Sims Financial Group. Contact him at 901-682-2410 or visit www.SimsFinancialGroup.com.)