Self-Employed? Re-energize Your Retirement Savings

Allison Kade
Posted

Retirement often feels worlds away. But if you’re self-employed, you’re the only one responsible for yourself. With the number of self-employed people up 14% from 2001 to 2012, this issue is very of-the-moment.

We spoke to Crystal Stemberger of the personal finance blog Budgeting in the Fun Stuff and David Weliver of MoneyUnder30.com (who turned his own finances around and blogs about it) to see how real freelancers handle saving for retirement.

Stemberger and her husband are self-employed. Back when they had day jobs, she was contributing 12% of her income to a 401(k) plan and her husband was socking money into his retirement savings. They were both maxing out their Roth IRAs every year, too. Now that they can’t contribute to their company plans anymore, their next step is to open SEP (Simplified Employee Pension) IRAs, which will let them squirrel away even more. (We’ll show you how in a minute.)

Should you follow in Stemberger’s footsteps, or would another plan make more sense? And what is a SEP IRA, anyway? Generally speaking, there are three main account options for retirement when you’re a freelancer, and we’ll walk you through each one to help you figure out which is right for you.

Roth or Traditional IRA

If you’re self-employed, an individual retirement account is one of your most flexible options. With a traditional IRA, your contributions are generally tax-deductible (so if you make $50,000 in income and contribute $5,000 to your IRA, you’ll only be taxed on $45,000 of your income this year).

With a Roth IRA, you don’t get a tax break in the current year, but your money grows tax-deferred, and assuming you leave it alone for at least 5 years and until you reach age 59 ½, it can be withdrawn tax-free. So, you’d be taxed on your full income now, but when your contribution grows massively, you won’t be taxed on the earnings at retirement. Since tax rates may be higher in the future, that’s an extra sweet deal.

RELATED: Which Is Right for You? Traditional IRA vs. Roth IRA

There are income limits to know about: As of 2013, the amount you can contribute to a Roth starts phasing out when you hit $112,000 in income as a single person. For married couples, there are also income limits that restrict the deductibility of traditional IRA contributions when either spouse is covered by a qualified retirement plan. There are also contribution limits for IRAs in general. In 2013, the max you can contribute to any kind of IRA is $5,500, or $6,500 if you’re 50 or older.

Note that IRAs are available to anyone who brings in income, not just self-employed people, so the contribution limits are relatively low. If you want to save more than just $5,500, keep reading to learn more about retirement accounts created specifically for self-employed people. Working for yourself means forgoing any potential company matching on your retirement plan, so the government gives self-employed people the opportunity to play the role of both employee and employer.

Consider an IRA if: You’re just getting started saving for retirement and want to do something easy. An IRA is also good for “unintentional” freelancers who hope to score a traditional gig again soon.

  • Jessica

    My apologies, I’m posting here because the video on recalculating your retirement number did not have a place to comment and I wanted to give my two cents. It argues that you need to be ready to replace 80% or more of your pre-retirement income once you reach retirement. The argument made for this does not take into consideration that many people have mortgages that they won’t be paying by then and may be downsizing their home, causing a drop in expenses. So, if you take away the 20% savings, keep the 30% wants, and change the necessary spending from 50% to about 20%, that doesn’t give you 80%, even if you factor in additional health care costs.