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5 Retirement Plan Options for the Self-Employed

April 20, 2022
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Being self-employed provides you with freedom from a traditional work schedule, but it does not alter the necessity of financial planning. The last thing you want to do as a self-employed individual is put off paying into a retirement plan, only to find out at age 65 that your funds are dwindling quicker than anticipated.

Given the many different types of retirement plans for self-employed people, your only challenge should be choosing the best one for your needs. Here's a look at five of the most popular retirement plans for self-employed people.

1. Solo 401(k)

A Solo 401(k) allows the self-employed to make tax-deductible retirement plan contributions as both the employer and employee. To have a Solo 401(k), you cannot have any employees, with the exception of a spouse.

2022 contribution limits: As the “employee,” you can defer up to 100% of your salary, or $20,500, whichever is less. You may also make an additional $6,500 catch-up contribution if you are age 50 or older. As the “employer,” you may contribute up to an additional 25% of your compensation. Total contributions, excluding catch-up contributions, cannot exceed $61,000.

In addition, if you are married, you may hire your spouse as an employee and potentially double your contributions.

Best for: Business owners with no employees or one with a spouse.

Tax advantages: A Solo 401(k) functions like a standard, employer-offered 401(k). Your contributions are taxed after taking distributions at age 59 ½ or older.

2. Traditional or Roth IRA

Traditional and Roth IRAs function similarly in that they have the same contribution limits and are designed for individuals. They differ primarily in how they are taxed, either before or after contributions.

2022 contribution limits: $6,000, or $7,000 if age 50 or older.

Best for: Someone just getting started with financial planning for self-employed individuals or anyone leaving a job who needs to roll over funds into an IRA.

Tax advantages: Take a tax deduction up to the full contribution limits for a traditional IRA, which is taxed only upon distribution. There is no immediate tax benefit for a Roth IRA, but distributions in retirement are tax-free, as are investment earnings.

3. SIMPLE IRA

The SIMPLE (Savings Incentive Match Plan for Employees) IRA is similar to a traditional IRA but allows a higher contribution limit.

2022 contribution limits: Up to $14,000, plus an additional $3,000 in catch-up contributions if age 50 or older. If you also contribute to an employer plan, your contributions cannot exceed $20,500.

Best for: Businesses with 100 or fewer employees. Note that employees may also contribute through salary deferral, but as the employer, you may be required to make either matching or fixed contributions on their behalf.

Tax advantages: Contributions are deductible, but distributions are taxed in retirement. You may deduct contributions made to employee accounts as a business expense.

4. SEP Plans

To start a SEP IRA, you must earn less than $122,000 if you're single or less than $193,000 if you're married.

2022 contribution limits: Either $61,000 or up to 25% of net self-employment earnings, whichever is less. Catch-up contributions are not permitted.

Best for: Self-employed people with few or no employees; this is because, with a SEP IRA, employers must contribute an equal percentage of salary for each eligible employee.

Tax advantages: You’ll take a deduction on the lesser of your contributions or 25% of net self-employment earnings or compensation. Retirement distributions will be taxed as income.

5. Defined Benefit Plan

Also known as a money purchase plan, a defined benefit plan lets you establish a plan with a fixed contribution amount up to the annual limit. Your contributions are tax-deferred until retirement.

2022 contribution limits: This is calculated by taking into account the benefit you will receive from the plan at retirement, your current age, and your expected investment returns.

Best for: Self-employed people with no employees and a high income.

Tax advantages: While distributions are taxed as income in retirement, your contributions are generally tax-deductible.

While you have several options for retirement planning, the professionals at IM Wealth Partners can help you determine what is best to meet your short and long-term financial goals. We understand that choosing among the many different retirement plans for self-employed people can be overwhelming, and we're here to make the process smooth and straightforward. Contact us today.