How Freelancers Can Fund Their Own Retirement
One of the biggest challenges when freelancing (and one regularly employed people love to point out) is the ability to build a substantial nest egg for retirement. This challenge alone keeps people strapped at jobs they hate because they may not be aware of the options available to them.
While retirement for people who don’t have access to traditional employer-sponsored retirement plans came up at one of the recent presidential primary debates, and while the economy is clearly changing and will eventually force politicians to deal with this issue, don’t hold out for the government to fix this one any time soon.
The good news is freelancers do have options for funding their own retirement. The other good news? Freelancers tend to make more money than full-time employees over time. This means that by combining the vehicles available with the extra money, you’ll be able to fund your own retirement.
Individual Retirement Account (IRA)
On average, it is suggested that people save at least 20% of their income for retirement. Granted, this a huge chunk of change so it can seem daunting to a lot of people. The good news is you can start small with an IRA that you can open in just a few minutes online.
With an IRA, you can contribute up to $5,500 a year toward your retirement ($6,500 if you’re 50 or older). This is much less daunting than 20% of your income and if you have time on your side, you can enjoy the perks of compunding interest. You can also opt for a Roth IRA which means you would pay taxes now instead of when you’re of retirement age.
A Traditional IRA means you’ll get a tax break on your contributions now but you’ll be charged taxes later when you retire. If you expect to be in a lower tax bracket when you retire then this may be a good option for you.
A Simplified Employee Pension (SEP or SEP-IRA) is a retirement account for small employers to help employees set aside money for retirement.
If you think you need to have a slew of employees to qualify, guess again. It turns out that if you have freelance income you qualify as an employer! However, this is usually the form of retirement people use when they’ve got other people working for them.
You can open an SEP IRA at any brokerage firm and make contributions for that tax year. Since there is no Roth option, you’ll get a tax break now.
The advantage here is that you can contribute far more than $5,500. If you think you’ll exceed the limit for a Traditional or Roth IRA, then an SEP IRA may be your best bet.
A traditional 401(K) typically allows you to invest in a group of assets through your employer. While some employers let you choose your own investments, others don’t.
As a freelancer, you can qualify for a Solo 401(k) through some brokerage firms. According to the IRS website, you can contribute up to $18,000 in a Solo 401(k). The downside is your asset options may be limited.
For most people, an IRA and a company sponsored retirement plan is all that’s needed.
However, freelancers can take advantage of some tax breaks and contribute more money through SEP IRAs and a Solo 401(k). Which one you decide to use depends on your situation. Since there are subtle differences between the two your best bet is to speak with an accountant.