Retirement Savings for Self Employed - Zinny Factor

Self-employment affords you so many luxuries, from creative control to locational flexibility. But there are some downsides, too — you likely weighed many of them before venturing out on your own.

Although you’ve overcome many of the cons already, one lingering negative is the fact that there’s no built-in retirement savings plan for you. Instead, you have to come up with a program for yourself — and many business owners fail to do so.

No matter how much you love to work, you will probably want to retire one day. So, take these four options into consideration and ensure you’re saving up for that moment, whenever it comes.

1. Solo RSSP/ 401(k) 

In a traditional workplace, you would likely have an RRSP or DPSP / 401(k) (if you are in the US) savings option as part of your employee benefits.

Each month, money would automatically come out of your paycheck and go into your plan. Your employer might contribute a percentage or even match the amount you put away each month, too, making your retirement fund even more robust.

Although you’re self-employed, you can still enjoy the benefits of having a retirement savings plan. The solo option only works for up to two employees — you and your spouse, no one else.

However, if your business is this small, and you earn a lot of money from your venture, a solo 401(k) is an ideal place to squirrel away up to $18,000 per year. Once you turn 50, you can increase that amount by $6,000. On top of that, you can save up to 25 percent of the year’s net earnings for a maximum savings of $54,000 annually.

If you are in Canada, your RRSP contribution limit as at 2018 is 18% of earned income you reported on your tax return in the previous year, up to a maximum of $26,230. See the CRA website for more information.

There are plenty of benefits to choosing a 401(k) plan or RRSP For one, the money you contribute is tax-free. Plus, if you plan to work after you’re 70.5 years old, you can continue funneling money into this type of account if you reside in the US. Some other retirement plans put an age cap on contributions. In Canada, you must close your RRSP when you turn 71.

Contact an investment advisor right away to make an informed decision on your retirement savings.

2. SEP IRA

This option applies mainly to US retirement plans and is much simpler to open than a solo 401(k), which requires quite a bit of paperwork. Instead, you can head to your local bank, brokerage firm or mutual fund provider to start saving. Here, you can save up to 25 percent of your year’s income, or $54,000 — whichever number is smaller. If you’re saving the right amount, you might qualify for retirement savings benefits, such as tax breaks.

To that end, the SEP IRA is tax-deductible. You won’t have to pay taxes on the money in your account until you attempt to withdraw it. But, in comparison to other IRA options, the SEP allows you to contribute more money, so it better prepares you for retirement.

3. Traditional or Roth IRA/ TFSA 

After you’ve calculated the amount you need to retire comfortably, you may realize you need more than just an IRA or a solo RRSP/401(k). If so, open a traditional or Roth IRA to supplement your savings plan.

In Canada, this is similar to the TFSA (Tax-Free Savings Account) where residents over the age of 18 can contribute $5,500 annually to this account, according to 2017 limits.

This should never be your only source of retirement savings since the contribution cap is much lower than the aforementioned options. For example, you can only save $12,500 per year in a traditional IRA if you’re under 50. The money in this type of account comes tax-deferred, too, so you’ll have to pay a percentage when you withdraw the money later.

A Roth IRA also has a contribution cap, but it works the opposite way. Money goes into the account after taxes, which means you can withdraw it tax-free down the line. This feature certainly makes the Roth option more attractive, but there is one drawback: If you make too much money — upwards of $186,000 in 2017 — your options for contributing to such an account dwindle. Read more on the Roth IRA and TFSA.

4. Tax-Deferred Annuities

Some lucky business owners might find themselves with additional cash to deposit, having reached the limit on their IRA, 401(k), TFSA or RSSP accounts. If you’re in this boat, consider a tax-deferred annuity as a place to put the leftover funds.

A tax-deferred annuity, as the name implies, gives you the opportunity to save money without any taxation on the resulting growth or interest. It is a good deal, so it might be difficult to find an account that provides tax-deferred growth.

However, there are some drawbacks to this type of savings plan. Namely, you don’t get a tax deduction when you contribute to your annuity plan. And, some plans don’t let you withdraw the money until it’s too late for you to use — your children or another heir could benefit from it, though, if that type of legacy is important to you.

Make It Work For You

You already work for yourself — your retirement savings plan should do the same. The above four options are all ideal places to funnel extra cash now for you to enjoy later. And, with that peace of mind, you can flourish with what’s in front of you — a thriving business you built all by yourself.

What are your thoughts concerning retirement savings as a business owner? We featured the writer of this article in a previous post, read it and learn more about her and a few career tips she shared. Subscribe to Zinny Factor for exclusive updates and information on workplace solutions.

 *This article was written by Sarah Landrum, the founder of Punched Clocks and is suitable for both US and Canadian residents. Contact your investment advisor or bank for professional advise most suited to your needs.