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Save for Retirement When You Don't Have a 401(k)

Penelope Wang

How to Save for Retirement When You Don't Have a 401(k)

Consumer Reports has no financial relationship with advertisers on this site.

Consumer Reports has no financial relationship with advertisers on this site.

Buoyed by a growing economy and stock market gains, more Americans are feeling confident about their ability to afford a comfortable retirement, according to a long-running national survey released this week.

Still, there are big gaps in confidence between workers who have a retirement plan, such as a 401(k), and those who don't.

Overall, 67 percent of workers say they feel confident about their future retirement, according to the survey, which has been conducted by the nonprofit Employee Benefit Research Institute (EBRI) for 29 years. That’s an improvement over the 64 percent of workers who felt confident last year.

Among retirees, some 77 percent were very or somewhat confident about their ability to maintain a comfortable retirement. Fewer were worried about medical expenses, with eight in 10 retirees feeling very or somewhat confident about covering these costs vs. 70 percent in 2018.

As in previous years, participation in a retirement plan is closely linked to workers’ confidence. Some 74 percent of those covered by a 401(k), an IRA, or a pension are at least somewhat confident about retirement, compared with just 39 percent of those who aren’t.

“For most workers with 401(k)s, there’s an advantage of a company match,” says Craig Copeland, senior research associate at EBRI. “Another big effect is automatic saving; the money comes out of the paycheck before it’s spent.”

But half of American workers lack an employer plan, data show. Many workers these days are freelancers, or they work part-time and don't qualify for a plan. Others work for small businesses that lack retirement benefits. 

Bills introduced in both houses of Congress would enable small businesses to band together to set up 401(k) plans, which would help lower costs. Although the legislation has bipartisan support, it's not clear whether it will gain passage this year.

The good news is that it’s easy for freelancers and other workers who lack employer plans to set up their own version of a 401(k), which can help save on taxes as well as build savings. You can find these retirement-account options offered at most fund companies and brokerage firms at low cost. Here are three popular plans to consider.

Traditional or Roth IRA

If you’re just starting out, you may want to stick to basics: a traditional or Roth IRA. You can put in as much as $6,000 in 2019 (plus an additional $1,000 if you’re 50 or older). With a traditional IRA, your contributions may be deductible, and the growth is tax-deferred.

If you're like most freelancers, that is, you’re not covered by an employer plan, your traditional IRA contributions are deductible, with no income limits. But if you have a spouse covered by a plan, income limits may apply. For more details, check the IRS website.

With a Roth IRA, your contributions are made on an after-tax basis, but your money will grow tax-free, and you’ll pay no taxes on your distributions as long as you follow the withdrawal rules. (Generally, you must have held the account for five years and have turned 59½ or older.) Plus, you can take out your own contributions anytime without paying tax. Roth IRAs do have income limits: Those who are married and filing jointly must have modified adjusted gross incomes below $193,000 this year to make a full contribution.

Which IRA is right for you? A lot depends on your age and current income. Young people, for instance, are likely to have smaller incomes and thus pay less than they will when they get older. 

“If you think that your taxes will be higher later than they are today, a Roth IRA might be better,” says David Littell, a professor of retirement income at the American College of Financial Services.

Conversely, those with higher incomes might want to get the immediate tax deduction with a traditional IRA. (This calculator can help you choose between a Roth and a traditional IRA.)

It’s impossible to know with any certainty how your taxes might change years from now, which is why many financial advisers suggest hedging your bets. Contribute to both types of IRA, though you’ll need to keep your total contributions under this year's $6,000 (or $7,000) limit. And revisit your choices periodically as tax rates and your income change.

Whichever IRA you choose, set up an automatic investing plan to ensure that your savings really happen, which is a key advantage of employer 401(k)s. At most fund companies and brokerages, it’s simple to do this online. Just enter your bank information, how frequently you want to invest, and the amount of the transfer.

“If you’re not sure about your cash flow, it’s fine to start out with small amounts, even $100 a month,” says Marguerita Cheng, a certified financial planner and CEO of Blue Ocean Global Wealth in Gaithersburg, Md. “You can increase the amounts later, when you have a better feel for your income.”

SEP IRA

If you’re working for yourself or have a part-time job, you can open a Simplified Employee Pension (SEP) IRA. With these plans, you can get a deduction on your contribution, which will grow tax-deferred. As with regular IRAs, SEPs are widely available at brokerages and fund companies.

If you have incorporated as business, the overall maximum you can stash away in a SEP is 25 percent of your compensation, up to $56,000 in 2019. For those who are unincorporated, the same max applies, but the percentage of income you can contribute is reduced by deductions, including half the self-employment tax (the FICA tax). For example, someone earning $100,000 could put in as much as $18,587 this year. (Try an online calculator, such as this one, to help figure out your SEP contribution.)

These plans are highly flexible, which makes the SEP an appealing choice if you don’t have a steady income stream.

“It’s the perfect plan for procrastinators,” Cheng says. You don’t have to make a contribution every year. And you have until April 15 to put in the money—or even October, if you file for an extension.

Individual 401(k)

For sole proprietors, an individual 401(k), also known as a solo 401(k), allows you to set up your own retirement plan with many of the same benefits as a large-company 401(k). (To qualify, you can't have any employees other than your spouse.) As with an employer plan, you can have contributions deducted from your paycheck and invested tax-deferred in the funds of your choice. Some providers offer a Roth 401(k) option.

With a solo 401(k), you may be able to stash away even more money than you can in a SEP IRA, depending on your income level, says Jeffrey Levine, a CPA and certified financial planner at BluePrint Wealth Alliance in Garden City, N.Y. That’s because you can contribute two ways, both as an employer and as an employee, up to a maximum of $56,000 this year, or $62,000 if you’re 50 or older.

Say you earn a $100,000 net profit from your business. As an employee, you can contribute up to $19,000 this year ($25,000 if you’re 50 or older), or up to 100 percent of compensation, whichever is less. Plus, as the employer, you can stash away a portion of your profits after deducting the self-employment tax. In total, your contribution could be as much as $37,587 this year vs. the $18,587 you could save in a SEP. (To see how much you can contribute to a solo plan, try this calculator.)

There may be a bit more paperwork involved with an individual 401(k); plans with more than $250,000 in assets are generally required to file a Form 5500 with the IRS. But most providers can do that for you, often as part of the basic service fee.

With a solo 401(k), you can also borrow from your plan—generally you can take out as much as 50 percent of the balance up to $50,000—if your plan offers that feature. That’s a welcome backstop in an emergency. But as with a regular 401(k), your goal is to leave that money alone to grow until you’re ready to tap it in retirement.



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