How to plan for retirement when you’re self-employed

Posted by Tasnim Ahmed

Gig economy workers and small-business owners may benefit from more flexibility and freedom, but they do not have access to the same retirement plans and contributions as full-time employees.

In the absence of company-sponsored retirement plans, how should a small business owner plan for retirement? Well, financial insecurity is undoubtedly one of the most difficult aspects of being self-employed, which is why anyone considering it should do some serious financial planning ahead of time.

According to a 2019 Bankrate survey, only 26% of American employees save the recommended 10-20% (or more) of their salary, while 21% don't have any savings. What is even more concerning is the fact that nearly 70% of small business owners polled by Paychex said they aren’t confident enough or financially ready to retire by the age of 65.

Choosing the best retirement plan can be quite overwhelming and stressful. Even though there are multiple options available, it takes time to understand their characteristics and intricacies. For example, with an individual retirement account (IRA), or a SEP IRA, you can take advantage of the important tax benefits of retirement savings plans whether you're self-employed, operate a small business or work for a company that doesn't offer one. The ultimate purpose of any qualifying plan is to save for retirement while minimizing taxes.

There are five aspects to retirement planning that include determining when to begin, calculating the amount of money you will need, identifying priorities, selecting accounts, and investments.

In general, the objective is to invest more when you are young, then gradually reduce your investments to a more conservative combination as you near retirement age. For which, you have the option of managing your retirement savings on your own or hiring a professional.

There are various levels to retirement planning, with the ultimate goal of having sufficient money to stop working and do anything you like. Below are five stages of retirement planning. 

  1. When should you start thinking about retirement?

The answer to when should you start thinking about retirement is “now”. The sooner you begin planning, the longer your money has to grow. And it's never too late to start thinking about retirement. Every dollar you save now will be valued much more in the future. If you spend strategically, you won't falter behind for long.

  1. Calculate how much money you will require to retire.

The amount of money required to give up work is based on your present income and spending, as well as your how you see those expenses to change in retirement. It is recommended that savings and social security should be used to replace 70% to 90% of your annual pre-retirement income.

  1. Make a list of your financial objectives and prioritize them.

Retirement isn't your sole savings objective (most likely). Many people have more important financial goals, such as paying off loans, or credit card, or creating an emergency fund. But you should strive to save for retirement at the same time as you save for an emergency fund, particularly if your company matches any amount of your contributions.

  1. Select the most appropriate retirement strategy.

Deciding not just how much money to save, but also where to save it, is an important part of retirement planning. Consider starting with a 401(k) or other employer-sponsored retirement plan that offers matching funds. You can start your own retirement account if you don't have access to one through your employer.

There is no single optimal retirement plan. It could probably be a mix of retirement accounts. The best plans offer tax benefits as well as an additional savings incentive, such as matching contributions, if applicable. As a result, for many people, a 401(k) with an employer match is the best place to start. And if you already have a 401(k) and are seeking for the best options for further retirement savings, an IRA could be a good alternative. Other types of retirement plan to consider are - 401(k), Solo 401(k), Traditional IRA, Self-directed IRA, Roth IRA, Simple IRA, and SEP IRA.

  1. Choose your investments for retirement.

Stocks, mutual funds and bonds are among the investments available through retirement accounts. The best investment mix is determined by how much time you have until you need the money and the degree of risk you are willing to take.

Aggressive investment when you are young is the rule. At this stage you have a lot of time to let your money weather market volatility early on, and a few tumultuous years won't wipe you out. Besides, you could profit tremendously from the stock market's long-term growth history. As you are close to your retirement due date, your retirement investments also grow. You can choose to hire a financial advisor, if needed.

If you're currently self-employed, the list below should serve as a reminder that there are still some parts of your financial planning that need to be addressed.

  •       Have some money set aside
  •       Learn how to budget for a fluctuating income
  •       Comprehensive insurance is crucial
  •       Get an accountant
  •       Remember to factor in taxes
  •       Value your time
  •       Separate your business and personal finances
  •       Get financial planning assistance
  •       Make provisions for your retirement

You won't have an employment pension to pay into once you are self-employed, and with all the obligations, it could be enticing to put off saving for retirement until you're in a better financial position. Avoid it. Even if you can save a tiny amount, being proactive about your pension from the start is a good idea. If you choose to wait until you are financially secure, you may be waiting for long, and the longer you wait, the lesser the advantages from compound interest, and the more difficult it will be to save enough to retire.

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