How to Save for Retirement if You're Self-Employed

You did it, you quit your job & started your own business. But you're not sure what the best way to save for retirement is now that you don't have a 401k through work. In this episode, I discuss the two main options I use for self-employed clients. 

SEP IRA vs Solo-K 

Get the pros & cons and see what might be right for your business! 

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Transcript

00:01 Welcome back to the confident dollar podcast. Again, my name is Lauren, I'm your host, I am the founder and financial advisor at Sailor Portfolios in planning, Abutique Financial Planning firm located in Orange County, California but serving clients nationwide.
00:16 And I started this business in 2019 with the goal of just bringing confidence and organization to people's financial life. That's what I love to do.
00:23 That's where I love to help people and it truly is my calling. And I am just so grateful to be able to work in a way that I love and that is so fulfilling to me.
00:32 So part of that was starting this podcast last year in 2023 to just kind of help bring more education and information in the world of finance to people, especially in a way that they can understand in a language that they can understand so that you can just continue to take more control and um and just
00:52 understand your finances and just really get them on track. Um, just I've just seen so much stress and anxiety relieve from people when they know how their money is working for them, they know what their long term plans are, their goals are, how they're working towards them.
01:04 And just what track they're on. Um, it just relieves that stress of like where am I, what is going to happen, am I going to be able to retire or you know all those other goals.
01:13 So if you are a self-employed person, you don't want to miss this episode because today we are talking about the best We have for self-employed individuals in saving for retirement.
01:24 Because let's be honest we know that more than likely saving in an IRA between now and retirement is probably not going to be enough for you for your retirement.
01:34 Um, especially if you are single and you don't have a spouse that has a 401k that's W2 that has a 401k option at work.
01:41 Um, or maybe you're both you and your spouse are self-employed. Um, you're going to need to take some different steps to save for retirement outside of just utilizing an IRA.
01:50 So that's what I want to talk to you about. There are a few options when it comes to this. But in my opinion there are two, two main options.
01:57 Um, that are the best ones that I normally, um, utilize when working with my clients that are self-employed. And this is actually something I have seen more and more my last couple years.
02:08 Um, because more and more people are self-employed, um, then used to be. A lot of people are starting their own businesses or their own side hustles and their, um, in a position of bringing in their own income way more than they used to be in the past, um, as just W two employees.
02:24 So I just found that this would be a helpful topic to cover for people to make sure that we are, you know, you're saving for retirement in the best way possible.
02:34 So the two we're going to talk about today, like I said, there's a few options, but we're going to go over the two main options that I work with.
02:40 Umm, that I think make the most sense for self-employed individuals. And that is the SEP IRA, SEP IRA, and a solo 401k, or an indie 401k, or a solo k, that has a few different names, but it is a 401k, 401%.
02:55 So the solo, Umm, that's what we'll refer to it from here on out in the SEP IRA. So let's start with the SEP and kind of dig into that.
03:04 We're gonna go through again all the information on both pros and cons when you should use it, one over the other.
03:09 That sort of thing so you can just have a really good understanding of maybe where, you would want to move forward with if you're a self-employed individual.
03:16 SEP IRA stands for simplified employee pension and then IRA, individual retirement account. So this I find is one of the two options.
03:27 This is, the much more simpler one to set up. Um not to be confused with this simple IRA. That is another one and I'll touch on that at the end.
03:35 I don't think that is one of the best options if you're self-employed because of the lower contribution limits but we'll talk about that later.
03:41 The SEP IRA. It's gonna be your simplest option. Um. If you're self-employed because they're you don't have to go set up a whole plan.
03:49 Um. For the SEP you can just do one IRS format which is a 5035-SEP. Um. That. Is what you can set up with the IRS and that starts your plan.
04:03 So you don't have to do a bunch of different paperwork. You don't have to have a plan set up through somebody and pay for that or pay to have a plan um.
04:10 Up to date. This is you just do that IRS form. Um. The benefit of. The sep is that it has higher contribution limits a lot higher contribution limits than the IRA.
04:24 So if you have a sep for 2023 you could have contributed $66,000 max for 2024 it is 16. So the thing about the sep though is that it is only an employer, only the employer makes the contribution. So if you are self-employed you are the only employee of your business.
04:44 The business is going to make contributions to your SEP IRA. You cannot make them personally in that level. So you can actually, this is going to confuse you maybe just for a second, but you can do your personal eye or contribution into your SEP, but that would just have a totally different limit of 
05:00 the 7,000 for 2024. But the step. So the business is going to make those contributions and those are going to be tax-deductible for the business.
05:10 So it's a benefit for you if you're self-employed because it's a way to pay yourself or defer payment to yourself without incurring any other taxes on that year.
05:19 So actually, tax-deductible for your business in order to kind of defer a payment for yourself for later. There are minimal fees.
05:26 Another big pro of the SEP IRA. They are not expensive to set up. They are not expensive to maintain. Like I said, it's just not one IRS form and you are ready to go.
05:34 You can get the account open. So then it's just really, What account fees you may have or management fees you may have depending on who you choose to work with to set it up or if you do it on your own.
05:42 Umm. And again, it's all uh, it will be all tax deferred. So it's tax-deductible to the business when they make the contribution.
05:52 And the contributions are tax deferred so you can't do Roth contributions in a SEP IRA. They're only tax deferred contributions so like a traditional contribution.
06:03 So when you go to take it out later in retirement, you are going to pay the income taxes on that money.
06:07 Thank you so much. Don't have Roth contribution options within a SEP IRA. So all contributions are tax deferred. To be eligible, you have to be at least 21.
06:18 So this is how it works for your employees because actually SEP. SEPs are um have more- eligibility for employees. So if you have multiple employees, sometimes the SEP is not good for you.
06:29 But if you are self-employed, we're talking about you are the only employee or maybe one other employee like your spouse, then this is a good option.
06:35 Umm. So you have to be at least 21. You have to earn more than $650 a year. And you have to have worked for three of the last five years.
06:44 Now some people do open up SEP IRAs for small businesses. So you know if you have five employees or whatever a SEP IRAs might still make more sense than setting up a full 401k.
06:54 But here. Whatever is the trick at the caveat to remember when it comes to the SEP. Is that whatever For a designated percentage, you contribute to one employee, you have to do the same percentage to the rest.
07:06 So for yourself, again, this is not a problem if you're a self-employed or the only employee, but this is something to consider if you have multiple.
07:14 For yourself, you have to if you, you know, or self-employed, you're trying to, you know, designate a percent for yourself to save for later.
07:22 You can do, let's say you want to save 10% of your salary. That's what the employer, but what the business is going to contribute for you at the end of the year.
07:29 If you did have other employees, you would also have to do 10% of whatever they were paid that year. Okay.
07:35 And then again, the contribution max is either the lesser of up to 25% of your salary or the max amount of 69,000.
07:45 So again, 25% is the max you can do of your salary. And if that is less than 69,000 you can't do 69,000.
07:52 If that's less than 25% of your salary. Does that make sense? So the lesser of 25% of your salary or the max amount which for 2024 is 69.
08:02 Okay. That is the step Ira in a nutshell with just some through some lot of information at you. So let's kind of break it down.
08:10 Again, because you have to do that designated percentage and it has to be the same for all your employees, the step is not always the, best option if you have multiple employees.
08:19 So small businesses it works really well for if you still want to do it that way. But for the most part it is better if you are like self-employed or you're in your spouse or maybe you're spouse in one other.
08:29 Umm. It could be a really good option. Because again you have to match that percentage. It is way better than an IRA because you can do a whole lot more into your step than you can a traditional IRA with only $7,000 for 2024.
08:44 You can do a whole lot more and you get that benefit in your business. Do you get that? A lot of business owners that I work with.
09:01 Umm, we'll do this contribution just during tax season. So they look at their taxes, they look at how much they made for the previous year because you can do this all the way up till you do your file your business taxes.
09:15 So you look at how much you made for the previous year to have profit, how much did you pay yourself?
09:20 All those sort of things and then think okay what is a decent percentage if I want to kind of get a tax break on the business?
09:26 I might as well do a step-eye contribution because I want to pay taxes anyways. So you do the step-eye contribution for yourself for the previous year and then again match that if you have employees but if you don't, you're golden.
09:36 So it's perfect. Again the ease of setting up a step-eye is why a lot of people like to go with the step-eye reverses anything, any other options.
09:45 The biggest downside that I see with my self-employed client so decide to not go with the step is that there are no- that is all tax deferred.
09:54 You can't do Roth contributions in the step-eye row. Which brings us to the second option. The solok account. Umm so this is a 401k for self-employed individuals.
10:08 can only do this. You can only do a solo 401k if you are the only umm person in your business plus your spouse.
10:16 So if it is the two of you then you can do a solok. If there are more employees you actually cannot even do a solok.
10:22 So this literally is only for Umm, like solopreneurs or at least solopreneurs plus their spouse. Umm, but the reason people go with the 401k, the solopreneurs as self-employed individuals is so that they can do those Roth contributions because you can set up a solok to have Roth contribution options.
10:40 just like you can't a regular 401k. So let's break down the solok. What are some, what's some of the information about setting up a solok?
10:49 So again a solok is really a small, basically a small 401k plan for a go. A company that only has one employee or possibly a spouse.
11:01 So that makes it cheaper than doing a full 401k plan. Those get pretty pricey. A solok is a lot less expensive than doing a full 401k plan.
11:10 But it is more expensive than setting up. A step because you do have to go through someone to set up your plan.
11:15 Um. And then you have to, you know, maintain that plan. And um, there's a lot more hoops to jump through when getting it set up.
11:24 But uh, you can do those Roth contributions. That is what I would put in the category of like if you're deciding between the two.
11:32 If that's something that's really important to you. And for a lot of people who are young, that is because you want to have an ability to get Roth contributions until 401k.
11:39 That might be in that. Okay. Here's the pro more for the solo K than this. For a solo K, umm you contribute up to 23,000 dollars into it as an employee.
11:56 So the set, sorry, the solo K also is a little bit more diversified in the contributions that you can put into it.
12:01 So can do employer contributions. So again, deferred compensation from the employer can go into the solo K every year. Um, but you also can do your own salary deferrals into the, So okay.
12:18 And that can be up to $23,000 for uh, 2024. Again, if you are 50 plus, you have a catch up there.
12:25 Um, and that is another 7,500 that you have as catch up into that 401k. For employee E, um, uh, salary deferrals.
12:36 Now the employer contribution, like the employee, uh, employer portion is going to be, um, it is a little bit different depending on how your business is set up.
12:46 If you are an S Corp, a C Corp or an LLC. Um, it gets a little bit trickier, but in a sense it is, um, it ends up being 25% of your, um, uh, business income, uh, qualified business income that you can contribute as an employer.
13:03 Thanks for Thank watching. Into you're so okay. Okay. Again, there's a little nuances depending on how you categorize and so I'm not going to get into each of those, but roughly it's 25% of your QBI qualified business income into the business, um, that you can contribute as an employer.
13:19 Free. Your deferred compensation there and then your salary deferral is 23,000 that you can do yourself. So you have more ability to contribute in a solo K as you're personally and from the business so you can have the benefits on both sides.
13:35 I'm, The benefit from the business is that would be anything that you defer for yourself, uhm, or sorry, uh, deferred compensation would be again tax-deductible on the business and the year that they do that come to business as that contribution and then the benefit on you for your salary deferral.
13:52 You're putting into the solok is going to depend on what type of contributions you're doing. So if it's regular traditional contributions then it is tax-deferred and so you're getting that deduction in the year that you're contributing and you're going to pay the income taxes when you take the money 
14:07 out later. Thank you. Or you're doing uh post tax contributions like a Roth and you're not getting any tax um benefit in the year you're contributing but then it's tax-free in retirement because it's a Roth contribution.
14:20 So those are just going to depend on how what type of contribution you're doing at that point for this. So okay.
14:25 Let's see. Umm yeah I really think for most of my entrepreneurs that I work with. Umm self-employed people they have lean towards this cell okay specifically for that Roth option which ends up being the umm biggest weight that goes from the than the sep.
14:55 Okay, so just to kind of. Run things over the pros comes higher contribution limit umm cuz you're in a retirement plan basically for your company.
15:02 Umm, it's a really good option basically for anybody self employed. You can do this umm you know for really any business you have so it's a great option and then you can choose from a broad range of assets.
15:12 You're setting it up how you want it. So you have a whole lot more control than doing it when you, when with a employer 401k plan that you are w2 employee with.
15:20 You have no control over what they choose. But you can choose however you want to set up to your solo k plan.
15:25 You can choose who you do the plan through. You can choose where you hold it. You can choose. So you're, you're in charge of it.
15:30 Um. Clons, you're going to pay taxes and fees for drawing the funds early. It is retirement. Um, you know, but that's, uh, that's, that's the situation for both of these because they are both retirement accounts.
15:43 Um, again, and it has a little bit more complication than the SEP IRA. So just something to consider if you are thinking about both of them.
15:51 So that's kind of the rundown of both of the main ways to say for retirement if you are self employed.
16:00 Um, there is the simple IRA. The simple IRA has a whole. The reason that one normally gets thrown out is because the um, contribution limit is so much lower.
16:09 So it's actually 16,000 for 2024. With a catch of a 3,500. The symbol is probably going to be your better option if you have a just- a small business.
16:18 You probably go more simple. Then then set because the simple people can do their own contributions into the simple as well as the employer has to match like 3%.
16:27 Um, but it's a lot- it's a lot better than setting up a full 401k plan. That, you know, or not better, but just simpler.
16:35 That's why it's simple. Then setting up a full 401k plan for like a smaller company of like 5 and 10 employees or something around that level.
16:42 Um, but the SEP- that's where the SEP kind of- I think beats the simple when it comes to being self-in- employed in being the only employee of your business.
16:50 So if you have any further questions on these, I know again that was a lot of information to kind of throw at you.
16:56 Um, and then just kind of down to like I think that you're going to use the SEP if you're the only person more than likely and you're okay with not having maybe you already have a lot of Roth contributions from a previous employer or you've done a Roth IRA for a long time or you just want to keep it 
17:13 as simple as possible that you're going to do the SEP. If you really want those Roth contribution options, you're going to do the, so okay.
17:20 I think that's really what it comes down to for the most part of what ends up being the biggest decision one way or the other.
17:27 So again, I know it's a lot of information. If you have any questions on any of this, please don't hesitate to reach out.
17:32 I'm happy to dive into your personal situation to see what makes the best. A sense for you. So you can find my contact information in the show notes and feel free to send me an email.
17:41 Um, I offer a free consultation or a discovery call and getting started and so I can kind of see what your situation is and point you in the right direction.
17:49 But hopefully that kind of help break down these two main options. Options that you have when it comes to being self employed and if anything cake to in the butt to say like okay if you're self employed and I was not going to cut it.
18:00 What are some other options? What are something you need to be thinking about starting to do? If you did miss for 2023 because we're after tax day, that's fine.
18:07 What can you do for 2024? for. To start planning ahead and saving for retirement. So again, if you have any questions, let me know.
18:14 I have handled a good amount of solar case specifically as that is the thing I see clients wanting to open up, um, mostly these days.
18:21 So if that's something you should in let me know and we will talk. Then all right, other than that, have a great day and we'll see you next time.