The self-employed have some big advantages in today’s world, from control over their income to flexibility over their working conditions and schedules. But the self-employed face some additional challenges as well, including obstacles when saving for retirement.
The main impediment to retirement saving for the self-employed is not access to retirement plans. Indeed, there are a number of retirement plans specifically aimed at the self-employed. Instead, the largest obstacle is often inertia, and just getting started can be a difficult first step.
The Perfect and the Possible
Self-employed individuals should not let the perfect be the enemy of the good. There is a strong desire to build the perfect retirement plan, so much so that many self-employed individuals never get started. And while there are advantages to carefully weighing the pros and cons of the SEP-IRA, Keogh and Solo 401(k), allowing these hurdles to stand in your way wastes precious time – time you could be using to save for retirement.
Infographic Credit: SenseFinancial.com
Save for Tomorrow – Plan for Today
It is also important to note that saving for retirement should not stand in the way of building a solid emergency fund. The self-employed are particularly vulnerable to financial shocks, and having a cash cushion is absolutely essential.
Before gig workers and self-employed individuals start saving for retirement, they should first set aside three to six months worth of living expenses. Having this cash at the ready could prove critical in the face of a financial emergency or business setback.
Having an emergency fund can also protect any retirement savings that already exist. A lack of cash creates the temptation to pull from retirement savings prematurely, a move that could be devastating down the line. Tapping retirement funds early comes with significant penalties, including a 10% tax hit, and it should always be the last resort. Building your emergency savings first, before focusing on retirement savings, can help you avoid these difficulties.
Give Yourself a Paycheck
The traditionally employed have one major advantage when it comes to retirement savings – a steady paycheck. The self-employed do not have the same predictability of income, but there are steps they can take to smooth out their income and make saving for retirement easier.
One of the best ways to accomplish that goal is to pay yourself. Creating a bi-weekly paycheck from your actual and anticipated income can help you save for retirement – just like your 9-to-5 counterparts.
Start with a conservative estimate of your annual business income, then separate that figure into 26 bi-weekly installments. You will want to deduct 10% from that figure, and further reduce the amount by your tax rate and any health insurance premiums, thus creating your own paycheck. Once you have your own steady paycheck, you can base your retirement savings on that amount, starting out with a relatively modest 3% and working your way up from there.
The goal, of course, is that your self-employment income will be greater than your regular paychecks, so you can use that excess cash in a number of productive ways. You can, for instance, use the extra money to build up your emergency fund, or replenish that fund if you have unexpected expenses along the way.
You can also use your excess cash to boost your retirement savings, or to open a health savings account. Increasing the amount you save for retirement has the added benefit of reducing your current taxes, so you can keep more of what you earn.
From the ability to create your own success to freedom from an overbearing boss, being self-employed has its benefits. In the age the internet, self-employment has become even more attractive, with gig workers building their own incomes and going their own way. Contrasted with those advantages, the difficulty of saving for retirement can seem like a small issue, but it is also one that should not be overlooked. If you plan carefully, you really can have the best of both worlds – sufficient self-employment income to meet your current needs and a future filled with a steady source of retirement income.
If you are self-employed and needing a retirement plan, don’t get overwhelmed – reach out to a trusted financial advisor like Matt Logan to help you create the best plan for you. Matt can help you create a plan that can grow with you – give a call today to learn more, 336-540-9700.
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