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Independent contractors and small business owners face a unique challenge. Unlike active duty military or people in the civilian workforce, there is no Thrift Savings Plan (TSP) or 401(k) available just for showing up. As is the case with many aspects of being self-employed, if business owners have retirement plans, it’s because they made that happen. Here are some straightforward plans that can be used by independent contractors and self-employed business owners.

The Simplified Employee Pension (SEP) for any Size Business

SEPs are among the most flexible retirement plans available to small business owners. This is because they can be set up for any size business. You can establish a SEP whether you are the company’s sole employee or you have thousands of people working for you.

Establishing a SEP is a relatively simple process. The IRS provides a turnkey plan document to help small businesses get set up. If your company wants to include more provisions than are in the IRS document, you can design your own. After that, there is no annual filing.

Some of the key provisions of a SEP include:

  • only the employer contributes to employee accounts
  • contributions go into an employee’s SEP-IRA
  • annual contributions aren’t mandated
  • contributions immediately vest 100 percent
  • employees can’t borrow from their accounts

A Savings Incentive Match Plan for Employees (SIMPLE) for Small Businesses

SIMPLE IRA plans are a little more restrictive than SEP IRA plans. They are limited to employers with no more than 100 employees. Like the SEP, a plan document is required. The IRS offers a turnkey version or you can use an IRS-approved version offered by various financial institutions.

Some of the key provisions of a SEP include:

  • both the employee and employer contribute to employee accounts
  • contributions go into an employee’s SIMPLE-IRA
  • employer matching contributions are mandatory
    • dollar-for-dollar match up to 3 percent of employee’s compensation, or
    • 2 percent of employee’s compensation (the contribution limit is $290,000 for 2021)
  • contributions immediately vest 100 percent
  • employees can’t borrow from their accounts

Retirement Accounts Appropriate for Independent Contractors

In cases where the business owner is the sole employee of an enterprise, or where the economics don’t support a more sophisticated arrangement, a Traditional or Roth IRA (or both) may be completely appropriate retirement planning vehicles.

Contribution limits are much lower for both accounts – $6,000 for 2021 (those over 50 get a $1,000 catch up provision). But if the business is able to contribute more than this, the plan options noted above are available.

The two IRAs have other provisions in common.

Earnings within the accounts are not subject to income tax. There’s a penalty for early withdrawals (taken before you reach age 59½). And the exceptions to avoid the early withdrawal penalty are the same.

The two accounts have more in common than the things that differentiate them. But the differentiators are significant.

Contributions to a Roth IRA are made with after-tax dollars. There is no tax deduction like there can be for a Traditional IRA. Withdrawals from a Roth IRA are never taxed. Withdrawals from a Traditional IRA are always taxable.

Start Saving for Retirement now

It is imperative that people save for retirement. For the self-employed this can be challenging, whether you are a freelancer, self-employed contractor, or small business owner. The best practice is to start saving early and to save continually and consistently.

Consult with a personal Financial Advisor or Retirement Plan Advisor (depending on the size of your workforce) for guidance regarding the appropriate design and structure of your business’s retirement plan.

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