Save on Taxes When You Save for Retirement
Self-Employed Retirement Options
© by Lita Epstein
If you are self-employed, you have many retirement plan options from which to chose including the Individual 401(k), the SEP-IRA, the SIMPLE IRA and the Keogh. We'll take a brief look at the tax benefits of each, but you can find a lot more detail about these options in my books - Streetwise Retirement Planning and the Complete Idiot's Guide to Tax Breaks and Deductions.
SEP-IRAs are very popular with small businesses of one to 10 employees. These plans are completely funded by the employer. As a self-employed person you actually contribute to the fund as the employer and you can contribute up to 25 percent of an employee's compensation with maximum of $40,000 per employee. As a self-employed person this is based on your net income minus 50% of the self-employment tax, rather than your gross income, so the actual allowable contribution is less. SEPs are popular because of their flexibility. You don't have to contribute every year. You can contribute only in years that your business has done well. You also have until the day you file your taxes to contribute. For example, you can still contribute for the 2002 tax year until October (if that's when you file after extensions). Catch up contributions for people 50 and older are $1,000 in 2002, $2,000 in 2003 and continue to go up to $5,000 in 2006 six. After 2006 they will be indexed to inflation.
SIMPLE IRA is one alternative for small companies that is simpler and less expensive than the 401(k), but allows an employer to establish a retirement plan into which both the employer and employee can contribute. Employees can elect to contribute up to $7,000, which increases by $1,000 per year until 2005 when it maxes out at $10,000. After 2005 it will be indexed to inflation. Employers contribute either by matching employee contributions dollar for dollar up to 3% of their salary or by making a 2% contribution up to a maximum of $3,400 whether or not the employee contributes. Over 50 catch-up contributions are $500 in 2002 and then go up by $500 per year until they top off at $2,500 in 2006. After that they will be indexed to inflation.
Keoghs are the most complex and offer four different types of structures. A profit-sharing defined-contribution plan, a money purchase defined-contribution plan, a paired plan, and a defined benefit plan. Few new Keoghs are being established today, since the other alternatives are much less complex and much more flexible. The Keogh does off the greatest opportunity for sheltering retirement money - as high as $125,000 per year, so if you are a high-income earner you may want to further investigate this type of retirement fund with a good tax advisor.
A new kid on the block the Individual 401(k) entered the retirement scene in 2002. These are simpler to administer than regular 401(k)s, but more expensive than the other self-employed plans mentioned above. The big advantage they offer a self-employed person is the ability to contribute as both an employee and employer. As employee, you can contribute $12,000 in 2003, which increases by $1,000 until 2006 when it maxes out at $15,000. In addition to that you can contribute as the employer at 25% of your net earnings up to a max of $40,000 as both employer and employee. Catch up contributions for people 50 and older are $2,000 in 2003, which increases by $1,000 per year until 2006 when they max out at $5,000. After that they are indexed to inflation.
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Copyright 2003, by Lita Epstein.
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