Setting Up Automatic Contributions Makes Saving Easy
Once you’ve opened your IRA, set up a monthly automatic deposit from your checking account to your IRA. A $6,000 yearly contribution comes out to $500 a month. If that’s more than you can manage, contribute as much as you can and try to add to it with any bonuses, raises, or gifts. You actually have until the tax filing date of the following year to make your full IRA contribution.
Maintaining 401k Plans For A Business
Most 401k plans are subject to the requirements of the IRC and the Employee Retirement Income Security Act , which provide minimum standards that protect individuals in retirement plans. Administering and maintaining plans that comply with these regulations ranges in difficulty from the moderate to the complex.
Reasons Why Retirement Planning Is Important
Retirement is something thats fairly easy to put off and worry about later, especially when you are young. After all, everything will sort itself out in the end, right?
Well what if it doesnt? Whats your plan then?
Thats the problem with that strategy often life wont work out the way you planned. And if it doesnt, youll put yourself and your family in a less than ideal situation. The best way to do that is to plan for retirement.
Chances are, you dont plan to work until the day you die. You may have even envisioned your dream retirement, sipping cocktails on a beach, on a porch in a cozy mountain retreat, or off traveling the world. But it actually takes careful financial planning for these dreams to be realized.
In this post, were giving you 9 reasons why retirement planning is important, and why you should start getting your ducks in a row early on, rather than when its too late. Lets dive in!
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The Amazing Power Of Beginning Early
Who wants to be a millionaire?
For many people, having a million dollars might seem like being elected Presidenta worthy but unattainable goal.
But getting to a million might not be that hard if you know the secret: time.
If you give your savings enough time to grow, you’ll only need relatively small investments of moneymade consistentlyto wind up with a pretty big balance.
How much do you think you’d need to save each year in order to reach a goal of a million dollars? $20,000? $50,000?
In fact, if you save just under $4,500 per year over a 45-year career, you could have over $1 million by the time you retire. And if you have the opportunity to invest in a retirement plan that offers a matching contribution from your employer, your yearly investment could be as small as $2,200.
$1 could grow to much more by retirementbut it depends what age you contribute it
This hypothetical illustration assumes an annual 4% return after inflation. Figures are in today’s dollars. The illustration doesn’t represent any particular investment.
How To Open A Roth Ira
In 2023, you can contribute $6,500 a year to your Roth IRAor $7,500 if youre 50 or older.2 You can choose from thousands of mutual funds, making it easy to spread out your investments evenly among the four categories we recommend: growth, growth and income, aggressive growth, and international.
You could open a Roth IRA through an investment company, bank or brokerage. But the best way to open an account is with an experienced investing pro who will act as a teacher and a guide. Remember, you should never invest in anything you dont fully understand. Check out SmartVestor to find a pro in your area who can walk you through each step.
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What’s The Difference Between A Traditional 401k And A Roth Ira
The primary difference between a 401k and a Roth IRA is how the savings are taxed. Contributions to a 401k are made before tax deductions, whereas those to a Roth IRA are made after tax deductions. When employees retire, their income from a 401k savings plan is subject to taxes. Qualified withdrawals from a Roth IRA, on the other hand, are tax free.
How A Solo 401 Works
The one-participant plan closely mirrors the 401s offered by many larger companies, down to the amounts you can contribute each year. The big difference is that you get to contribute as the employee and the employer, giving you a higher limit than many other tax-advantaged plans.
So if you participate in a standard corporate 401, you would make investments as a pretax payroll deduction from your paycheck, and your employer has the option of matching those contributions up to certain amounts. You get a tax break for your contribution, and the employer gets a tax break for its match. With a one-participant 401 plan, you can contribute in each capacity, as an employee and as a business owner .
Elective deferrals for 2022 can be up to $20,500, or $27,000 if age 50 or older. Total contributions to the plan cannot exceed $61,000, or $67,500 for people age 50 or older as of 2022. If your spouse works for you, they can also make contributions up to the same amount, and then you can match those. So you see why the solo 401 offers the most generous contribution limits of the plans.
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Choose A Type Of Plan
Private 401k providers require a written investment plan from each investor that includes the type of plan you wish to start. You have two options: traditional and Roth. Traditional plans entail investing money pre-tax. When the time comes for you to retire, you pay taxes on your money as you make withdrawals. Consider the potential tax rate increases before choosing this option. Instead, also consider your other option. If you open a Roth private 401k, you will invest your funds after-tax. While this could decrease the amount you can afford to invest while you are working, you have more funds to obtain when you retire. Determine which type will benefit you the most when starting a private 401k.
The Boring Glory Of Index Funds
Your best bet is to buy something called an index fund and keep it forever. Index funds buy every stock or bond in a particular category or market. The advantage is that you know youll be capturing all of the returns available in, say, big American stocks or bonds in emerging markets.
And yes, buying index funds is boring: You usually wont see enormous day-to-day swings in prices the same way you may if you owned Apple stock. But those big swings come with powerful feelings of greed, fear and regret, and those feelings may cause you to buy or sell your investments at the worst possible time. So best to avoid the emotional tumult by touching your investments
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Simplified Employee Pension Ira
Another option for self-employed folks is the SEP-IRA. Theyre primarily used by small-business owners who want to help their employees with retirement, but freelancers and the self-employed can also use this option. An advantage of the SEP-IRA is a much higher contribution limit than traditional and Roth IRAs, but unfortunately, there is no Roth option. You can contribute to your own retirement this way, but again, you cant exceed either 25% of your income or $66,000 .7
This is a good plan to consider if youre thinking about hiring employees in the future as your business grows. But remember, contributions made to yourself must be the same percentage made to your employees. So, if you put 15% of your salary into your account, you must also contribute 15% of your employees salary into their plan.
Now, lets explore another retirement option for small-business owners with employees.
Its Not As Daunting A Task As You May Think
Building a retirement fundwhich we will define as saving enough money to pay your bills when you are no longer workingcan seem like a daunting challenge. Taking a practical approach that focuses on what you can do today will help you tackle the challenge one step at a time.
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How A Keogh Works
Keogh plans usually can take the form of a defined-contribution plan, in which a fixed sum or percentage is contributed every pay period. In 2022, you can contribute up to 25% of compensation or $61,000. Another option, though, allows them to be structured as defined-benefit plans. In 2022, the maximum annual benefit was set at $245,000 or 100% of the employees compensation, whichever is lower.
A business must be unincorporated and set up as a sole proprietorship, limited liability company , or partnership to use a Keogh plan. Although all contributions are made on a pretax basis, there may be a vesting requirement. These plans benefit high earners, especially the defined-benefit version, which allows greater contributions than any other plan.
Find The Right Account
The first step on your retirement savings journey starts with picking the right account. These come in many forms, depending on your employment status and your income. Ill break down some of the basics, but before we get to that I want to do a quick refresher on what a retirement account is.
Personal finance blogger Paula Pant breaks this down in the easiest-to-understand way. Your account is just a vessel, its not an investment. She compares it to a cup of coffee your account is the cup, the investment is the coffee that you put inside of the cup.
Lets talk about the account first before we jump into filling it with coffee.
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Why Saving Is Hard For The Self
The reasons for not saving toward retirement wont be a surprise to any self-employed person. The most common include:
- Lack of steady income
- Education expenses
- Costs of running the business
Setting up a retirement plan is a do-it-yourself job, just like everything else an entrepreneur undertakes. No human resources staffer is going to walk you through the company-sponsored 401 plan application. There are no matching contributions, no shares of company stock, and no automatic payroll deductions.
Youll have to be highly disciplined in contributing to the plan and, because the amount you can put in your retirement accounts depends on how much you earn, you wont know until the end of the year how much you can contribute.
Still, if freelancers have unique challenges when saving for retirement, they have unique opportunities, too. Funding your retirement account can be considered part of your business expenses, as is any time or money you spend on establishing and administering the plan. Even more important, a retirement account allows you to make pretax contributions, which lowers your taxable income.
Many retirement plans for the self-employed allow you, as a business owner, to contribute more money annually than you could to an individual IRA.
Choose Where To Open Your Ira
Once youve identified your investing style, the next step is choosing a provider that fits your preference.
For hands-off investors
Robo-advisors are great for those who agonize over investment decisions. Look for one with a low management fee generally 0.40% or less and services that meet your needs. Automatic rebalancing and portfolio allocation are usually standard, but others such as access to human financial advisors can vary by provider.
For hands-on investors
Look for a broker that has low or no account fees and small commissions offers a wide selection of no-transaction-fee mutual funds and commission-free exchange-traded funds and provides solid customer support and educational resources, especially if youre a new investor.
Also, pay attention to account minimums and any investment minimums. Some mutual funds may require a minimum investment of $1,000 or more. An ETF can be purchased by the share, making it less expensive to get into, especially if you choose a commission-free fund.
» Learn more: What are ETFs?
» Check out all of our top picks for best IRA accounts
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Why You Can Trust Bankrate
Founded in 1976, Bankrate has a long track record of helping people make smart financial choices. Weve maintained this reputation for over four decades by demystifying the financial decision-making process and giving people confidence in which actions to take next.
Bankrate follows a strict editorial policy, so you can trust that were putting your interests first. All of our content is authored by highly qualified professionals and edited by subject matter experts, who ensure everything we publish is objective, accurate and trustworthy.
Our reporters and editors focus on the points consumers care about most how to save for retirement, understanding the types of accounts, how to choose investments and more so you can feel confident when planning for your future.
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How You Can Use Retirement Funds To Start A Business
Entrepreneurship is one of the most important developments of modern economic life. Entrepreneurs help create new companies, which spur economic growth, create jobs, and introduce new technologies, products and services that improve our living standards and quality of life.
Starting a new business or franchise is not easy and is quite risky. Hundreds of thousands of small businesses open and close every year. In addition, about 20% of businesses fail in their first year, and about half of all businesses close after five years.
For many people, the hardest part is not coming up with a business idea or a potential business to buy, but finding the capital needed to start or buy the business. Too often, an entrepreneur doesnt even know that using retirement funds could be an option for investing in a new business.
Funding new business ventures has become a popular TV phenomenon. As the producers of the reality show Shark Tank know, watching would-be entrepreneurs market their business ideas, products or services has become extremely popular with the American public.
The first place entrepreneurs typically start when looking to fund a startup is personal savings. If they do not have sufficient personal savings, then third-party loans, such as Small Business Association loans, are a popular option. However, if acquiring a loan is not viable for you, then seeking third-party investors is often the last resort.
401 Plan Loan
Which Is Right For You?
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The Standard Employee Retirement Plan
- An easy option if youre an employee
- Employer matching contributions
- Limited investment options
- It may take several years before you fully own your employers matching contributions
If youre an employee, your employers 401 could be a very convenient retirement plan option since companies usually strive to make them easy to set up and manage. A 401 is a retirement plan offered by many for-profit companies as an employee benefit. Generally, you can contribute simply by diverting part of your paycheck into the retirement plan.
Like most other types of retirement plan, a 401 provides tax advantages by reducing your taxable income. For example, if you earn $60,000 in one year and contribute $5,000 to a 401, you wont pay income tax on the portion you contributed.
Tax-free growth. The money in your 401 grows tax-free until you choose to withdraw it, at which time youll pay income tax on the money you take out. As with most other types of retirement plan, you have to be 59½ or older to withdraw money without penalty, and youre required to start withdrawing money at age 72.
High contribution limits. Another attraction of 401 plans is the relatively high contribution limit: you can contribute up to $20,500 in 2022, or $27,000 if you’re 50 or older. The total contribution limit, including both employer and employee contributions, is $61,000 .
Get Your 401 In Order
The new year is also a great time to refocus on your employer-sponsored 401 or get started on one if you havent already. The 401 plan or its cousin, the 403 for government employees provides a great way to save for retirement, and comes in two varieties: the traditional 401 and the Roth 401:
- The traditional 401 allows you to save on a pre-tax basis, meaning you wont pay income taxes on any contributions. Youll be able to grow your money tax-deferred, and youll pay taxes only when you withdraw your money in retirement.
- The Roth 401 lets you save on an after-tax basis, meaning youll pay taxes on any contributions. However, you can grow your money tax-free, and youll never have to pay tax on qualified withdrawals in retirement.
And unlike an IRA, there are no income limits for making contributions to a 401, says Jonathan Cahill, CFP, wealth advisor at Girard. But you cannot contribute more than you earn.
The maximum annual contribution to a 401 is $20,500 in 2022, and those age 50 and older can add an additional $6,500 per year as a catch-up contribution.
Other benefits of a 401 plan include creditor protection, the ability to borrow against it or take early distributions without penalty for a first-time homebuyer, Sudit says.
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Why Choose Roth Over A Traditional Ira
Like we talked about earlier, since you pay taxes on the money you put in your Roth IRA when you invest it, youll be able to use your savings in retirement tax-free. That means if you contribute the maximum amount each year, you could potentially have a nest egg worth almost $1.5 million after 30 years! Weve got your attention now, right? And you wont have to pay a penny in income taxes when you withdraw that money in retirement.
Its also important to remember that you have no idea what tax rates will be when you reach retirement, especially if you move up in tax brackets throughout your career .
With a Roth IRA, youre paying the current income taxes within your bracket as you contribute. So, when you finally settle down to enjoy that nest egg, you know exactly how much money is yours versus Uncle Sams.