Author Topic: Need advice: retirement plans for freelancer  (Read 709 times)

cole.mike

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Need advice: retirement plans for freelancer
« on: October 31, 2019, 11:00:36 AM »
I'm sure the answer is "it depends" but I wanted to gauge to see if there was a super obvious answer. I am currently a freelancer and have a Roth IRA through Betterment that I'm maxing every year. I need to find where I'm going next. My wife works for the state and has some sweet retirement benes, but I'm looking more for me. I was thinking of creating an SEP IRA through Vanguard, but wasn't sure if there's benefits to that over a traditional IRA or 401K? I'm kind of at the point of analysis paralysis, feel overwhelmed, and need pointed in the right direction.

terran

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Re: Need advice: retirement plans for freelancer
« Reply #1 on: October 31, 2019, 12:03:00 PM »
Unless you're pushing $300k of business income or have a regular job with a 401(k)/403(b) you contribute to a solo 401(k) will offer a higher limit than a SEP IRA. You might not want to open one if you plan to hire employees, but as long as your business is just you (or you and your wife) then a solo 401(k) is the way to go.

You might want to do some research on the new section 199a Qualified Business Income (QBI) deduction that was introduced with the 2018 tax bill. It gives you a tax deduction equal to 20% of your business income (QBI) if you qualify, but tax deferred contributions to a self employment plan aren't counted towards QBI, so you get a deduction equal to 100% of the contribution, but also loose 20% of the contribution in the form of lost QBI deduction. This essentially means your marginal tax rate savings on these contributions are 80% of what your normal marginal tax rate is. 12% becomes 9.6%, 22% becomes 17.6%, etc. For this reason if can be beneficial to contribute to Roth solo 401(k).

If you currently, or might someday, make too much to contribute directly to a Roth IRA and want to be able to make backdoor Roth IRA contributions (which previous traditional IRA balances complicate) another advantage of some solo 401(k)s is that they accept income rollovers from traditional IRAs which then lets you make backdoor Roth contributions without existing traditional IRA balances.

For these two reason not all solo 401(k) providers are created equal. Some allow Roth contributions (Vanguard, Etrade, TD Ameritrade) and some allow rollovers from IRAs (Fidelity, Etrade, TD Ameritrade). If you want both features, that points to Etrade, TD Ameritrade. I recently moved my solo 401(k) from Fidelity to Etrade so I'd have access to Roth given the QBI deduction considerations I posted above.

LifeHappens

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Re: Need advice: retirement plans for freelancer
« Reply #2 on: October 31, 2019, 12:18:17 PM »
It definitely depends (sorry!). If you are only able to contribute the current max of $6000 per year, a traditional IRA is fine... However, the max is $6,000 COMBINED for Traditional and Roth. If you've got more room to save then I agree with terran's advice to set up a Solo 401K. Vanguard makes it very easy.

cole.mike

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Re: Need advice: retirement plans for freelancer
« Reply #3 on: October 31, 2019, 03:13:42 PM »
Unless you're pushing $300k of business income or have a regular job with a 401(k)/403(b) you contribute to a solo 401(k) will offer a higher limit than a SEP IRA. You might not want to open one if you plan to hire employees, but as long as your business is just you (or you and your wife) then a solo 401(k) is the way to go.

You might want to do some research on the new section 199a Qualified Business Income (QBI) deduction that was introduced with the 2018 tax bill. It gives you a tax deduction equal to 20% of your business income (QBI) if you qualify, but tax deferred contributions to a self employment plan aren't counted towards QBI, so you get a deduction equal to 100% of the contribution, but also loose 20% of the contribution in the form of lost QBI deduction. This essentially means your marginal tax rate savings on these contributions are 80% of what your normal marginal tax rate is. 12% becomes 9.6%, 22% becomes 17.6%, etc. For this reason if can be beneficial to contribute to Roth solo 401(k).

If you currently, or might someday, make too much to contribute directly to a Roth IRA and want to be able to make backdoor Roth IRA contributions (which previous traditional IRA balances complicate) another advantage of some solo 401(k)s is that they accept income rollovers from traditional IRAs which then lets you make backdoor Roth contributions without existing traditional IRA balances.

For these two reason not all solo 401(k) providers are created equal. Some allow Roth contributions (Vanguard, Etrade, TD Ameritrade) and some allow rollovers from IRAs (Fidelity, Etrade, TD Ameritrade). If you want both features, that points to Etrade, TD Ameritrade. I recently moved my solo 401(k) from Fidelity to Etrade so I'd have access to Roth given the QBI deduction considerations I posted above.

Thanks for the info. I certainly appreciate it. I am exploring the Individual 401K option through Vanguard now.

cole.mike

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Re: Need advice: retirement plans for freelancer
« Reply #4 on: October 31, 2019, 03:15:35 PM »
It definitely depends (sorry!). If you are only able to contribute the current max of $6000 per year, a traditional IRA is fine... However, the max is $6,000 COMBINED for Traditional and Roth. If you've got more room to save then I agree with terran's advice to set up a Solo 401K. Vanguard makes it very easy.

That was something else I was confused about. To clarify, the max contribution limit is pooled between Roth and Traditional IRAs. 401K (Roth or otherwise) do not contribute to that same limit?

seattlecyclone

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Re: Need advice: retirement plans for freelancer
« Reply #5 on: October 31, 2019, 05:13:06 PM »
It definitely depends (sorry!). If you are only able to contribute the current max of $6000 per year, a traditional IRA is fine... However, the max is $6,000 COMBINED for Traditional and Roth. If you've got more room to save then I agree with terran's advice to set up a Solo 401K. Vanguard makes it very easy.

That was something else I was confused about. To clarify, the max contribution limit is pooled between Roth and Traditional IRAs. 401K (Roth or otherwise) do not contribute to that same limit?

Right. 401(k)s have a separate limit of $19k in employee contributions. It doesn't count against your IRA limit, except to the extent that the 401(k) would probably make you be considered "covered by a retirement plan at work," which would subject you to some income limits on the ability to make deductible traditional IRA contributions. Roth contributions may still be available to you even if this happens, and anyone can make after-tax IRA contributions regardless of income.

The $19k of employee 401(k) contributions can be split amongst pre-tax or Roth however you like. As a self-employed person you're essentially wearing two hats: employer and employee. You can contribute the first $19k of earnings (after business expenses) while wearing your employee hat, just as you would be able to do if you worked for any other company with a 401(k) plan. On top of that you can put your employer on and make another contribution of I think 20% of earnings (after business expenses and employee contributions). This is analogous to the employer match you might receive working for someone else. These employer contributions must be pre-tax.