Author Topic: retirement accounts for the self employed spouse- does this seem right?  (Read 1940 times)

FI@2022Jem

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Hello all, and thank you in advance.  I have been bumping around the forum for several years now (but switched my name) and my partner and I are just getting to an income level where we may (2017?) make enough income to consider another retirement vehicle. 

Stats: 2 working parents, 1 toddler.  Live in CA (HCOLA).

Spouse #1: approximate annual income $74k.  I work for an employer and am hopefully maxing a 401k this year. I also have a childcare FSA that I max (sadly, childcare is still double this amount!). I supply health insurance for the family but do not have access to an HSA- I contribute a few hundred dollars to the healthcare FSA to cover mostly eye glasses and a bit for incidentals.  And I max a traditional IRA. I have a side job with access to a 457 plan- I work occasional per diem shifts and save 40% of that income in the 457 plan (this is not a ton- maybe $1500 a year, but still nice to have access to a 457!).

Spouse #2: self employed.  Income is variable maybe $45k give or take 10k depending on the year. He maxes out a traditional IRA. There is not a ton of extra money to save but I am seeking advice on opening a solo 401k, SEP IRA, or other self employed option.  I doubt we could ever save more than 18k a year- the main goal would be reduction in self employment taxes- plus, obviously, more retirement savings!

Other income: We have some rental income from a few properties of about $65k (gross).  Net is much lower due to depreciation, mortgage costs, HOA, maintenance etc.  I can't remember off the top of my head but net is probably 15k or so. 

Questions:
1- What retirement vehicle would you recommend for Spouse#2's retirement savings?  I want to optimize savings- but also want to be realistic if we can only save an extra few thousand dollars with balancing the amount of paperwork for this.  Stretch goal in the next few years would be to save another 18k/year.
2- Is there anything else jumping out that we could do to improve?

Goals:
The rental properties are our primary FIRE plans, but we need to have other retirement income to supplement this.  Best case scenario we are aiming to be bare-bones-budget FI in the next 6 years. Spouse #2 loves his work but would like to do it less and on his own terms.  For myself (spouse #1) I would love to end full-time employment but would likely want to continue per diem work or do something (again, on my own terms) to keep things interesting. 

Thanks so much for your guidance!

johnny847

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Re: retirement accounts for the self employed spouse- does this seem right?
« Reply #1 on: September 05, 2016, 06:29:38 AM »
Spouse #2: self employed.  Income is variable maybe $45k give or take 10k depending on the year. He maxes out a traditional IRA. There is not a ton of extra money to save but I am seeking advice on opening a solo 401k, SEP IRA, or other self employed option.  I doubt we could ever save more than 18k a year- the main goal would be reduction in self employment taxes- plus, obviously, more retirement savings!

Other income: We have some rental income from a few properties of about $65k (gross).  Net is much lower due to depreciation, mortgage costs, HOA, maintenance etc.  I can't remember off the top of my head but net is probably 15k or so. 

Questions:
1- What retirement vehicle would you recommend for Spouse#2's retirement savings?  I want to optimize savings- but also want to be realistic if we can only save an extra few thousand dollars with balancing the amount of paperwork for this.  Stretch goal in the next few years would be to save another 18k/year.
2- Is there anything else jumping out that we could do to improve?

Goals:
The rental properties are our primary FIRE plans, but we need to have other retirement income to supplement this.  Best case scenario we are aiming to be bare-bones-budget FI in the next 6 years. Spouse #2 loves his work but would like to do it less and on his own terms.  For myself (spouse #1) I would love to end full-time employment but would likely want to continue per diem work or do something (again, on my own terms) to keep things interesting. 

Thanks so much for your guidance!

Just to make sure we're all on the same page here: self employment taxes, otherwise known as FICA taxes, which are 15.6% of net self employment income, are never avoidable with solo 401k's, SEP IRAs, SIMPLE IRAs, or any other possible self employment income retirement vehicles. The aforementioned accounts do avoid income tax on the income.

A solo 401k is probably the best option at this point for you guys. A SEP IRA's contribution limits are too small ($5500 as an employee + some percent as an employer). A SIMPLE IRA's contribution limits are $12.5k as an employee. But the solo 401k limit is $18k as an employee + 25% of net business profits as an employer.

I have never looked into a solo 401k myself so I don't have any recommendations on which brokerage to go with.


No other suggestions here but I'm sure others will pipe in.

PowderStache

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Re: retirement accounts for the self employed spouse- does this seem right?
« Reply #2 on: September 06, 2016, 06:28:23 AM »
Solo 401k is very easy to open with Vanguard, and you get the benefit of their low-cost index funds.  Note that you do have to open the solo 401k before the end of December of the year you want to make contributions for--then you have until the tax filing deadline to actually make the contribution.

You should compare the fees on your work 401k fund options with what DH can get at Vanguard, and possibly reduce your work 401k contributions in favor of more contributions to the solo 401k.  (Obviously you will want to max out any match at the work 401k).

terran

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Re: retirement accounts for the self employed spouse- does this seem right?
« Reply #3 on: September 06, 2016, 07:04:57 AM »
I agree with the solo 401k recommendation as they're easy enough to administer and they have the highest limits except at very high income levels when the other options start to even out. You might also consider Fidelity. The Vanguard solo 401k only allows the higher fee investor share classes instead of the low fee admiral share classes, while fidelity allows any of their mutual funds, many of which are competitive with Vanguard. I also think Vanguard may charge a $20/year fee until you hit $50k (although this might include other accounts, not just the solo 401k, so you might already have enough to avoid that).

SeattleCPA

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Re: retirement accounts for the self employed spouse- does this seem right?
« Reply #4 on: September 07, 2016, 03:08:06 PM »
>self employment taxes, otherwise known as FICA taxes, which are 15.6% of net self employment income, are never avoidable

This isn't really true. You can avoid SE taxes using an S corporation. And you can use SEP contributions and potentially health insurance as deductions for both income taxes and SE taxes.

The problem is that an S corporation is a game that costs you maybe $1K a year (maybe more?) to play.

I'm not saying you want to do this, therefore, but to consider this another option... and here's how this would work.

1. Your spouse could set up an S corporation setting his or her salary to some modest amount like $20K a year.
2. The new S corporation should pay for any health insurance type benefits you want for family. E.g., maybe you get health insurance at your job but new S corp puts (say) $4K in an HSA or maybe you create an employer payment plan or a healthcare reimbursement arrangement to get to that $4K. This money saves you both income taxes and SE taxes if it's paid by the S corp.
3. The new S corporation makes a 25% SEP match on the spouse's income... which equals the $20K base wages plus the $4K health insurance stuff... so that's another $6K

Note that spouses "compensation" is now $20K plus $4K + $6K... so that figure--$30K--needs to be reasonable. (IRS says you must pay shareholder-employee reasonable wages.)

But the remaining money (maybe $15K ish) isn't subject to SE taxes.... and note that neither is the $4K of health insurance or the $6K of SEP match.

Your SE tax savings in this example equal almost $4K... but again note you're paying probably $1K to play the game.

BTW I bet if you take the 401(k) match (assuming that's what you  mean by "maxing"), your elective deferral, and the SEP get you pretty close to your desired annual savings goals.

P.S. As noted, the SE tax isn't actually 15.6%, it's 15.3%... and it's not on 100% of your income, it's actually only on a percentage of your income...
« Last Edit: September 07, 2016, 03:11:26 PM by SeattleCPA »

FI@2022Jem

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Re: retirement accounts for the self employed spouse- does this seem right?
« Reply #5 on: September 07, 2016, 09:30:31 PM »
Thank you everyone for your replies. Lots to think about!

I should clarify that I am maxing my 401k contributions to 18k.  Plus the $5500 for IRA.

Spouse #2 is contributing $5500 to IRA and we are now hoping to contribute more to retirement on his side. 

The S corporation is an idea that I hadn't even considered.  I will definitely do some more googling- but if you know- is this something that would make more sense to do with the rentals and have it be a landlord/property owner S corporation and include both spouses?  Or have it just be for spouse #2? Or some combination of Spouse #2 employment plus rentals...?

Anyway- a lot to look into!  I am glad I asked for 2017 so I have time for some more research and/or talking to my accountant. 

On that front- we have been seeing a CPA since we started the rental properties- he is very nice but not especially mustachian.  Are there are criteria for a type of accountant I should look into if we wanted to proceed with an S corporation?  Or, more generally, I should probably just create a wanted page for a South Bay Area Mustachian CPA!  Recommendations welcome!