The 5 Best Retirement Accounts for the Self-Employed

The 5 Best Retirement Accounts for the Self-Employed

There’s a lot of retirement advice out there for people with traditional jobs. I even have a huge post breaking down the pros and cons of traditional retirement accounts to help you choose the right one.

But what if you’re self-employed? Or what if you’re earning a little money on the side and want to put it away for the future?

What are your options then?

There’s a lot less information available for people in that situation. It can be hard to even figure out what your options are, let alone which one is best for your particular goals.

So in this post I break down the best retirement accounts for self-employed individuals. What are your options and why would you choose one over the other?

This is primarily meant to be for solopreneurs or people earning money on the side. It doesn’t matter how much you’re earning, as the advice here will work whether it’s a lot or a little. But things do get complicated pretty quickly if you have employees, so if that’s you I would suggest working with a professional to help you set up a retirement plan.

So if it’s just you and your business, here are some great ways to save for retirement and get that much closer to financial independence.

Traditional and Roth IRA

Traditional and Roth IRAs are dedicated retirement accounts available to anyone, self-employed or otherwise. Which is part of what makes them such a great option.

Since anyone can open an IRA, just about every investment company out there offers them. Which makes it incredibly easy to:

  1. Find a low-cost provider
  2. Open an account and start contributing
  3. Choose from a long list of great investment options

When you combine all of that with the great tax breaks they offer, IRAs are typically the best way for self-employed individuals to start saving for retirement.

With that said, there are some restrictions to consider:

  • Contributions are limited to $5,500 per year (for 2015).
  • High-earners may not be able to contribute to a Roth IRA (though a Backdoor Roth IRA may still be an option).
  • If you contribute to an employer plan, including one of the dedicated self-employed retirement plans we get into below, you may not be able to deduct your Traditional IRA contributions (more on that here).

All in all though, both Traditional and Roth IRAs are great options that are easy to start. Here’s some more information that will help you choose between the two:

Health Savings Account (HSA)

Not many people know about the Health Savings Account, but the truth is that it could very well be the best retirement account out there.

The reason is simple: it’s the ONLY account that offers a TRIPLE tax-break:

  1. Your contributions are tax-deductible
  2. Your money grows tax-free inside the account
  3. Your withdrawals are tax-free when used for medical expenses

You’re also able to invest the money just like you would within an IRA if you choose the right provider.

The only real catch is that you have to have a qualifying high deductible health plan in order to contribute to a health savings account. Many people don’t have that.

But if you’re self-employed, you may have a lot more freedom to choose your own health insurance and therefore choose an HSA-eligible plan. Of course this shouldn’t be the only factor when choosing health insurance, but it could be an important one.

If you ARE eligible to contribute to a health savings account, I would highly consider doing so. That triple tax break is something you won’t find anywhere else.

Click here to learn how to choose the best health savings account for your personal needs.

Solo 401(k)

Now we’re getting into retirement accounts SPECIFICALLY designed for the self-employed. First up: the Solo 401(k).

A Solo 401(k) – also called an Individual 401(k) or Self-Employed 401(k) – is a lot like a 401(k) you would find in a big company. It’s just that when there’s only one person in the company (you!), there are fewer rules to follow and it’s therefore much easier to manage.

The best part about a Solo 401(k) is that you have a LOT of flexibility to contribute as much or as little as you would like. Here are annual the contribution limits for 2015:

  • Up to $18,000 as an employEE contribution, just like with a regular 401(k).
  • Up to 25% of net income as an employER contribution (you are the employer), on top of the employEE contribution.
  • Up to $53,000 total between the two types of contributions.
  • No obligation to make any contribution in any given year.

Essentially, you have the OPTION to contribute more than you can with the two other types of accounts we’ll discuss below, without the OBLIGATION to contribute anything. You also have the option of opening a Roth 401(k) if you prefer those tax benefits over the Traditional 401(k).

That flexibility is the reason I tend to prefer the Solo 401(k) over other self-employed retirement accounts.

Now, there are some things to consider here, some of which might be considered drawbacks:

  • There is a little more paperwork required to set up a Solo 401(k), which means they aren’t quite as easy to open as the two options below (though in most cases it’s still fairly simple).
  • You can only operate a Solo 401(k) if you don’t have employees (a spouse is not counted as an employee). If you have employees or plan on hiring some in the near future, you may want to talk to an expert.
  • Sometimes Solo 401(k) providers will try to charge extra fees for these accounts, though there are plenty of free or low-cost providers out there like Vanguard, Fidelity, Schwab, and TD Ameritrade.
  • You have to open it before the end of the year if you want to make contributions for that year. That’s unlike the SEP IRA that we’ll talk about below, where you have until April 15 of the next year to open it.

For my money, a Solo 401(k) with the right, low-cost investment company is often the best option if you’re self-employed without employees. The ability to make bigger contributions than you can with the other accounts below outweighs the fact that there’s slightly more paperwork.

For more on the Solo 401(k), you can refer to this overview from the IRS.

SEP IRA

For the most part, a SEP IRA works just like a Solo 401(k). You can open it with all the same providers, and the contribution limits are similar as well:

  • Up to 25% of net income as an employER contribution.
  • Up to $53,000 total.
  • No obligation to make any contribution in any given year.

The BIG difference is that you AREN’T allowed to make the $18,000 employEE contribution that you can with a Solo 401(k). Which for many people means that you simply can’t contribute as much with a SEP IRA as you can with a Solo 401(k).

So why would you ever choose a SEP IRA? There are a few reasons to consider it:

  • They’re incredibly easy to open. You can be up and running with a SEP IRA very quickly.
  • You have until April 15 of the next year to open a SEP IRA and make contributions for the prior year.
  • You CAN have a SEP IRA with employees (though there are more rules you have to follow), which might make that transition a little easier.
  • If your business’ net income is $212,000 or more, you could contribute the same amount to a SEP IRA as to a Solo 401(k), since the 25% employer contribution would reach the $53,000 total allowed contribution.

Also, keep in mind that you CAN have a SEP IRA in addition to a Traditional or Roth IRA. They are considered separate accounts with separate contribution limits, so there’s nothing to worry about there.

For more on the SEP IRA, you can refer to this FAQ from the IRS.

SIMPLE IRA

The fifth option is a SIMPLE IRA, which is kind of like a mix between the Solo 401(k) and SEP IRA.

It’s easy to open, just like a SEP IRA, but the contribution limits work more like a Solo 401(k):

  • Up to $12,500 as an employEE contribution.
  • Either a 3% employER match on your employEE contribution, or an automatic employER contribution of 2% of net income.

Essentially, it’s an employee contribution with an employer match, but you are BOTH employee and employer. You can also run this kind of plan with up to 100 employees and it works pretty much the same way.

So if it’s just you and your business without employees, when would you choose a SIMPLE IRA? I would consider it under the following conditions:

  1. You want to avoid the slightly higher amount of paperwork that’s required to open a Solo 401(k).
  2. You want the ability to make an employEE contribution that isn’t limited to a percent your business income (as opposed to a SEP IRA).

For more on the SIMPLE IRA, you can refer to this FAQ from the IRS.

Just get started!

There are a lot of numbers and rules here and I know that it can feel a little overwhelming. You might be looking at all of this and thinking “Hey! I just want to run my business and save some money. Just tell me which one is best!”

I hear you. So here are two parting thoughts to help you out.

First, remember that BY FAR the most important part of your investment plan is your savings rate. All of these plans are great, and the worst case scenario is that you end up switching later on. So just get started without worrying about it too much.

Second, while there are no golden rules, here’s a quick order of operations to help you decide:

  1. Start with a Traditional or Roth IRA.
  2. Use a health savings account if you can.
  3. If you’re okay with a minimal amount of paperwork and you won’t be hiring employees in the next year or so, go with a Solo 401(k).
  4. If avoiding that paperwork is important to you, go with a SEP IRA if 25% of your net business income is all you’ll want to contribute.
  5. Otherwise, go with a SIMPLE IRA if you like the ability to make a contribution that isn’t limited to a percent of your business income.

Have you ever had self-employment income? If so, what retirement accounts have you used and why?

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  • Patrick September 15, 2015

    Matt! You missed my favorite account of them all — the self-employed Defined Benefit Pension! The best part is you can do this and the Roth 401(k) w/ profit sharing. I have a client who defers over $300k a year this way (w/ spouse). It’s pretty amazing, but the initial leg-work and maintenance costs are a little more than the above options.

    • Matt Becker September 16, 2015

      Oh man! Might be time for another guest post. I’d love to know more about exactly how to set that up. Thanks Patrick!

  • Money Beagle September 15, 2015

    And if you exhaust all of these, there is nothing prohibiting you from opening a regular old account and noting it in your own personal records as retirement. I think many times people forget that just because the official accounts are exhausted, that there’s no reason to stop saving if you have the means to do so.

    • Matt Becker September 16, 2015

      Great point! Regular old taxable accounts are a great option and can actually give you a lot of flexibility later on. Thanks for pointing that out!

  • Dane Hinson September 17, 2015

    I’m a huge fan of the Roth IRA. I always stress diversification, even tax diversification. So I encourage people to invest in retirement accounts that are tax deductible (contributions) as well as tax deferred.

  • Cody Gantz September 29, 2015

    When I started my company, I opened a Roth IRA just to get going with some retirement account. However, I quickly realized what a big difference tax deductions can make today, over tax deductions in future. That inspired me to open a Traditional IRA, and now I’m opening and HSA (thanks to your sage advice) 🙂

    • Matt Becker September 29, 2015

      Awesome Cody! Either way you go that’s great progress, but yeah the HSA is pretty powerful!

  • Edward December 8, 2016

    I am Self employed Individual I want to open a HSA account for 2017 year.So i already applied for a HDHP Insurance which HSA eligible policy.
    I normally Max out my SEP account $53k for past two years .I am also looking forward to open a Solo 401k so i can skip SEP and focus on solo 401k its faster then SEP .Now i am looking to shelter more money if i can for the next year 2017 .
    My question is Can i still contribute to HSA when i have SEP AND SOLO 401K????

    Second question – Can i Still contribute $3400 Maximum 2017 HSA contribution-self-only when i already max out the $53k on MY SEP AND SOLO 401K?????

    So if this works i can contribute 53k max and also additional $3400 for HSA next year:)

    Please help me i am so confused.
    Thank You

    • Matt Becker December 9, 2016

      Good question Edward. HSA contribution limits are not affected by participation in a SEP IRA or Solo 401(k), so yes you can contribute the maximum to your HSA regardless.

      Keep in mind though that you cannot max out BOTH a SEP IRA and a Solo 401(k). The maximum contribution you can make is a combined limit across self-employed retirement accounts.

      • Edward December 9, 2016

        Thank you Matt for helping me with my question.Yes this year i just want to contribute to Solo 401k and let my SEP Rest and focus on solo 401k as they are more advantages with Solo 401k for self employed i figured this year i better off with Solo 401k.As per what i know for 2017 IRA SEP AND Solo they raised to 54k from 53k.
        So i just want to max out my solo 401k for 2017 if i can make enough to contribute this new year that will be good.

        One final question I will be moving out of state to TN on February permanently so i am opening 1 month HSA on the state i am living right now that is GA .Will this affect my HSA when i go to the new state??? and also i saw that my insurance will be high in TN 🙁 and how this effect my HSA

        • Matt Becker December 9, 2016

          I’m not 100% sure on the details here Edward, but as far as I know moving to another state won’t by itself affect your ability to contribute to an HSA. It’s simply a question of whether you continue to have health insurance that is HSA eligible.

  • Edward December 9, 2016

    Thank you once again Matt.I will lock up this HSA insurance in GA.I just checked in TN insurance HSA looking like it will cost like $575 mininmum i am just shocked how expensive in that state.My question if i get a HSA in GA and fund my Max contribution for the year 2017 on January and on February when i move to TN can i find a regular non HSA Less cost insurance ???? Can i do that or the only one way i can make full Max HSA contribution is i need to have the HSA account for a full year???
    Thank you once again for your generous help

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