Whether you're in the early stages of your career or have spent three decades or more in the workforce, it's never the wrong time to be focusing on retirement. Here's what you need to know about retirement planning this year.
Finding a home for your savings
When it comes to retirement savings, most people are looking at two main options for stashing their money: IRAs and 401(k)s. The latter, however, generally relies on your employer offering such a plan, though it's estimated that 79% of Americans work for companies that sponsor 401(k)s.
IRAs and 401(k)s each have their own advantages and drawbacks. The problem with IRAs is that their annual contribution limits are considerably lower than what 401(k)s allow for. If you're under 50, you can put up to $5,500 away this year in your IRA. If you're 50 or older, you get a catch-up provision that raises this limit to $6,500.
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Employer-sponsored 401(k)s, on the other hand, come with an annual contribution limit of $18,500 for workers under 50, and $24,500 for those 50 and older. This represents a $500 increase from last year. In addition, since many companies are willing to match employee contributions to a certain degree, you may get a chance to put even more money away in a 401(k) this year.
On the other hand, 401(k)s tend to offer fewer investment options than IRAs, and that could pose a problem on two levels. First, you might struggle to find investments that align with your risk tolerance and strategy, but secondly, you might lose more money to investment fees in a 401(k) than in an IRA -- though this isn't always the case, as it will depend on the specific investments you choose.
Both IRAs and 401(k)s come in the traditional and Roth variety. With the former, your money goes in tax-free, but withdrawals are taxable in retirement. With the latter, you don't get a write-off for the 2018 tax year for making contributions, but when the time comes to take distributions in retirement, that money is yours clear and free of taxes. Keep in mind, however, that there are income limits for contributing to a Roth IRA directly.
Saving for retirement when you're self-employed
One downside of working for yourself is not getting access to an employer-sponsored 401(k). But that doesn't mean you're out of options. In addition to the traditional or Roth IRA, you have two other choices: the SIMPLE IRA and the SEP IRA.
With a SIMPLE IRA, you can contribute up to $12,500 this year if you're under 50, or $15,500 if you're 50 or older. Keep in mind, however, that if you open a SIMPLE IRA and have employees, you're required to match contributions either by contributing a fixed rate of 2% of every employee's compensation up to a maximum of $5,500, or by matching employee contributions dollar for dollar up to a maximum of 3% of compensation. If you're self-employed, you're considered both the employer and employee for contribution purposes.
With a SEP IRA, you can contribute up to 25% of your earnings for a maximum of $55,000, which represents a $1,000 increase from the previous year. That 25%, however, applies to net earnings from your business, which are figured by taking your gross income and subtracting both your SEP IRA contribution as well as half of your self-employment tax. Furthermore, you should know that if you own a business with employees, you're required to make the same contribution percentage-wise to their accounts as you do to your own.
How should you save this year?
Given the number of savings options out there, choosing the right retirement plan may be easier said than done. To help guide your decision, ask yourself the following questions:
- How much money am I looking to contribute this year?
- Do I need a tax break this year?
- Is it important to me to have tax-free income in retirement?
The following table will help you compare your retirement savings options to see which type of plan might be the best one for you:
|
Item |
Traditional IRA |
Roth IRA |
SEP IRA |
SIMPLE IRA |
401(k) |
Roth 401(k) |
|---|---|---|---|---|---|---|
|
Annual contribution limit |
$5,500 if you're under 50; $6,500 if you're 50 or older |
$5,500 if you're under 50; $6,500 if you're 50 or older |
25% of earnings, up to $55,000 |
$12,500 if you're under 50; $15,500 if you're 50 or older |
$18,500 if you're under 50; $24,500 if you're 50 or older |
$18,500 if you're under 50; $24,500 if you're 50 or older |
|
Taxes on contribution dollars |
Contributions are made with pre-tax dollars |
Contributions are made with after-tax dollars |
Contributions are made with pre-tax dollars |
Contributions are made with pre-tax dollars |
Contributions are made with pre-tax dollars |
Contributions are made with after-tax dollars |
|
Taxes on withdrawals |
Withdrawals are taxed as ordinary income |
Withdrawals are tax-free |
Withdrawals are taxed as ordinary income |
Withdrawals are taxed as ordinary income |
Withdrawals are taxed as ordinary income |
Withdrawals are tax-free |
Table by author.
No matter which type of plan you opt for, let 2018 be the year in which you contribute as much as you can. The more money you set aside today, the more you stand to retire with -- and that's something you'll come to appreciate once the time comes to bring your career to a close.
