CH 5. QUICK GUIDE TO SAVING AND BUDGETING FOR FREELANCERS

CHAPTER FIVE of TEN Invest in Retirement (draft)

CH 5. Invest in Retirement

Why It’s Important: Freelancers don’t have access to employer-sponsored retirement plans like 401(k)s, nor do they receive matching contributions from their employer. That means that the responsibility for building a retirement fund falls entirely on the individual. Without a dedicated plan, many freelancers risk reaching retirement age without sufficient savings, which can lead to financial insecurity later in their life. By taking proactive steps to invest in retirement, freelancers can ensure they have the financial resources they need to maintain their lifestyle after they stop working.

How to Implement

Understand Your Retirement Options

SEP IRA (Simplified Employee Pension IRA)

Ideal for freelancers who want flexibility in contribution amounts. Contributions are tax-deductible, and you can contribute up to 25% of your net earnings, with a maximum limit that changes annually (for 2024, the limit is $66,000). SEP IRAs are easy to set up and maintain, making them a popular choice for self-employed individuals. However, contributions are limited to the freelancer and can't be made by an employer.

Solo 401(k)

Designed for self-employed individuals with no employees (other than a spouse). This plan allows for higher contribution limits compared to a traditional IRA.

You can contribute both as an employee (up to $22,500 in 2024, or $30,000 if you're over 50) and as an employer (up to 25% of net earnings), with a total contribution limit of $66,000 (or $73,500 if you're over 50) for 2024.

A Solo 401(k) also offers the option of Roth contributions, which are made with after-tax dollars but allow for tax-free withdrawals in retirement.

Roth IRA

Contributions are made with after-tax dollars, so you don’t get a tax deduction up front, but withdrawals in retirement are tax-free. This can be beneficial if you expect to be in a higher tax bracket when you retire.

Contribution limits for 2024 are $6,500 (or $7,500 if you're over 50). However, eligibility to contribute to a Roth IRA is subject to income limits.

A Roth IRA is a great option for freelancers who expect their income (and therefore tax rate) to rise over time.

Start Contributing Regularly

Set Up Automatic Contributions

Automate your retirement savings by setting up regular contributions from your business or personal bank account to your retirement account. This ensures consistent saving, even if the amounts are small.

Consider contributing a percentage of each payment you receive, similar to how you manage your tax savings. For instance, if you decide to contribute 10% of your income to retirement, automate this process so you don’t forget or skip contributions.

Start Small and Increase Over Time:

If your budget is tight, start with small contributions and increase them gradually as your income grows. The important thing is to start the habit of saving, even if it’s just a little at first.

As your business becomes more profitable, aim to maximize your contributions, especially in high-earning years.

Take Advantage of Tax Benefits

Tax Deductions

Contributions to a SEP IRA or traditional Solo 401(k) are tax-deductible, reducing your taxable income for the year. This can be particularly advantageous if you’re in a higher tax bracket.

Consider working with a tax professional to optimize your contributions and understand how they impact your overall tax strategy.

Roth Accounts

While contributions to a Roth IRA or Roth Solo 401(k) are not tax-deductible, they offer the benefit of tax-free withdrawals in retirement. This can be a smart strategy if you anticipate being in a higher tax bracket later in life.

Monitor and Adjust Your Strategy

Review Your Retirement Plan Annually

Regularly review your retirement savings to ensure you’re on track to meet your goals. As your income changes, you may need to adjust your contribution amounts.

Consider increasing your contributions each year, especially if your income allows for it. Even small increases can have a significant impact over time due to the power of compound interest.

Diversify Investments

Ensure your retirement funds are invested in a diversified portfolio that aligns with your risk tolerance and time horizon. Most retirement accounts offer a range of investment options, including stocks, bonds, and mutual funds.

Rebalance your portfolio periodically to maintain your desired asset allocation as you get closer to retirement.

Why This Works.

By taking charge of your retirement savings early, you leverage the benefits of compound interest, which can significantly grow your savings over time. Consistent contributions, even in small amounts, help build a solid financial foundation for your future. Moreover, taking advantage of tax-advantaged accounts like a SEP IRA, Solo 401(k), or Roth IRA can reduce your tax liability now or in retirement, providing additional financial security. Planning for retirement is essential for freelancers, ensuring you can enjoy a comfortable and secure retirement without relying on external sources.