When you think of retirement savings, an employer-sponsored 401(k) or traditional IRA likely comes to mind. While these are the most popular, and convenient, ways to build your nest egg, they are by no means your only options. If you find yourself without access to a 401(k) or wanting more diverse savings options than a basic IRA, there are many other items on the menu that are worth your consideration.
SEP IRA
A SEP IRA is much like a traditional IRA’s second cousin—they share many of the same general features, but the differences are in the details. They tend to be low-maintenance, with little paperwork and no annual IRS reports. You can modulate your participation based on whether business is booming or in a slump.
Like with a traditional IRA, investments are tax-deferred until retirement. Distributions taken before age 59½ are taxed as income and usually incur a 10 percent penalty (although there are some exceptions); minimum distributions must begin by 70½.
If you are a business owner with paid staff, you are required to contribute an equal percentage of salary for each eligible employee (this includes you). If you want to allot more for your own retirement account, your employees get that same percentage. This makes a SEP IRA more appropriate for businesses with a small number of employees, or for the self-employed.
The big difference between a SEP IRA and its traditional cousin is in its contribution limits, which are significantly higher. The limit for a SEP IRA is either $56,000 or 25 percent of net earnings, whichever is lower. However, SEP IRAs do not allow for catch-up contributions.
SIMPLE IRA
If your 401(k) is overly complex, a SIMPLE IRA may be a good alternative (or supplement). It works much like a 401(k): Contributions are pre-tax, they accumulate tax-deferred growth until retirement, and there is a penalty for early withdrawals. The difference comes in an employer’s obligation, which in a SIMPLE IRA is a mandatory 1-3 percent match of employee contributions. Under a 401(k), the employer has no obligation to contribute, and this perk is often the first to go in tough economic times.
A potential downside is that contribution limits are lower than for a SEP IRA or traditional 401(k)—$13,000 in 2019. And if you need to pull money out early, the penalties can be severe—as high as 25 percent if you withdraw or roll over in the first two years. Catch-up contributions are limited to $3,000 in 2019.
Health savings accounts
If your employer offers a high-deductible health plan, odds are it also provides a health savings account (HSA). HSAs are convenient, safe places to save for unexpected medical expenses and pay for ongoing obligations such as deductibles and premiums. They can also be a useful retirement planning tool.
Contributions are pre-tax, and they grow tax-free. Much like with a 401(k), employers often match contributions, and there are no mandatory distributions come age 70½. If you need to take money out for medical expenses, those withdrawals are also tax-free. Just be sure that the expenses are qualified under the terms of your HSA, or you’ll risk a 20 percent penalty.
But don’t spend it all just yet. To ensure maximum retirement savings in your HSA, you may want to put your own money toward medical bills during working years. If you enroll in Medicare at age 65, dollars contributed to an HSA are no longer pre-tax.
Roth IRA
Contrary to its sibling, the traditional IRA, contributions to a Roth IRA are not tax-deductible, but they are thereafter tax-free, including when you withdraw them upon retirement. Since you’ve already paid taxes on these contributions, you can take them out anytime with no penalty. This applies only to contributions, not to earnings on investments.
Also, unlike with a traditional IRA, there are no required minimum distributions when you reach 70½, meaning you can pass earnings on to your heirs. You can also withdraw without penalty starting at age 59½, assuming you’ve had the account for at least five years.
Contribution limits for 2019 are $6,000 ($7,000 if you are 50 or older). The one potential hiccup is that eligibility for a Roth IRA depends on income. If you cross a certain threshold, which varies depending on marital and tax status, you may earn too much to qualify.
No 401(k)? There’s another way
If your employer provides, and contributes to, a 401(k), that is generally the easiest way to kick your retirement savings into high gear. But don’t let your ambitions stop there. Once you’ve received the match, there is a wide world of possibility out there to increase your savings.
If the options seem overwhelming, you don’t have to navigate them alone. We’d be happy to talk you through which ones best fit your retirement goals.