Suddenly Become Self-Employed? We’ve Got a Retirement Plan for You.
Has your furlough become permanent or have you decided not to return to your place of work due to the COVID-19 pandemic? Is it time to turn a long-time interest into a business? If so, you are among the many older Americans who have recently joined the ranks of the self-employed, or are now semi-retired and working a nontraditional job. If that’s you, putting a tax-advantaged retirement plan in place is a smart step along your entrepreneurship and/or nearing-retirement journey.
Deciding how to approach your new employment situation and retirement strategy depends on certain factors. Perhaps you already have an established IRA you’ve been contributing to over the course of your career, with ample savings there and Social Security benefits on the horizon—but you like the idea of continuing to work in some capacity. Or maybe you had an employer-sponsored retirement plan but have separated service from that employer—in which case, you can roll those funds over into a new retirement plan.
With the sudden change in status from W-2 employee to independent contractor or business owner, you may not be aware of the self-employment taxes that come along with this new phase of your working life. You can continue to beef up your nest egg with several different retirement plans that also provide shelter from those taxes—and can all be self-directed.
Three ways for the self-employed to save for retirement
While you may continue to contribute to an existing Traditional or Roth IRA, there are additional options for the self-employed to consider, each with distinct tax advantages: a SEP IRA, SIMPLE IRA, or a solo 401(k). Plus, if you open a self-directed retirement plan, you can include many alternative assets and build diversity into your retirement portfolio through the nontraditional investments these plans allow—like real estate, private equity, lending, hedge funds and partnerships.
A solo 401(k) is for individuals operating an owner-only business (a spouse may also participate) and can replace your employer-sponsored 401(k) plan. Note that employee elective deferrals must be made by December 31; the employer contribution can be made upon calculating and finalizing the net income when doing the tax returns (March or April of the following year).
Qualifying for each type of plan depends on whether you are entirely self-employed or also still working for a company with a retirement plan (to which you may still contribute). These plans not only help individuals maximize their retirement savings—they are tax-saving tools as well, with different contribution strategies for each type of plan and according to your specific financial situation. Therefore, we recommend you review and discuss these with your trusted advisor to maximize your tax-saving opportunities.
If you have any questions about the types of alternative assets allowed in a self-directed SEP IRA, SIMPLE IRA or solo(k), or how the transaction process works with a self-directed retirement plan administrator, schedule a complimentary education session with a Next Generation representative. Alternatively, we’re also available to answer your questions via phone at 888.857.8058 or by email at NewAccounts@NextGenerationTrust.com.
Social Security Cost of Living Adjustment (COLA) for 2021
It was announced in mid-October that Social Security beneficiaries will see a 1.3% cost- of-living adjustment (COLA) in their monthly distribution checks, effective January 1, 2021. The Social Security Administration says this is in line with prior years’ increases, although it is slightly smaller than the 1.6% increase in 2020 and a more significant 2.8% bump to monthly checks in 2019. Looking back over a longer timeline, the COLA was zero several times (2010, 2011, 2016) and only 0.3% in 2017. Back in the 1970s and 1980s, the figures are much higher, ranging from around 6% in 1977 to 14% in 1981.
Given the financial effects of the COVID-19 pandemic on many Americans, including those receiving Social Security checks, that 1.3% increase won’t go too far in many areas of the country. According to the Social Security Administration, the average monthly benefit increase will be as follows for various categories of recipients:
- All retired workers, $20
- Aged couples who both receive benefits, $36
- Disabled workers, $16
Some other changes coming in 2021 are:
- The maximum amount of wages taxed for Social Security goes up from $137,700 now to $142,800 in 2021.
- For those of full retirement age, the maximum monthly retirement benefits are going up from $3,011 to $3,148 a month in 2021.
- In addition, the full retirement age is once again inching up based on year of birth.
The cost-of-living adjustment is based on the consumer price index for urban wage earners and clerical workers. However, this formula focuses on younger workers under age 62, who are not claiming benefits nor having Medicare payments deducted from their monthly Social Security income. Let’s not forget the rising costs of living seniors face in general, which outpace that COLA amount—food, housing, and prescription drugs among them.
There is a groundswell to change the COLA calculation to the consumer price index for the elderly instead. This is the Social Security 2100 Act, which is being put forward by Congressman John Larson of Connecticut. It expands benefits for current and future recipients, cuts taxes on the elderly, and aims to keep the Social Security Trust Fund solvent through the rest of this century.
Social Security is not so secure
Any way you slice it, relying heavily (or in many cases nationwide, solely) on Social Security for one’s retirement income does not bode well for today’s retirees —especially right now, when the fund is scheduled to be insolvent by 2033. Being more proactive about retirement saving can provide more stable financial health during one’s working and retirement years.
While Social Security benefits provide a financial safety net as per the program’s original intent, in today’s world, those benefits don’t stack up for individuals seeking to retire comfortably and maintain their accustomed lifestyle. That’s where self-directed IRAs and the nontraditional investment they allow can really shine.
Self-directed IRAs allow account owners to include a broad array of non-publicly traded, alternative assets, such as real estate, private equity, notes/loans, precious metals, and so many more. Self-directed investors can be proactive as well as nimbler about how they invest for their later years. That’s because, as individuals who make all their own investment decisions, self-directed investors can take advantage of market shifts and opportunities, and invest in many alternative assets they already know and understand, and that provide a hedge against stock market volatility.
At Next Generation, we’re all about client education. You can read more about the different types of self-directed retirement plans for individuals and business owners here. You may also schedule a complimentary educational session to get the information you need to decide whether self-direction is the right retirement strategy for you. Our helpful team is here to answer questions as well; you may contact us directly via phone at 888.857.8058 or NewAccounts@NextGenerationTrust.com.
The SECURE Act and Self-Directed Retirement Plans
The SECURE Act, signed into law on December 20, 2019, is comprehensive legislation written to expand retirement savings, simplify existing rules, preserve retirement income, and improve plan administration. SECURE stands for Setting Every Community Up for Retirement Enhancement.
The bill mostly makes significant changes to workplace retirement plans; other provisions affect retirement plans in general, including self-directed IRAs. Here is a look at some of the changes, effective January 1, 2020.
For those who own a self-directed Traditional or Roth IRA:
- Increase in RMD age for Traditional IRAs – The required minimum distribution age is now 72. Individuals who turn 70½ in 2020 would not be required to take a minimum distribution until April 1st of the year in which they turn 72. This only applies to individuals who turn 72 in 2020 or later.
- Contribute to your Traditional IRA longer – Workers age 70½ and older with earned income may now continue contributing to a Traditional IRA—and continue building up retirement savings. This only applies to individuals who are turning 70½ in 2020 and later.
- Tax penalty exemption for birth or adoption of a child – For a qualified birth or adoption, the account holder can withdraw a total of $5,000 as an early distribution without the 10% penalty, when the distribution occurs within one year of the event. Income taxes still apply.
- Graduate student IRA contributions – Certain payments to graduate and postdoctoral students will be treated as earned income for IRA contribution purposes.
- No more stretch IRAs – The lifetime distribution option for certain non-spousal IRA beneficiaries is now eliminated and most non-spouse inheritors who are more than 10 years younger than the deceased IRA owner will be required to take all distributions within 10 years. Exceptions include beneficiaries who, at the time of the account owner’s death, are:
- Disabled or have certain chronic illnesses
- Within 10 years of the decedent’s age
- Minors (10-year payout period begins upon reaching the age of majority)
- Recipients of certain annuitized payments begun before enactment of the SECURE Act.
For business owners who have a SEP IRA, Solo 401k, or other qualified retirement plan:
- Longer deadline to establish a plan – Now employers may establish a qualified plan as late as their business tax filing deadline, including extensions, rather than the last day of the company’s business year. This extension will not apply to certain plan provisions.
- Increase in small-employer plan startup credit – Up to $5,000 per year, effective for 2020 and later taxable years, for employers with up to 100 employees over a three-year period beginning after December 31, 2019. The credit applies to SEP, SIMPLE, 401(k), and profit-sharing plans.
- Automatic enrollment credit – Employers that include an automatic enrollment feature in their new or existing small 401(k) plans or SIMPLE IRA plans will get a maximum annual tax credit of $500 for each of the first three years that the plan is maintained. (Effective for 2020 and later taxable years.)
- Participation by part-time employees – Employees who work at least 500 hours over three consecutive 12-month periods (and who satisfy the plan’s minimum age requirement) must be offered participation in the employer’s 401(k) plan.
All SECURE provisions have tax consequences for individuals and plan sponsors. As always, the team at Next Generation strongly recommends you consult your trusted advisor regarding how the SECURE Act provisions may affect your specific tax situation.
Secure a more diverse retirement portfolio through self-direction
In light of the recent changes, consider including alternative assets within a self-directed retirement plan. Those who are comfortable making their own investment decisions and who understand certain nontraditional investments can build up their retirement savings—and hedge against stock market volatility—with such assets as real estate, precious metals, private equity, hedge funds, private notes, and more.
At Next Generation, we’re here to answer your questions about self-direction as a retirement wealth-building strategy, or how certain provisions of SECURE may affect your self-directed retirement plan. You can arrange a complimentary educational session with one of our representatives, or contact us directly at 888.857.8058 or NewAccounts@NextGenerationTrust.com for more information.
Why Yes, Millennials are Saving for Retirement
The Millennial generation—those born between1977 and 1996—is projected to equal or surpass the size of the Baby Boomer generation over the next 20 years. They currently comprise the largest segment of today’s workforce. So what is this age group doing about saving for retirement?
Although Millennials are often misrepresented as “live in the moment” folks who prioritize life experiences over long-term financial planning, you may be surprised to find out that they are also more engaged at an earlier age with retirement savings in the workplace.
According to the Pew Charitable Trust Retirement Savings Project, Millennials had higher balances in their defined contribution plans than their Gen X counterparts did at a similar age (based on U.S. Census Bureau data). In addition, Millennials between ages 25 and 31 are saving more into retirement accounts than those right out of school.
The Transamerica Center for Retirement Studies supported this with the following statistics:
- Seventy-one percent of Millennials are saving for retirement through employer-sponsored plans
- The median age to start saving was 24, which is younger than prior generations
- Those participating in a 401(k) or similar workplace plan are contributing a median of 10 percent of their annual salaries
- More than half of Millennials surveyed said they expect their primary source of retirement income to be self-funded through retirement accounts (such as IRAs and employer-sponsored plans) or other savings and investments
- The estimated median amount that Millennials have saved in all household retirement accounts is $23,000
Given that the Social Security Trust Fund Reserve may be depleted by 2034 and benefits reduced, these savers are not only being proactive, they’re being smart.
Another smart savings move for savvy Millennials: Self-directed IRAs
Motivated savers can build a more diverse retirement portfolio, given the diverse types of alternative assets these plans allow. By making their own investment decisions, Millennials and others can take advantage of market shifts they are following more nimbly, or choose to invest in assets they care about or that reflect their interests—from becoming an investor in a theatrical production to owning shares in a specialty farm business.
If you’re a younger investor looking to do more with your IRA, you probably have some questions about self-directed retirement plans. As a convenience, Next Generation offers complimentary educational sessions with easy scheduling. Alternatively, you can contact us via email at NewAccounts@NextGenerationTrust.com or call 888.857.8058.