If you’re self-employed, you have several options for a retirement savings plan.  The “best” plan for you depends on how much you want to save and whether your business has employees.  The IRS publishes a pamphlet with a great overview, so I’ll just review the highlights.

Plans for everyone: the IRA and the Roth IRA

Contributions to a traditional or Roth IRA are limited to $5,000/year or to your earned income, whichever is less.   If you’re over 50, you can put in an extra $1,000.   Money put into a Roth IRA is post-tax, but withdrawals after age 59 1/2 are tax-free.  Money put into a traditional IRA can be tax-deferred, subject to income limits, but growth and pre-tax contributions are taxed when withdrawn.

An employer can set up employee IRA accounts which can be funded through payroll deduction.

Best Reference:  IRS Publication 590 — Individual Retirement Arrangements

SEP’s and SIMPLE’s

The Simplified Employee Pension (SEP) allows the self-employed person to sock away more money — 25% of net earnings, up to a maximum contribution of $49,000.  An employer can also contribute directly to a SEP for employees.

Read the rest of this entry »

Tags: 401(k), IRA, retirement, self-employed, SEP, SIMPLE

My post on the advantages of organizing your business as an S corporation was included at this week’s Carnival of Personal Finance hosted at ManVsDebt.  Check out the Carnival for Adam’s great photos of New Zealand.

The awards this week are as follows…  May I have the envelope, please.

• The award for the best use of a credit card goes to Anna who wrote about a wall-sized rainbow made up of credit cards currently on display at a Dutch art museum.
• The award for best family story goes to The Incidental Economist for  his exploits selling a family heirloom.
• The award for the best theme is a three-way tie that goes to the Suburban Dollar, Nina at Queercents, and My Money Blog who each wrote a post this week on the benefits of paying off your mortgage early.  I hope this may signal a national trend and the end of the CDO.

I also liked Jim’s post over at Getting Your Financial Ducks In A Row clarifying how to best divvy up an inherited IRA.

Robert Brokamp wrote a great guest post at Get Rich Slowly on the importance of saving for retirement, even if you don’t plan on retiring.  I think retirement will be quite different for my generation than it was for my parents’ (or their parents’), so it pays to keep an open mind about your options.

Image credit:  calca at Flickr.

Tags: carnivals, credit card art, IRA

One of the most interesting posts I’ve read recently is Frank Curmudgeon’s* The Roth Segregation Conversion Strategy.

Before we launch into Frank’s strategy, let’s cover the basics.

Recharacterization is the ability to move money that you put into your Roth IRA this year, into a traditional IRA instead.  It was created to enable people to correct their mistakes, such as funding a Roth IRA when their adjusted gross income is too high.  Recharacterization enables correction without penalty.

The basic Roth recharacterization tax-avoidance strategy goes like this:

• At the beginning of the year, you convert your IRA into Roth,
• At the end of the year, you recharacterize the Roth back into the IRA,
• If the Roth earns money during the year, you only have to recharacterize the amount put in at the beginning of the year, leaving the earnings in the Roth forever tax-free.
• If the Roth loses money, you only have to move back remaining amount into the IRA.  And you can try again next year

Mr. Curmudgeon takes it one step further,

• At the beginning of the year, you take your IRA, and divide it into two halves.
• Invest one half long and one half short (e.g. S&P 500 ETF’s), each in a Roth IRA.
• At the end of the year, one investment will be up x%, and the other will be down x%.
• Then you recharacterize both back into IRA’s.
• For the Roth that made money, you need only recharacterize the amount you originally put in, letting you leave the x% in the Roth, forever tax free.

Sounds like a great idea.  I can see why he enjoyed working in a hedge fund.  If you start with $200k, the market moves 10% in a year, and you’re in the 28% tax bracket, you’ll save $2800 in income tax, less transaction costs.  That’s only a 1.4% return on your investment, but it is risk-free.

Towards the end of his post, Frank gets cranked-up and starts optimizing the strategy through winner-take-all strategies.  You can minimize taxes by dividing your IRA investment into 37 Roths and (somehow) bet each on a different number on one spin of a roulette wheel.  One Roth will win, and it ends up with roughly 37 times its original amount, tax free.  All the other Roths are worthless.  The net result is to transfer the original sum into a Roth, tax free.  There’s the little problem that roulette bets are not a legitimate IRA investment option, but a reader proposed an option, if you’re interested.

I thought this all sounded quite interesting but just a little too good to be true.  Why would the IRS let me recharacterize only the original amount?

I began searching the IRS website.  The original IRS Code 408A(d)(6)(B)(i), clearly states that if you recharacterize, you must include the earnings.

If so, that blows the whole scheme.

There are legitimate uses of recharacterization, but use them sparingly to avoid the unpleasant glower of the IRS.  I think I’ll leave the roulette wheel to Frank.

* I love the nom de plume.

Image credit:  Flickr

Tags: IRA, recharacterization, roth

There are three types of retirement investment accounts for employees: 401(k), Roth IRA, and the traditional IRA.

If your employer offers a match to your 401(k) contributions, then your first priority should be to contribute enough to the 401(k) to maximize any employer match. For example, your employer may offer to match 50% of the first 6% of your salary that you contribute. If your salary is $50,000, and you contribute 6% ($3,000), your employer will match half, or $1,500, for a total of $4,500 in your retirement account. You don’t pay income tax now on either the contribution or the match, but you will when you take it out (plus any gains) during retirement. The idea is that you’ll then be in a lower tax bracket, so you save on taxes. (I’m not sure I believe we’ll be at a lower tax bracket in retirement, but I’ll leave that argument for another post).

Fewer companies are matching these days, and it may be a benefit on the way out, but as long as it’s there, take full advantage of it — it’s free money.  Read the rest of this entry »

Tags: 401(k), IRA, retirement, roth

This is the third post in a series on finding the best place to hold an IRA.   Previously, I reviewed transaction fees for stocks and mutual funds and the number of mutual fund offerings at each brokerage.  This time I’ll look at the types of assistance offered.  Then I’ll write a post summarizing all the pros and cons. Read the rest of this entry »

Tags: Comparing brokerages, investment advice, IRA

This is the second post in a series on finding the best place to hold an IRA.   Last time, I reviewed the stock transaction fees.  Today I’ll look at the number of mutual fund offerings and transaction fees.  Next time I’ll look at the types of assistance offered.  Then I’ll write a post summarizing all the pros and cons.

Mutual funds can be an important component of your retirement portfolio.  Funds offer reduced risk through diversification, as compared to holding individual stocks.  There is a wide range of mutual funds — over 9,000 at last count, with enough well-managed and low-cost funds to fill out most, if not all, of a solid retirement portfolio.

Mutual funds tend to come in three flavors:  no-load no-transaction fee, no-load with transaction cost, and loaded. The no-load no-transaction fee (NTF) funds tend to be a brokerage’s own funds, e.g. Fidelity funds bought through Fidelity.  However, most brokerages also have agreements enabling them to offer other house’s mutual funds with no transaction costs.  Most any brokerage will sell you any mutual fund for a fee, if they do not offer the fund as an NTF.

Here’s a summary of what I found online for each brokerage.  Of course, before taking action and moving your assets, please double-check with the brokerage(s) for your particular situation.

Fidelity: Over 1,400 NTF mutual funds offered.  For any other fund, a $75 transaction fee is assessed, in addition to any load the fund charges.  Fees are assessed if an NTF fund is held less than 180 days, to discourage short-term trading.

E*Trade: Over 1,300 NTF mutual funds offered.  For any other fund, a $50 transaction fee is assessed, in addition to any load the fund charges.  Fees are assessed if an NTF fund is held less than 90 days.

Scottrade: Over 1,200 NTF mutual funds offered.  For any other fund, a $17 transaction fee is assessed, in addition to any load the fund charges.  Fees are assessed if an NTF fund is held less than 90 days.

TD Ameritrade: Over 1,400 NTF mutual funds offered.  For any other fund, a $50 transaction fee is assessed, in addition to any load the fund charges.  Fees are assessed if an NTF fund is held less than 180 days.

Schwab: Over 2,000 NTF mutual funds offered.  For any other fund, a $50 transaction fee is assessed, in addition to any load the fund charges.  Fees are assessed if an NTF fund is held less than 90 days.

Tags: IRA, mutual funds, no-load mutual funds, transaction fees

This is the first of a series of posts on finding the best place to hold an IRA.   I’ll review transaction fees, the number of mutual fund offerings, and types of assistance offered.  Then, I’ll write a post summarizing all the pros and cons. Read the rest of this entry »

Tags: brokerage commission, Comparing brokerages, IRA

Congress passed a law at the end of 2008 letting seniors off the hook for mandatory withdrawals from IRAs in 2009.  Normally, seniors 70 1/2 and older are required to take part of their money out of the IRAs each year (so that Uncle Sam can get his cut).  Failure to do so levies a hefty penalty of 50% of the amount that was supposed to be distributed.  But at least for 2009, seniors won’t have to worry about it.

Article in USA Today

Tags: IRA, retirement, seniors