I just used the words “sexy” and “retirement” in the same sentence and I’m serious! Everybody needs to save for retirement, we all know that. That’s not sexy, that’s just a fact of life. But if you can get free money or tax free income while you’re saving – well, that makes it downright sexy!
So what are the three sexiest retirement savings strategies? The employer match, the Roth IRA, and the solo 401(k). Let me explain why.
First: The Employer Match. An employer match is where your boss matches a certain amount of your 401(k) contribution. For example: let’s say you make $50,000 a year and your employer has a 3% match. Three percent of $50,000 is $1,500. Your employer will “match” what you put in, so you’ll need to contribute at least $1,500 into your 401(k) to get the $1,500 from your employer. That’s free money to you! When you contribute to your 401(k) – it’s not counted on your tax return, but you still pay social security and medicare withholding on that money. The employer match has no withholding on it. It’s a straight contribution to your retirement savings. Free money. Free money is sexy! If you work for a company with an employer matching program, you need to get in on the action!
Second: the Roth IRA. A Roth IRA has no up front tax benefits to it. You put the money in after you’ve already paid tax on that money. What’s sexy about the Roth is that your investment grows tax-free. And more importantly, when you retire – you take that money out tax-free! I cannot stress just how valuable being able to access tax-free income during your retirement is! The Roth is probably the most accessible of the retirement options I’m talking about, but there are limits as to who can contribute to a Roth. Here’s a link to the IRS website showing the current limitations: Roth Limitations
Third: The Solo 401(k). If you’re a solo business owner, or you and your spouse own a business together, then a solo 401(k) might be the plan for you. For one thing – you can contribute up to 100% of your earned income (up to the maximum contribution allowed) to your 401(k). This is great for folks who are actively trying to “catch up” on their retirement savings (and also happen to have another source of income!)
A solo 401(k) also allows you to make an “employer match” of up to 25% of your earned income. You see, when you work for yourself, you’re both the employer and the employee!
So how do those numbers work? Let’s say you own an S Corporation and you pay yourself a wage of $50,000. You can make an elective deferral – that’s what they call your 401(k) contribution – of up to $18,000 (or $24,000 if you’re 50 or older.) That means your W2 is going to show that you have $32,000 of taxable income. ($50,000 minus the $18,000 that you applied towards your 401(k). You’ll have paid social security and medicare taxes on the full $50,000 – because you still pay the FICA on your retirement savings, just like if you worked for someone else.
But now, you’re still allowed to make an employer match of up to 25% of your earned income – in this case, I mean wages. So, you could contribute another $12,500 towards your 401(k) as an employer match TAX FREE! You don’t pay regular income tax on that money because it’s a business expense, right? So it’s deducted from your business income as an employee benefit (where you’re the employee.) And, since it’s an employer match – you don’t pay FICA either. How cool is that?
Saving for retirement is necessary for everybody, but if can manage to swing tax free savings or tax free income it makes saving much more exciting. You might even call it sexy!