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I’m sure you’ve heard someone (maybe even here on this blog) tout the benefits of investing in a 401(k)! If your employer offers a 401(k), you should absolutely take advantage of this extremely useful investment tool and start saving for retirement.
But what should you do if your job, unfortunately, doesn’t offer a 401(k) option? What if they don’t provide any employer-sponsored qualified retirement plan at all? Are there 401(k) alternatives to help you save for retirement? How can you prepare?
Rest assured, you’re in good company. According to PEW charitable trusts, 35% of workers over twenty-two in the private sector don’t have access to a 401(k). You aren’t alone. So what options are available to you if you’re self-employed, a small business owner, or simply working for a company that doesn’t offer a 401(k)? Let’s explore three great 401(k) alternatives!
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3 Alternatives to The Traditional 401(k)
Most of us make choices based on the information in front of us. We measure our decisions by the (hopefully) long-term positive effects they will have on our lives. But none of us can predict the future. Sometimes the best-laid plans don’t pan out, and it’s time to move on to “plan B.”
In the world of retirement saving, the 401(k) has become “plan A” for most people. Not only is it a safe, savvy option to build a solid foundation for your retirement, but it’s become the norm amongst most employers these days.
I say “most employers” but certainly not all employers offer a 401(k). Sometimes you need a plan B and that’s why it’s good that there are many 401(k) alternatives out there, even among employer-sponsored qualified retirement options. Some plans are more popular than others. Familiarize yourself with the many different retirement savings plans, because you never know when a new job or a change at your current position will present a different path. You want to consistently contribute to your retirement savings, no matter the plan type.
Many employers don’t offer retirement plans at all, especially if your job is less-traditional. Those who are self-employed, run a small business, or participate in the gig economy must often save for retirement on their own.
So if you’re looking for 401(k) alternatives, here are the three most common options that anyone can use to save up for retirement.
1. A Traditional IRA
I know you’ve heard of the term “IRA,” which means “Individual Retirement Arrangement,” but that’s the old-school name given by the IRS. Most people know them as an “Individual Retirement Account” (which is exactly what they are ) but do you understand IRAs? When you hear “IRA,” do you know about the plans and the different types?
Anyone who receives wages, salaries, commissions, or professional fees can establish an IRA. You don’t need to have traditional employment, making it a nice 401(k) alternative for independent consultants and small business owners.
With a traditional IRA, any contributions you make are tax-deductible (in the year you contribute). Your IRA earnings grow tax-deferred. There are some limits and restrictions to be aware of, however.
According to the IRS, there are contribution limits on IRAs for 2021 and 2022. First, your total contributions to all your IRAs cannot be more than $6,000 ($7,000 if you’re age 50 or older), or your taxable compensation for the year, if your compensation was less than this dollar limit.
If you’re 50 or older (as is the case with yours truly), you can also make what’s called a “catch-up” contribution. The limit on the catch-up contribution is $1,000. It’s important to keep in mind that the IRS is pretty sharp about keeping tabs on any missteps. If you contribute over the allowable amount, they will nail you with a 6% penalty on the overage amount.
Contributions made into a traditional IRA (or really, any IRA) are made in cash (meaning you need to pay them out of your cash accounts—checking, savings). You can invest your IRA in stocks, mutual funds, bonds, annuities, and even gold and silver coins.
It’s worth mentioning that there are a few areas where you can’t invest your IRA. I’ve had some clients ask about some pretty outlandish investments! You can’t invest your IRA in a life insurance policy, collectibles, artwork (no matter how exquisite), or stamps, to name a few examples.
If you have both an IRA and a 401(k), there are a few restrictions on the ways you can invest and the contribution limits. While an IRA makes a good 401(k) alternative, explore your options thoroughly and address any questions before you invest (use a financial advisor you trust)!
2. The Roth IRA
I (still) hear a lot of buzz about Roth IRAs, and for a good reason. Roth IRAs are a great way to save for retirement.
The Taxpayer Relief Act of 1997 introduced the Roth IRA, and it continues to be a massive hit with investors. The most significant difference between a Roth and a Traditional IRA is that contributions for the Roth IRA are not tax-deductible. The big win from a Roth is that any distributions taken from the Roth IRA aren’t added into your gross income (meaning if the distributions are qualified under IRS rules, then they’re tax-free)!
The contribution limits for the Roth IRA are the same as the Traditional IRA. But what I love most about the Roth IRA is that anyone, regardless of age, can establish a Roth IRA — provided their income levels don’t exceed certain levels.
If you have an employer-sponsored qualified retirement plan, it has nothing to do with eligibility for a Roth IRA, contributions can be made at any age, and don’t have to cease at age 70 ½. You can have both a 401(k) (or a 401(k) alternative like a pension) and continue to contribute to your Roth IRA. There are a few restrictions based on your income, but it’s a great way to maximize your retirement savings.
3. Personal Investment Account
In addition to establishing either a Traditional IRA or a Roth IRA, another 401(k) alternative option is to consider a “regular” personal investment account.
If you tend to be risk-averse, you may want to consider something along the lines of either a high-yield fund or bond fund. If you prefer more stability, consider balanced funds. And, if you love the idea of higher growth potential, consider anything from growth funds to international funds — just be prepared for the wild ride!
When it comes to using a personal investment account, it’s crucial to explore your risk tolerance first. Consider factors like the length of time to your retirement, state of the market, and stability of your income. Some people get involved with personal investing thinking they’ll get rich overnight, but for most people, steady growth is a surer bet.
Lastly, you must remember that you are ultimately responsible for deciding how you invest your money — no matter if it’s for retirement or another purpose. It’s crucial to review, and rebalance (if necessary) your investments on an annual basis (it really doesn’t take too long)!
So if you don’t have a 401(k), don’t worry. As I explained above, there are plenty of great 401(k) alternatives that exist, including:
- Traditional IRAs
- Roth IRAs
- Personal Investment Accounts
What’s more important than your actual choice of retirement accounts is that you commit yourself to start saving for retirement now. Change is always tricky, and we tend to get trapped in the “paralysis by analysis” stage. Before we know it, we’re behind the 8-Ball playing “catch-up” with trying to reach our financial goals.
Any progress you make in saving for retirement will help you prepare for your end goal — that fantastic day when you can finally retire and enjoy the good life!
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