Retirement Options for Freelancers and Gig Workers – The Individual 401(k)
If You’re A Full Time Rideshare Or Delivery Driver, Retirement Planning Is A Must.
The emergence of the gig economy with apps like Uber, Doordash, Caviar, and Amazon Flex has changed the way many of us work. When it comes to our work schedules, these apps have given many of us more freedom and flexibility than ever before. At the same time, the ongoing switch from traditional employment to gig work and freelancing has created challenges for the workers involved, including making saving for retirement more difficult.
If you are one of the millions of rideshare and delivery drivers who rely on freelance and gig income, it is important to plan for your own retirement. Those in the traditional workforce can simply sign up for their employer’s 401(k) plan, filling out a single piece of paperwork and letting the company take it from there. Drivers for Uber, Lyft, Instacart, Amazon Flex, and other on demand apps do not have that option, and they need to take charge of their own retirement savings.
For full-time rideshare and delivery drivers, an individual 401(k) could be the perfect solution. In some ways, the individual 401(k) is similar to the workplace variety, but there are a few key differences. Understanding these differences, and the advantages that these plans offer, can help freelancers and gig workers get a jump start on their own retirement planning.
Is an Individual 401(k) the Right Choice?
Before you can start contributing to a 401(k), you need to make sure this plan is really the right choice. There are a number of other options freelancers and gig workers have (such as a Roth or traditoinal IRA), and it is important to make the right choice. Here are some key things all independent workers need to know about the individual 401(k) plan.
An individual 401(k) plan is probably the wrong choice for part-time freelancers. Workers who are employed full-time and eligible for a traditional 401(k) may not benefit much from an individual 401(k). Those part-time freelancers may benefit more from a SEP-IRA.
An EIN is needed to establish an individual 401(k). You cannot use your Social Security number to open an individual 401(k); you will need an employer identification number (EIN). It is easy to get an EIN, and you can obtain one online at the IRS website.
Business owners cannot use an individual 401(k) if they currently have employees. So, if you’re running a fleet of drivers, or have people (employees) working for you, an individual 401(k) is not a viable choice. Likewise, if you plan to hire in the future, it is best to skip the individual 401(k) and look for better options.
There are some reporting requirements. Owners of individual 401(k) plans will need to file paperwork with the IRS, but only when their accounts are valued at $250,000 or more. If and when you reach that point, it is a good problem to have, and the filing process is pretty simple.
Also, there may be fees involved. Individual 401(k) plans are offered by many mutual fund companies and brokerage firms, but some charge a fee for administration and bookkeeping. Some mutual funds charge a separate fee for each fund, while others charge a set amount for the entire plan. These fees may be waived for account holders whose balances meet a certain threshold.
The Tax Advantages of the Individual 401(k)
If you are eligible for an individual 401(k), you could use it to significantly reduce your tax bill. Long-time freelancers, gig workers and independent contractors are all too familiar with the self-employment tax, a special levy that applies to individuals who are considered both employer and employee.
That additional tax assessment can significantly increase the amount you owe, but opening an individual 401(k) can ease the burden while you save for retirement. Just like a traditional 401(k), every dollar you put into the individual 401(k) is deducted from your taxable income. But unlike the 401(k) plans available to traditional employees, the amounts freelancers can put aside are even higher.
The employee contribution limits for individual 401(k) plans and employer-based plans are the same. For 2018, both freelancers and regular employees can put aside up to $18,500, plus an extra $6,000 for those 50 years of age and over. But unlike traditional employees, freelancers can also contribute a portion of their profits in the form of an employer contribution. The exact amount is based on their earnings (profits) for the year, and there are online calculators freelancers can use to find out how much they can contribute. That additional employer contribution can make a big difference, and take some of the pain out of tax filing season. In 2018, the maximium total allowed contribution to an individual or solo 401(k) is $55,000. That’s almost triple the limit on a traditional employer based 401(k).
Whether you work for Lyft, Doordash, Instacart, Amazon Flex, or another service, you will need to take steps to secure your own retirement. You cannot rely on an employer to put money aside for you, and you will not have a pension unless you create one for yourself. As a participant in the new on demand economy, you owe it to yourself to check out all your retirement options and find the one that works best for you.