What Is a Self-Employment Pension?

T. Webster
T. Webster
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Businessman giving a thumbs-up

A self-employment pension is, quite simply, a pension plan geared toward people who work for themselves or own a business that has employees. Just as self-employed people must generate their own incomes, they also must generate their own retirement plans because they do not work for a company that provides this benefit. Even so, there are still ways for self-employed people to legally set up a pension plan and receive tax-deduction advantages.

Some people who are self-employed do not realize they can set up their own pension plan. In addition to being able to save for retirement, there are also tax breaks available for having a self-employment pension. Some of the key variables to consider in choosing a plan are income levels, marital status and reporting the information on tax returns.

Among the most common self-employment pensions are the simplified employee pension, solo 401(k), the Keogh and the Roth. Your country’s tax collection agency might also have information on the best options for a self-employment pension. When selecting a plan, it is always best to consult a financial adviser or accountant, especially since tax laws frequently change. Always make sure the plan is set up correctly, because the tax penalties and other consequences for not doing so can be significant.

For a profitable business, a solo 401(k) might be a good choice for a self-employment pension. This pension allows one to save larger sums of money and, therefore, allows for lower income reporting. They are also relatively easy to borrow money from in case an unexpected emergency or cash shortfall arises.

Another kind of self-employment pension is the simplified employee pension. Through this plan, an employee can contribute and deduct up to about 14 percent of income. A person who owns and is employed by a business can contribute and deduct up to 15 percent. If cash flow problems arise, contributions can usually be stopped for a specified amount of time.

This kind of self-employment pension tends to be easy to set up. A bank, financial institution or insurance broker can often set up the account at no cost. Some governments might not require annual tax reports to be submitted for this plan.

A self-employment pension considered to be closest to a company retirement plan is called the Keogh. A Keogh is usually either a retirement benefit plan or a profit-sharing plan. Contributions are calculated based on income and generally can be up to 20 percent. Unlike the simplified employee pension, annual reports can be required and costs are usually associated with setting it up.

Finally, the Roth is a self-employment pension that is set up to allow significant amounts of non-taxable income to be acquired. There are usually also limits for what can be placed into the account. Tax deductions are generally not allowed for these contributions.

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