People with small or significantly variable self-employment earnings may be better off looking at retirement investment plans that also allow them the flexibility of whether or not to make a contribution at any given time.

For self-employed people in that situation, the best choices include SEPs and self-employed 401(k) plans.

A SEP (Simplified Employee Pension) lets you contribute up to 20% of your self-employment income (and that percentage increases to 25% of your salary if you’re an employee of your own corporation), up to a current maximum of $44,000 a year.

If you have employees, you can still have a SEP, and you can set up a SEP any time up to the time you file your taxes. In addition, you can vary the amount of contribution as needed since you are not locked into a specific contribution amount or percentage. This obviously can be a big plus if your income fluctuates

However, if you make a contribution for yourself, you have to make it for all your employees. Also, be aware that you can’t take out loans against your SEP.

On the other hand, a self-employed 401(k) plan - also called a solo and individual 401(k) - does allow loans to be taken out against it. Indeed, you can transfer your IRAs, regular 401(k), or any other pretax-retirement funds, whatever the amount, to your self-employed 401(k) account and then borrow from it.

However, self-employed 401(k) plans are only available if you have no employees, although they can be used for multiple owners, as well as for spouses who are employees.

Like the SEP, a self-employed 401(k) plan also allows annual contributions of up to $44,000. (By the way, maximum contributions for both SEP’s and self-employed 401(k)s can be affected by whether or not you participate in any other retirement plan. Check with your retirement investment planner or tax advisor before making your decision.)

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7. A home equity loan may be a better solution from your particular situation. Most states, with the notable exception of Texas, where I live, have made setting up a home equity line of credit simple. If you have enough equity in your house, and you have a good credit rating, you should consider a home equity loan. Unlike a loan from your retirement account, the interest you pay on a home equity loan is usually tax deductible.

8. There may also be special deals available that are better than a loan from your 401k account or a home equity loan. For example, at the time this is being written, several car companies are offering 0% financing for up to 60 months. If you qualify, this is a much better way to finance a new car that borrowing from your 401k account or using a home equity line of credit to buy a new car.

In conclusion, everyone’s situation is a little different. When you’re talking about $1,000’s of dollars and the impact of tax laws, it’s always best to get professional advice from an accountant or tax attorney. It may cost you $100 to $200 for a simple consultation, but it will be money well spent to find out what’s right for you and your situation.

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Step 5 - Adjust for Social Security. You’ll notice I left a discussion of Social Security to last. Much has been written recently and much has been said recently, especially by politicians, about the future of Social Security. If you’re within a few years of retirement age, Social Security may be as close as it gets to guaranteed for you. If you’re in your 20’s or early 30’s, it’s anyone’s guess. That makes it a purely personal decision whether to take Social Security into consideration when making your retirement investment plans. Regardless, the math is simple. If you haven’t received a statement from Social Security recently showing your projected payments at retirement, you can call 800-722-1213, you can visit your local Social Security Office to submit a request, or you can go to www.ssa.gov/mystatement.

Let’s say that your payments are estimated to be $1,100 per month. Because of tax savings, that might be worth $1,300 per month of ordinary income. So if your calculations show you need $5,000 a month in income, you could reduce that to $3,700 per month or $44,400 per year. From Step 4, if your pension plan is going to cover $30,960, that means you have to save to make up the $13,440 difference. Once again that’s $13,440/8 x 100 = $168,000 as your savings goal. From the FinAid.org calculator, that would require saving $175 per month. Now this is beginning to sound very doable.

Finally, what about inflation? It does reduce the buying power of your dollars in the future. We already adjusted for inflation in using only an 8% real return after inflation rather than the 13% you often hear quoted for the gain in stocks over the last 50 years, which does include inflation. Still if your pension plan payments are fixed once you retire, the value of your payments will be less each year. So to be conservative for inflation, you can reduce the value of your pension plan payments by 30% when you do your calculations.

There are 2 other simple ways to do address inflation. First, the calculations in the steps above are based on building up money in a 401(k) plan or other tax deferred investment program. The calculations shown in the example are also based on drawing out interest and leaving the principal alone. 401(k) plan rules require that you begin drawing out money by the time you’re 72, if you haven’t begun already. Withdrawing some principal will help cover some of the cost of inflation.

Second, you can always adjust for inflation by using a lower rate of return than the 8% we used in our example for your own retirement savings plan calculations. It’s not an exact science. No one can predict the rate of inflation for the next 10 or 20 years with any degree of certainty. We can only predict trends for the future based on the past. So use prudent judgment and adjust the assumptions for how conservative you want to be.

Finally, what do you do if your calculations show you need to save say $500 a month, and you can only save $200 a month? What you do next is critical! Don’t put off getting started until you can afford to save the entire $500 a month! If you put off saving until you can afford it some time in the future, that time may never come, but retirement will eventually come. So - whatever amount you can put aside, get started today!

I hope this brief series has been helpful. Any comments or thoughts you have are certainly welcome and will be appreciated.

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