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If an employer does not offer you a retirement plan, what might be another way to save for retirement?

Most people have a safe and reliable option to save for their retirement, which is the retirement plan their employer offers. Once the employer offers a retirement plan, saving for retirement becomes easy. You don’t need to do anything to accumulate a decent amount for your retirement, money is deducted from your salary automatically. If you are lucky, you will be a part of a retirement plan where your employer matches your contribution. This helps you have a nice little nest egg by the time you retire.

However, it is possible that you have an employer who does not offer you a retirement plan. This puts you in a difficult situation where you have don’t have a strategy to save for retirement. This situation would also be faced by freelancers and those who have started their own business. They wouldn’t have the facility of an employer providing a retirement plan. If you are in a situation where you don’t have a retirement plan, then you need to look for another option. This is important because saving money for your retirement is crucial.

Why save for retirement?

Once you retire, you probably will not have a job that can get you a monthly paycheck. You would continue to have expenses, even though you don’t have an income. How do you manage these expenses without a job? As you grow older, your healthcare needs would increase. Post-retirement, you would probably like to spend more time on travel and visiting places across the world that you couldn’t do while you were working. You would also want to leave some money for your children. All these require money, which you are not earning anymore. There is thus a need to create a nest egg or a substantial amount of money that can take care of your needs.

You may want a lump sum of money that you can use as you wish. Alternately, you may prefer an annuity to be paid for the money you have accumulated. This would work as a pension that would be paid to you every month and can take care of all your expenses. Someone used to getting a monthly paycheck would find a monthly pension convenient. It helps you lead a comfortable retired life without having to worry where you would get the money for your expenses. A retirement plan would help you manage your post-retirement expenses.

A retirement plan for you

If your employer is not offering a retirement plan, then you can opt for a retirement plan on your own. The IRA or Individual Retirement Account would be the best option for you if you want to start a retirement plan to save money. There are two types of such IRAs that you can consider. One is a traditional IRA and the other a Roth IRA.

A traditional IRA is one where anyone can start investing money. There is no income requirement stipulated to start a traditional IRA. You can contribute $6,000 every year to the IRA. If you are older than 50, you can contribute up to $7,000 annually. The traditional IRA offers tax-deferred savings. There is no income tax payable until you withdraw the money from your account. The advantage of the traditional IRA is that you can open two accounts, one in your name and the other in your spouse’s, even if one of you is not earning. So, you can save up to $12,000 annually without paying taxes on it. The idea behind an IRA is to save money for your retirement. You can withdraw money once you turn 59 years and 6 months. You can withdraw money early if you need it, but then you have to pay tax on it and you may also be charged a penalty.

An alternate IRA option that is popular is the Roth IRA. This retirement plan is named after Senator William Roth, who proposed this idea. This plan is popular because of its tax benefits at the time of withdrawal. When you invest money, you would be investing after paying taxes. The interest you earn and the amount you withdraw would be tax-free. It is similar to the traditional IRA, in that you invest up to $6,000 annually (or $7,000 if you are over 50). However, there is an income requirement. Your gross income, after adjustment, needs to be less than $122,000. You can withdraw your contributions anytime. You can start a Roth IRA even if you have an IRA account.

A variant of the IRA that would be suitable for freelancers and those who are self-employed is the SEP-IRA (Simplified Employee Pension Individual Retirement Account). For the purpose of taxes, it is treated in the same way as a regular IRA. This is beneficial as the minimum age for commencing investment is 21 years, with three years’ experience and earning at least $600 compensation. If your business is not doing so well, you can even skip contributions for a few years. The money invested can be claimed as a tax deduction. At the time of withdrawal, it would be subject to taxes. Withdrawal can be done once you reach 59 years 6 months of age.

The IRA in its different variants is thus a suitable option to invest money for your retirement. There are tax benefits available, depending on the type of account you invest in. The IRA is one of the best options to save money for retirement when your employer does not offer a retirement plan.

How much can you expect from an IRA?

The key to any investment account to build wealth is to start early.The later you start, the lesser you save. The ideal time to start saving for your retirement is in your 20s, when you start working. Assuming you invest for a period of 30 years (which means you start investing in your late 20s), your annual investment of $6,000 can yield you $300,000.Therefore, at the time of retirement, you can earn a lump sum of around $300,000. The question is whether this amount is sufficient for your retirement. Let’s do some number crunching.

A thumb rule on the amount you need to save is as follows. You should be able to earn 80% of your last annual income before retirement, through your retirement savings. Let’s assume when you retire you are earning $100,000 annually, so you would need $80,000. You can apply the 4% rule to determine how much you need to save. To earn $80,000 annually from your retirement fund, you need to save $80,000 divided by 4%, which works out to be $2 million. If you save 2 million, you can expect to earn sufficient money for your retirement.

Investing in a conventional IRA with returns of around 5% would earn you $300,000. This is a far cry from the $2 million you need to accumulate by the time you retire. So, what then is the solution? The 5% returns that your IRA earns is not really sufficient. You need to do something to earn a higher rate of interest from the money you invest in your IRA. The solution is investing in the stock market.

How the stock market can help you earn more?

Conventional saving options cannot help you earn much interest as these options are conservative in nature and do not take much risk. If you need more interest, you must be prepared to take more risk. The stock market is an option, where you can invest money to earn a higher rate of interest. This would carry a certain amount of risk, due to the volatile nature of the stock market. Stocks and related investments can make you a millionaire.If not managed well, you face the risk of losing your capital invested. This is the reason most people are scared of investing in the stock market. There is no doubt, however, that the stock market can fetch you handsome returns.

If you want to earn in millions for your retirement and thus have sufficient money to lead a comfortable life post-retirement, you need to consider the stock market. Your IRA can invest in riskier investment options like stocks, mutual funds, and index funds. Investing in this way can help you expect a rate of return of 8% to 12%, which can be useful to earn more for your retirement. The same $6,000 when invested in stocks can help you earn a million in 30 years. If both you and your spouse have IRA accounts of $6,000 each, you can easily save $2 million in 30 years.

The IRA thus allows you a build a substantial amount of money for your retirement that should take care of your expenses after you retire. You would also have social security benefits that would help you. That has not been accounted in these calculations. Whatever you get from social security is a bonus. Saving money for your retirement when you don’t have a plan from your employer is thus possible thanks to the IRA.

How to do it?

Now that you would have understood the role the IRA can play in helping you for your retirement, you would probably be ready to go ahead. Here are some pointers for you to keep in mind before you start the process.

1) You can decide on the asset allocation

An IRA allows you to invest your money in assets of your choice. You can choose to invest your money in safe options like bonds, where you would earn less interest but have the advantage of less risk. You can also choose to invest in stocks and mutual funds, where you can earn higher returns, with the risk being higher. You need to decide how you want to invest your money in both these types of options. You can choose to invest 70% in equity (stocks and mutual funds) and 30% in debt (bonds). This is a suitable allocation if you are 30 years of age. If you are 40, then you can invest 40% in debt and 60% in equity. The idea is that as you near retirement, you have less of risky exposure to equity.

2) Invest at an early age

As discussed earlier, when you start investing early, you can earn more interest. You can benefit from the power of compounding by earning interest on interest. The earlier you start, the more you can save by the time you retire. If you start investing when you are 25 and assuming you retire at 60, you can save money for 35 years, which is sufficient time to earn a lot of money. If you delay saving and start when you are 35, you can invest for only 25 years. The amount you finally earn will be lesser. The more you delay investing, the lesser is the amount you earn.

3) Don’t wait until tax day

To get tax benefits for the amount you invest in a year, you need to invest before the last date for paying taxes. Ideally, you should not wait until then, but invest money at the beginning of the year. This would earn more interest. You can even invest systematically every month, dividing your contribution over a period of 12 months.

4) Diversify your investments

As mentioned above, you can invest your money in stocks, mutual funds, and bonds. This ensures you are invested in multiple options that help in spreading your risk across different types of assets. You can spread your equity investments in mutual funds, stocks, and index funds to reduce your risk.

5) Go ahead and invest

You can open an IRA through a bank, financial institution, or a brokerage. Compare charges before you decide where to open your account. You can carry out your investment online for ease of operation. Don’t forget to name a beneficiary for your IRA, so your loved one would benefit if anything happens to you.

You are now ready to start saving for retirement even if your employer is not offering you a plan. Happy investing!