Published October 21st, 2020

If a tradtional 401k isn’t right for you, there are many great alternatives to 401k retirement plans for you to consider when planning for your retirement.

On yourjourney towards retirement, and choosing the right retirement plan for you, it can often feel like all signs point towards thetraditional 401k. Many employers offer 401kretirement plansdue to the opportunities it offers for maximizing contributions on pre-tax compensation for employees. While it’s important to understand 401ks as they are a popular and effective retirement savings tool, the same retirement savings account isn’t necessarily right for everyone. Luckily, there are many great alternatives to 401k retirement plans for you to consider whenplanning for your retirement.

Understanding 401ks

One of the best-knownretirementplans isthe 401k: a long term savings plan where you contribute to a retirement plan through your employer. It is designed such that a portion of your salary is saved or invested before taxes (except for designated Roth deferrals). Taxes will not be paid before the money leaves the account. Additionally,employers can sponsorthe amount saved. Distributions, including earnings, can be included in taxable income at retirement.

In the traditional 401k, there are limits to how much can be contributed annually. For 2020, a cap increase was legislated,reaching $19,500. Plus, those who are50 or oldercan contribute an additional $ 6,500. The 401k holdsseveral alternativesto be chosen to achieve the best revenue.

That said, 401ks aren’t the ideal retirement savings solution for everyone. Other alternatives to 401ks can guarantee better future results or adapt more appropriately to your work and financial situation.

Alternatives to 401k Plans

Traditional IRA

TheIndividual Retirement Account(IRA) is a great alternative for freelancers, small business owners, or people who work with employers that don’t offer a 401k. This type of account offersretirement-oriented tax advantages, such as allowing money to grow tax-free. Taxes are only paid when the money is withdrawn at retirement. Also, contributions to the account can be deducted from your taxable income, so you avoid taxes on that income when contributing.

Thetraditional IRA can be combined with other retirement plans, including a 401k. The money in your account will grow tax-free until retirement. Keep in mind that with an IRA, the maximum annual contribution value is $ 6,000 and $ 7,000 if you are at least 50 years old. Consult with your financial advisor, as depending on the income and the type of account chosen, contributions may not be tax-deductible.

Roth IRA

Roth IRA accountshave a structure similar to traditional IRAs,except for two key features: how they are taxed and that theRoth accountsallow tax-free withdrawals undercertain stipulations. These accounts are bankrolled with dollars after taxes; therefore, the contributions that are made are not deductible. Note that the moment you start to withdraw funds (for example, topay for college expenses) that money is tax-free. This flexibility makesRoth IRA accountsvery attractive to investors.

SEP IRA

ASimplified Employee Pension IRA, or SEP, is a specific IRA for those who have their own company. It shares the basic operation with atraditional IRA. The difference is that instead of the contribution limit of $6,000 (for those under 50), it is possible tocontribute up to $57,000 in 2020or 25 percent of their income, whichever is less.

One-Participant 401k Plans

One-participant 401k plans are designed forindependent entrepreneursas they are particularly profitable for those who have additional income. This is a simplified version of the 401k: focused on companies that have no employees other than a spouse.In 2020, the maximum contribution limit was set to $7,000divided into two components: $19,500 that is contributed as an employee and $37,500, as an employer. Those over 50 can contribute up to $26,000 as employees and $63,500 as employers.

One of the benefits of this alternative to a traditional 401k is that you can save 100 percent of your income (up from 25% theSEP-IRAallows) up to the maximum annual contribution limit. If you have additional income, you can maximize the amount of money you save annually.

Cash-Balance Defined-Benefit Plan

Thisalternativeis ideal for people who are self-employed with a considerable income, but that did not previously manage to build aretirement plan. This defined benefit plan differs from both traditionally defined benefit plans and cash balance plans. Instead of offering the benefit payment to an employee in the form of a series of lifetime payments, they deliver the benefit in terms of an established account balance. These accounts are often called “hypothetical accounts” because they don’t reflect actual contributions to an account nor the actual earnings and losses assignable to the account.

Choosing an Alternatives to 401K Retirement Plana

There are plenty of greatretirement plansavailable depending on your unique financial situation. While having acompany-sponsored 401k planworks for some, there are situations where you should evaluate alternatives to a 401ks. IRAs are a straightforward alternative totraditional 401k plans, especially for savers who will not benefit from employer matching. For freelancers, a One-Participant 401k Plan is also a fantastic option, given its ability to protect so much income and grow tax-free.

As in any other aspect of your financial planning, a periodicreview with your financial advisorwill allow you to adjust percentages and define what plans can be a good alternative or a great complement to reach your retirement goal.

Disclosure: This blog is not investment advice and should not be relied on for such advice or as a substitute for consultation with professional accounting, tax, legal or financial advisors. The observations of industry trends should not be read as recommendations for stocks or sectors.

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