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Help a Reader: Employer Doesn’t Offer 401(k)

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401(k)I’ve been fortunate in that every employer I’ve ever worked for has offered a 401(k) defined contribution plan. I know that many people are not so lucky and reader Jennifer is one of them. Many smaller businesses can’t afford to set up a plan or simply don’t want to. Whatever the reason, Jennifer doesn’t have the option available to her. This week’s Help a Reader will focus on the options available for someone without a 401(k) at work.

Here’s an excerpt from her email:

My employer does not offer a 401(k) plan and I know I need to start one soon, I’m in my early 20s. I know that I can open up an independent 401(k) but I’m not sure where to start or if a 401(k) is even the best option. Help!

Thanks,
Jennifer


I’m not an expert on the 401(k) but if you’re an employee, as in you get a W-2 from your employer, then you can’t open a 401(k) yourself. Independent 401(k)s are available to people who are self employed and run their own business or some other small business with a family member.

What Jennifer is thinking of is probably a Traditional IRA. When your employer does not offer a defined contribution plan, then your contributions to a Traditional IRA are tax deductible. The maximum you’d be able to contribute to a Traditional IRA, given your age, is $5,500 each year. It’s not as good as a 401(k), where you can contribute up to $17,500, but it’s better than $0.

The downside to this is that the Traditional and Roth IRAs share the same contribution limits. Your total contribution to Traditional and Roth IRAs cannot exceed $5,500. So if you contribute $2000 to a Traditional IRA then you can only contribute $3500 to your Roth IRA.

To the best of my knowledge, and I’m not an expert so someone chime in if you know better, this is your best option.

(Photo Credit: urban_data)

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6 Responses to “Help a Reader: Employer Doesn’t Offer 401(k)”

  1. NateUVM says:

    Jennifer should start by opening up a traditional or Roth IRA right away, and at least get started saving something. $5000/year is not nothing and is certainly better than not saving anything.

    In the meantime, not sure if there are any options that meet the criteria of substituting for an employer sponsered retirement account with higher maximum contribution limits. But as long as she has already opened an IRA, she’s at least saving while researching those other options.

  2. Paul says:

    You can also make a similar contribution for a spouse, even if he/she does not earn wages. It’s called a “spousal IRA” and the combined contribution amount for both accounts cannot exceed your combined annual earned wages,up to a $13,000 max / year.

  3. Everyone’s in agreement here. A couple additions:

    1) You generally can’t start an IRA with $50; even the lower-minimum funds (like the one I’m going to recommend below) have a $1,000 minimum. I recommend setting up an automatic monthly transfer to a savings account — either one at your local bank or something like Capital One 360 (formerly known as ING) — until you get to $1,000. Once you get there, open the IRA using that money and change the automatic transfer to go to your IRA instead.

    2) I’m willing to bet that Jennifer may be a bit overwhelmed if she googles “traditional IRA” and gets assaulted by tons of brokerages who want her business, not to mention the choices when it comes to funds. Rather than delay getting started in order to make The Perfect Decision, I’d like to make a particular recommendation, that she can then change in the following years if she finds something better: open a brokerage with Vanguard (owned by the fundholders, so often more customer-friendly than the other brokerages), start a Roth IRA (more flexible than a traditional IRA), and invest it in the Vanguard Target Retirement 2055 fund (a decent starting point for folks in their early 20′s).

  4. admiral58 says:

    She should invest in a Roth IRA – look at Fidelity or TD Ameritrade with their free commission ETFs

  5. Janna says:

    I agree, I started with the Va guard Roth IRA 2055 target fund and I’m happy with it (I’m 25).

    However, I just started a new job, its W-2 but mostly commissions and I might earn over the limit for Roth IRA. Does anyone know what happens if I contribute $5000 but then earn over the limit? Is there a limit for Traditional IRA?

  6. Jenn says:

    I plan to start freelance work and will be self employed, unlike the advice offered the first Jennifer. Last time a few years back I was selfemployed I opened a 401k with Vanguard. They no longer offer it. Any advice for a solo self employed person other than SIMPLE? Looks like I can put away a lot more in a 401k but from all I have found on my own so far I would have huge fees to set one up nowadays.


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