Self-Employed? Here’s How Contributing to a Traditional IRA Can Benefit You

December 3, 2024

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According to a 2024 survey by SCORE, a nonprofit organization that provides mentorship to small business owners, “34% of entrepreneurs have no retirement savings plan for themselves.” Though the reasons for this statistic vary, entrepreneurs and the self-employed need to know they have options to save for retirement.

The good news is that you don’t have to use an employer-sponsored retirement plan like a 401(k) to save for retirement, as there are plenty of options for those who don’t have an employer. This guide will explain how you can contribute to a traditional IRA (individual retirement account) if you are self-employed.

Key Takeaways

Self-employed individuals have retirement savings options outside of employer-sponsored plans.
A traditional IRA can be ideal for moderate-income earners who are self-employed.
Traditional IRAs are tax-advantaged and simple to manage.
Understanding retirement savings options as your income grows is key to the best financial outcomes.

How Can I Save for Retirement if I’m Self-Employed?

You have five options as a self-employed individual to save for retirement:

Traditional IRA: Allows you to make pre-tax contributions, which can grow tax-deferred until you withdraw them in retirement.
Roth IRA: You’ll make post-tax contributions with the benefit of tax-free growth and withdrawals.
Solo 401(k): For self-employed business owners with no employees, this account allows you to contribute both as an employer and an employee, potentially saving you much more each year.
SEP IRA (simplified employee pension): Ideal for small business owners or freelancers with few or no employees. This plan lets you make contributions based on a percentage of your income, which can be beneficial when your business earns more, as contributions are tax-deductible and grow tax-deferred.
SIMPLE IRA (Savings Incentive Match Plan for Employees Individual Retirement Account): Designed for small businesses and self-employed individuals, it allows employees and employers to contribute to retirement savings with simpler setup and lower costs compared to other plans like a 401(k).
Defined benefit plan: This is a retirement plan with fixed, pre-established benefits for participants. It’s a good fit for high-income earners because it provides predictable retirement income and significant tax deductions.

Each savings vehicle above has unique features and benefits that make it better for one person or another based on their personal financial needs and circumstances.

In this guide, we’ll focus on the traditional IRA and why it could be a viable retirement savings vehicle for self-employed people with moderate earnings.

What Is a Traditional IRA?

A traditional IRA is a tax-advantaged retirement account that allows you to put away money for retirement. The tax treatment of this type of savings vehicle, which will be discussed in more detail below, makes it ideal for those who want to save for retirement but do not have an employer-sponsored plan.

Tax Treatment

The main appeal of a traditional IRA is the tax savings element, which could reduce your tax liabilities as a self-employed individual and potentially as a retiree. Here’s how this retirement account is treated from a tax perspective:

Tax-deductible contributions: When you contribute to a traditional IRA, your contributions may be deductible from your taxable income for that year, provided you meet certain income requirements set by the Internal Revenue Service (IRS).
Tax-deferred growth: Investments in a traditional IRA grow tax-deferred, so you won’t pay any taxes on dividends, interest, or capital gains while the money remains in the account. This allows your investments to compound over time without the annual expense of tax payments, potentially leading to greater growth over the long term.
Taxable withdrawals: When you retire and eventually begin withdrawing funds from your traditional IRA, the distributions will be taxed as ordinary income. If you are in a lower tax bracket during retirement, this could reduce your taxable income and overall tax liability.

Contribution Limits for Traditional IRAs

For the 2024 and 2025 tax years, the contribution limit for traditional IRAs is $7,000 per year for individuals under the age of 50. Investors aged 50 and above are eligible to make catch-up contributions, allowing them to contribute an additional $1,000 per year, bringing their total contribution limit to $8,000.

Note

Contribution limits typically change each year and apply to the combined contributions to traditional and Roth IRAs.

Benefits of a Traditional IRA

Before discussing the benefits of a traditional IRA, examining some features of other retirement accounts for self-employed individuals is useful.

From here, we’ll explain why you may benefit more from a traditional IRA and which circumstances make it a better choice than some options listed below.

Retirement Account	Contribution Limits	Tax Treatment	Income Limits for Contributions	Tax on Withdrawals	RMDs	Best For
Traditional IRA	$7,000/year ($8,000 if over 50)	Contributions may be tax-deductible	No income limits	Taxed as ordinary income	Yes	Low- to moderate-income individuals
Roth IRA	$7,000/year ($8,000 if over 50)	Contributions are post-tax	Limited by modified adjusted gross income	Tax-free if conditions are met	No (during the account holder’s lifetime)	Young or lower-income investors
SEP IRA	Up to 25% of compensation or $69,000 (2024)/$70,000 (2025)	Contributions are tax-deductible	No income limits	Taxed as ordinary income	Yes	Small business owners and freelancers
Solo 401(k)	In 2024: Aggregate up to $69,000/year ($75,600 if over 50) In 2025: Aggregate up to $70,000 (up to 50)/$77,500 (age 50-59; age 64 or older)/$81,250 (age 60-63)	Contributions are tax-deductible	No income limits	Taxed as ordinary income	Yes	Self-employed individuals with no employees
SIMPLE IRA	$16,500/year (up to $20,000 if over 50)	Contributions are tax-deductible	No income limits	Taxed as ordinary income	Yes	Employees who work for a small business or operate a small business
Defined Benefit Plan	Calculated based on desired retirement benefits	Contributions are tax-deductible	No income limits	Taxed as ordinary income	Yes	Professionals with high, stable incomes aiming for specific retirement benefits

Based on the account requirements, contribution limits, and other IRS guidelines, the traditional IRA route is a good fit for those just starting out or with moderate incomes.

If your income increases or some other aspect of your tax situation changes, you may benefit from accounts that allow you to contribute well over the annual $7,000 to $8,000 limit. When this need arises, you can always open another retirement account that allows you to save more each year.

Requirements

Income Thresholds

Though many people think there are income limits for opening and contributing to a traditional IRA, the income limitations only come into play regarding the amount you can deduct from your taxable income.

According to the IRS website, the “deduction may be limited if you (or your spouse, if you are married) are covered by a retirement plan at work and your income exceeds certain levels.” Consult the latest IRS guidelines to find deduction limits for those without a retirement plan with an employer, which is the case for most self-employed individuals.

Earned Income

To contribute to a traditional IRA, you must have earned income for the year you’re contributing to the account. Earned income includes wages, salaries, tips, bonuses, and other taxable income earned from working. In some cases, spouses of individuals with earned income may contribute to their own IRA even if they do not have taxable compensation.

Important

You can’t contribute more to your traditional IRA than you have earned for the year.

Contribution Deadline

Contributions must be made by the tax filing deadline, typically April 15th of the following year. Any contributions exceeding the permissible IRS limits could incur a 6% excess contribution penalty. To avoid this, keep track of your contributions and consult a tax professional when in doubt.

Required Minimum Distributions (RMDs)

When you reach the age of 72 or 73, depending on your birth year, you must begin taking minimum distributions from your traditional IRA each year. Failure to take RMDs can result in significant tax penalties, so planning for these withdrawals is important.

How To Enroll in a Traditional IRA Plan

To enroll in a traditional IRA plan, choose a financial institution, such as a bank or brokerage firm, that offers IRA accounts. Then, complete an application according to the guidelines.

Once your application is approved, you can begin contributing to your traditional IRA up to the annual limit set by the IRS. Remember, you’ll have to purchase investments like stocks, bonds, mutual funds, and ETFs in your IRA, as the contributions themselves are not the investments.

If you’re unsure about choosing investments for this account, consider consulting with a financial advisor to create an investment portfolio matching your risk tolerance and retirement goals.

Can I Have More Than One Retirement Account as a Self-Employed Individual?

Yes, you can have multiple retirement accounts as a self-employed person, including a traditional IRA and others like a solo 401(k). Consult IRS guidelines to understand annual contribution limits.

Can I Roll My Old 401(k) Into an IRA Now That I’m Self-Employed?

Yes, when you’re self-employed, you can roll your old 401(k) into a traditional IRA. Talk to your existing and new plan administrator for specific rollover steps so the transfer is not considered an early withdrawal.

Are There Any Income Limits for a Traditional IRA?

There are no income limits for contributing to a traditional IRA, but there are limits for deducting those contributions. The IRS publishes income guidelines each year establishing how much you can earn and still deduct your contributions from your taxes.

Can I Contribute to an IRA if I’m Unemployed?

Generally, you need to have earned income to contribute to an IRA, but there are exceptions. Married couples in which only one spouse earns income can contribute to a spousal IRA on behalf of the non-earning partner. Standard contribution limits apply, meaning that a couple that files jointly could contribute twice as much in total as a single filer.

When Can You No Longer Contribute to a Traditional IRA?

The IRS removed age limits from traditional and Roth IRAs as of the 2020 tax year. So, as long as you have earned income, you can contribute to a traditional IRA, no matter what your age.

The Bottom Line

There are plenty of ways to save for retirement, even if you are self-employed. The traditional IRA is simple, flexible, and ideal for eligible individuals who don’t need to contribute more than a few thousand dollars a year.

This might be your situation if you are starting out or have a business model that lends itself to lower revenues. Even if you are still deciding the type of retirement account you’ll choose, consult with a financial or tax advisor to optimize your retirement planning while maximizing contributions within allowable limits.