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Self-Employment Roth IRA Considerations


Content provided for general information. Talk to your advisor to learn about recent updates or other rules that may apply to your situation.

While there are no specific self-employment Roth IRAs, there are things you should know about having a Roth IRA and being self-employed.

Who’s eligible for a Roth IRA?

You’re generally eligible for a Roth IRA if

  • You have earned income. Self-employment income counts as earned income.
  • Your adjusted gross income, including your self-employment income and other income, is under the Roth IRA income limits.

The Roth IRA income limits are:

Filing Status20232022
Single and Head of Household$138,000 to $153,000$129,000 to $144,000
Married Filing Jointly and Qualifying Widower$218,000 to $228,000$204,000 to $214,000
Married Filing Separately$1 to $10,000$1 to $10,000
If your Adjusted Gross Income is up to the lower number, you can make a full contribution. Your contribution drops to $0 once you reach the second number.

Unlike deducting a traditional IRA, the Roth IRA income limits always apply.

With a Traditional IRA, there is only an income limit to deduct your contributions if you have an employer retirement plan such as a self-employed 401(k). With a Roth IRA, the income limits apply even if you don’t have any other retirement account.

You may want to wait to contribute to an IRA.

Most people who are self-employed have a fluctuating income. That means you never know if your income will be under the Traditional IRA deduction limits or over the Roth IRA contribution limits.

You have until your tax filing deadline to contribute to your IRA. So it’s usually a good idea to wait until the year ends and you know your final income before you decide which type of IRA you want to use and how much you should contribute.

If you contribute to an IRA early and end up not being eligible, you’ll either need to undo or recharacterize your contribution. It’s not the end of the world, but the paperwork can get messy.

Other Options to Get Roth IRA Benefits

You may want to use the following options if:

  • You want to get your money invested early in the year
  • You make too much to use a Roth IRA but want to contribute after-tax money to get tax-free withdrawals in retirement
  • You maxed out your Roth IRA and want even more Roth money.

Roth Solo 401(k)

A Roth Solo 401(k), also known as an individual 401(k) or a one-participant 401(k), is a retirement plan specifically designed for self-employed individuals or small business owners with no employees, other than a spouse. This type of plan allows you to make contributions as both an employee and an employer, potentially leading to higher annual contributions than other retirement accounts.

Like IRAs, 401(k)s have both Traditional and Roth options. With a Roth Solo 401(k), you contribute after-tax dollars, and qualified distributions in retirement are tax-free.

Note that you can only make Roth contributions as the employee. Any employer contributions must be to your Traditional 401(k).

Backdoor Roth IRA from a Traditional IRA

A backdoor Roth IRA from a Traditional IRA is a strategy used by individuals whose income exceeds the limits for direct Roth IRA contributions. The process involves first making a non-deductible contribution to a Traditional IRA, and then converting that balance to a Roth IRA.

Because Traditional IRA contributions are made with pre-tax dollars and grow tax-deferred, taxes are owed on any earnings and pre-tax contributions when you convert to a Roth IRA. However, the non-deductible contribution portion of the conversion is tax-free, allowing you to effectively bypass income limits and still enjoy the benefits of a Roth IRA.

Also, if you do the conversion immediately, there generally won’t be any conversions to pay taxes on.

Backdoor Roth IRA from a SEP IRA

A backdoor Roth IRA from a SEP IRA is another method used by high-income earners to contribute to a Roth IRA indirectly. A SEP IRA (Simplified Employee Pension Individual Retirement Account) is a retirement plan designed for self-employed individuals and small business owners, allowing for larger annual contributions compared to Traditional IRAs.

Similar to the backdoor Roth IRA from a Traditional IRA, this strategy involves converting funds from a SEP IRA to a Roth IRA. Keep in mind that a conversion is a taxable event, and you will need to pay taxes on any pre-tax contributions and earnings at your ordinary income tax rate. However, once the conversion is complete, your funds will grow tax-free within the Roth IRA and will be eligible for tax-free withdrawals in retirement.

As with a backdoor Roth IRA from a Traditional IRA, you won’t owe any taxes if you immediately convert a SEP IRA. If you do, your taxes will show (using $1,000 as an example):

  • A $1,000 deduction for contributing to your SEP IRA
  • $1,000 in taxable income for converting your SEP IRA money to a Roth IRA

The income and deduction cancel each other out. You’ll only pay taxes if:

  • You didn’t do the conversion immediately and your investment increased, or
  • You do the conversion in a future year

Talk to Your Financial Advisor

Talk to your financial advisor about the right type of retirement plan for you. In addition to current tax benefits, you should also plan for your taxes in retirement.

It’s common for heavy savers who want to take a lot of deductions now to cost themselves way more in taxes in retirement. It depends on what type of retirement accounts you use, your taxable investments, and other income like Social Security or a pension.

A financial advisor can help you plan the right moves to pay the lowest amount in taxes over your entire lifetime.