A SEP-IRA in troubled times
Question: This is the first year I have actually made a profit, after five years of self-employment in New York City. And I'd like to keep as much of it as possible, seeing as the future is rather uncertain! My accountant has been advising me to get a $10,000 SEP IRA in order to not give all my money away to the IRS. She insists that "the market is on sale" and that I am under no risk by investing my money this way.
She has suggested that I look up a few different companies that do SEP IRA's, so I know she isn't advising me to do this out of self-interest. Still, I can't help wondering, is it safe to invest in a SEP IRA at this moment in time when banks are failing and investment companies are in such trouble? How will I know who to get it with? And what, if anything, makes a SEP IRA safe or not safe?
I'm advised I must do this before tax year is over, so that I can avoid paying taxes on the income that I will be investing in the IRA. So, can you help? I'm sure I'm not the only one who needs this kind of advice! Thanks in advance! Carolita, NY, NY
Answer: Congratulations on making a profit. That must feel good.
A SEP-IRA is a low cost and simple retirement savings plan for the self-employed. Almost any financial institution, including banks, credit unions, mutual fund companies, discount brokers, to name just a few will be glad to open a SEP for you.
The contributions you make into a SEP are with pretax dollars, so your tax bill will be lower. The money compounds tax deferred until it's withdrawn in retirement. You'll pay ordinary income taxes on the money you withdraw during retirement.In most cases, you have until April 15 to make a contribution. For the self-employed in an unincorporated business, annual contributions to your SEP can range between 0 and 20% of your net adjusted self employment income. You can always skip making a SEP contribution in a bad year without any penalty.
Question is, where to put the money? These are confusing times and the list of unthinkables that have become reality is long and growing. Still, the most important thing is to make the contribution. You're young and time is on your side.
It's absolutely fine to park the retirement money into super-safe, low-yielding Treasury bills. (And I'm not kidding when I say low yield: Following the rejection of the $700 billion bailout by the House, rates on 3-month Treasury bills fell to 0.29%. We haven't seen rates like this since World War Two. According to the Bloomberg news wire, yields did reach 0.01% January 1940, four months after Adolf Hitler's invasion of Poland.) Other safe havens include bank certificates of deposit and Treasury Inflation Protected Securities.
Now, I assume the statement the "market is on sale" refers to the stock market. Problem is, we are in a bear market that could get worse, which is another way of saying that the "discount" could get even bigger. Even if true, it's important to know whether you're comfortable with the stock market? Will the volatility bother you? Can you sleep at night? Don't worry about it if you aren't knowledgeable about the stock market. You have plenty of time to learn. Keep the IRA money safe. But please spend the time learning more about stocks, bonds, retirement savings strategies, and diversification.
Although they have different messages you can't go wrong looking at two books: The Random Walk Guide To Investing: Ten Rules for Financial Success by Burton Malkiel and Worry-free Investing by Zvi Bodie and Michael J. Clowes. Both are in paperback.