Best Retirement Plans For Individuals: A Complete Guide

Employer pension plans are largely a thing of the past for most of us. The responsibility for saving for our own retirement is squarely on us. One important tool in saving for retirement is utilizing the best retirement plan options available to you. Depending on your situation, here is a look at some of the best options available for you.

IRAs

IRAs (individual retirement accounts) are a solid, tax-advantaged retirement savings option that is accessible to almost everyone. The ability to contribute is based on having earned income from employment or self-employment, though there are some exceptions.

IRAs can be opened at most brokerage firms and major custodians, as well as through banks, robo advisors, and many mutual fund providers. IRAs allow account holders to invest in a wide range of investment vehicles including individual stocks and bonds, mutual funds, ETFs, various cash accounts, and others. There are a few prohibited investments including life insurance policies and most collectibles.

Total IRA contribution limits are $6,000 for 2021 with an extra $1,000 catch-up contribution for those 50 or over. This limit covers all IRA accounts that you might hold in your name.

IRAs are here are several types of IRAs you can consider.

Traditional IRA

Contributions to a traditional IRA can be made either on a pre-tax or an after-tax basis. For those who are covered by a workplace retirement plan like a 401(k), there are income limits above which pre-tax contributions cannot be made. For 2021, these limits are:

Even if you are limited in the amount of pre-tax contributions you can still contribute the difference to a traditional account on an after-tax basis and/or to a Roth IRA if you are eligible to contribute to one based on your income.

For those who are not covered by a workplace retirement plan, there are no income restrictions on pre-tax contributions. If you are married and filing jointly with a spouse who is covered by a plan at work, there are income limitations on your ability to make pre-tax contributions.

Investments grow tax-deferred inside of a traditional IRA account until withdrawn. At that time the withdrawals are taxed as ordinary income, except for the value of any after-tax contributions. In most cases, if you withdraw funds prior to reaching age 59 ½ you will pay a 10% penalty as well. There are a few exceptions to this rule.

Traditional IRAs are subject to required minimum distributions at age 72.

Roth IRA

Contributions to a Roth IRA are made with after-tax dollars. Investments held inside of the account grow tax-free until withdrawn. If withdrawals are made on or after age 59 ½ and at least five years after your first Roth IRA contribution, then the withdrawals are tax-free. There are some cases where a withdrawal will be tax and/or penalty-free prior to age 59 ½. Without these exceptions, an early withdrawal can result in both taxes and a penalty.

There are no penalties or taxes on withdrawals of the money contributed to the account.

The ability to contribute to a Roth IRA is subject to income restrictions, here are the limits for 2021:

An advantage of a Roth IRA is that there are no RMDs making these accounts excellent planning tools in many respects.

Rollover IRA

A rollover IRA is a traditional or Roth IRA account that is set up to accept a rollover from a 401(k), 403(b), or other workplace retirement account when leaving an employer. You might establish a separate rollover account if you want to ensure these assets are not comingled with other IRA assets for a variety of reasons.

A rollover can be from a traditional 401(k) or other types of plan to a traditional IRA, or a Roth 401(k) or Roth account from another type of plan to a Roth IRA. A rollover from a traditional retirement plan account to a Roth IRA can also be done, but this would be considered a Roth conversion and subject to the applicable taxes due with the conversion.

A rollover IRA can offer a wider range of investment choices, often at a lower cost, than leaving the money in your former employer’s plan.

Spousal IRA

A spousal IRA is not a separate type of IRA. Rather it is a strategy that can allow a non-working spouse or one whose income is quite low. Spousal IRAs can be either traditional or Roth.

A spousal IRA allows the non-working spouse to contribute up to the maximum amount to an IRA which can help boost a couple’s retirement savings each year.

Employer-sponsored retirement plans

If your employer offers a retirement plan, you typically won’t have a choice as to the type of plan. These plans tend to be the best employer-sponsored retirement plans.

Traditional 401(k)

Traditional 401(k) plans are offered by many private-sector employers. This is the most common type of 401(k) account. Contributions are made on a pre-tax basis, money in the account grows on a tax-deferred basis. Employee contribution limits are $19,500 for 2021 with an extra $6,500 in catch-up contributions available to those who are 50 or over. There are no income restrictions that limit pre-tax contributions as with an IRA.

Some employers may provide a match to participants on a portion of the participant’s contributions. This is a great benefit as it is essentially “free money.” These matching contributions can help build account balances over time.

Money in the account will be taxed upon withdrawal. If withdrawals are made prior to age 59 ½ you may incur a 10% penalty, though there are some exceptions. Withdrawals are subject to ordinary income taxes. If you leave your employer on or after age 55 there is a provision that would allow you to take a distribution with no penalty if certain rules are followed.

Most 401(k) plans offer a menu of investment options, generally mutual funds in a range of investment asset classes. The quality and the costs of the plan investments can vary by the employer and you will want to understand this aspect when deciding whether or not to invest, and if so how much to contribute.

Roth 401(k)

A growing number of employers now offer a Roth option within their 401(k) plan. This can be an excellent opportunity for those whose income may prohibit or limit the amount they can contribute to a Roth IRA. There are no income limits on a Roth 401(k), contributions can be made up to the 401(k) limits in effect for that calendar year.

Employers may match contributions to a Roth 401(k), but these matching contributions must be made to a traditional 401(k) account based on the rules in place.

Distributions from a Roth 401(k) are not taxed if you are at least age 59 ½ and have met the five-year rule requirements. Roth 401(k)s are subject to RMDs, but these distributions will not be taxed if requirements are met.

403(b) 

These plans are generally offered to employees of non-profits and school districts. They are also known as TSAs for a tax-sheltered annuity. In the past, these plans were largely annuities, but rule changes in recent years have allowed investments like mutual funds to be offered.

The contribution limits are the same as with a 401(k). Some plans offer a Roth option as well.

TSP (Thrift Savings Plan) 

The TSP is a defined contribution plan offered to federal employees. Employees receive a matching contribution whether or not they contribute themselves. The plan offers a menu of low-cost investment choices, though this menu is generally a bit limited.

There is a three-year vesting schedule for employees after which all employer contributions are theirs if they leave the federal government. For 2021 the TSP contribution limits are the same as for a 401(k).

All of these options can be a good option for your retirement savings, though in the case of a 401(k) or 403(b) the quality of the plans and the investment choices can vary widely.

The Bottom Line

The responsibility for saving for retirement has fallen on the shoulders of employees over recent years. Options like IRAs and employer-sponsored retirement plans like a 401(k) are the cornerstone of retirement savings for most of us. Be sure to understand these options in order to make them work for you.