In this post, I’ll give you tips to make the most of additional money when you’re a good saver, get a raise, or receive an unexpected cash windfall.
5 Places to Invest After You Max Out a Retirement Account
Here are five places to invest if you’ve maxed out a retirement account at work or don’t have a job with a retirement plan.
- Individual Retirement Arrangement or IRA.
- Retirement plan for the self-employed.
- Health Savings Account or HSA.
- Different types of annuity products.
- Taxable brokerage account.
Let's go deeper into each.
1. Individual Retirement Arrangement or IRA.
A major reason you should top off a workplace retirement plan first is because the contribution limits are much higher than with an IRA. For 2017, you can contribute up to $18,000 to a workplace account, or up to $24,000 if you’re over age 50. With a traditional or Roth IRA, you can only contribute up to $5,500, or $6,500 if you’re over 50.
An IRA is a personal account that has nothing to do with your work; you open it, fund it, and control it yourself. The only requirement to contribute to an IRA is that you have some amount of earned income or have a spouse with earned income.
No matter how much you contribute to a retirement plan at work. you can also max out an IRA in the same year. There are annual income limits to qualify for a Roth IRA, but there are no income restrictions for a traditional IRA.
Also, be aware that if you or a spouse participate in a retirement plan at work, the tax deduction on traditional IRA contributions may be reduced or eliminated, depending on your income. That doesn’t mean you can’t max out the account; however, only some or none of your contribution will be deductible. Read or listen to Can You Contribute to a 401k and an IRA in the Same Year? for more details.
Simone asked whether it’s better to use a non-deductible IRA or a brokerage account to invest when you’ve maxed out retirement options at work. Assuming she and her husband earn too much to qualify for a Roth IRA (which has no restrictions when you also contribute to a workplace plan), I’d encourage her to max out a non-deductible IRA before using a taxable brokerage account.
While you don’t get an income tax break on contributions to a non-deductible IRA, you still defer annual investment taxes as your money grows. That means you don’t pay any taxes on your earnings until you take withdrawals in retirement.
2. Retirement plan for the self-employed.
Simone didn’t mention if she has any other income sources. But if you’re self-employed or have your own company, there are more ways to save for retirement, in addition to an IRA, even if you already maxed out a retirement plan at work.
I’ll just cover my favorite plan here, which is a Simplified Employee Pension Plan, also known as a SEP-IRA. It allows employers to make pre-tax contributions to a traditional IRA for each of their eligible employees.
If you’re self-employed or have your own company, there are more ways to save for retirement, in addition to an IRA, even if you already maxed out a retirement plan at work.
SEPs don’t allow employees to contribute; they can only be funded by employer contributions. But it allows individuals who are self-employed to make contributions to their own retirement account.
The money you put into a SEP can go to various options you choose from a menu of available investments, such as mutual funds. Your contributions are tax-deductible and grow tax-deferred until retirement.
The SEP rules allow you to contribute any amount you like, up to 25% of your salary if you’re an employee of your own company, or up to 20% of your net self-employment income. These percentages are capped at a maximum contribution of $54,000 for 2017.
You can even have a SEP for your part- or full-time self-employment income even if you have another job where you participate in an employer’s retirement plan and max it out.
3. Health Savings Account or HSA.
An HSA is a special tax-exempt account you can open for the sole purpose of paying medical expenses for you or your dependents. To be eligible, there are no income restrictions, but you must already have a qualified, high-deductible health plan as an individual or an employer.
Contributions to an HSA are deductible on your tax return (even if you don’t itemize deductions) and when you withdraw funds to pay qualified expenses, your original contributions plus any earnings are completely tax-free. That makes it an even better tax deal than a retirement account.
Money in most HSAs can earn interest, or be invested for potential growth in a menu of available options, such as mutual funds. So, this account does double duty as a smart way to pay for medical expenses on a pre-tax basis and to invest your balance.
For 2017, you or your employer can contribute a total of up to $3,400 to an HSA when you have a self-only health plan, or $6,750 for a family plan. If you’re age 55 or older you can contribute an additional $1,000 to an HSA when you have either type of health plan.
No matter where you buy your health insurance, you own and manage an HSA as an individual. If you have an HSA-qualified plan, you don’t need permission from an employer or the IRS to set up the account. And it stays with you even if you change jobs, become unemployed, or self-employed.
And here’s another great benefit of an HSA: Unlike a flexible spending account (FSA), you can roll over HSA funds from year to year with no penalty. When you turn 65, any remaining balance can be used for non-medical expenses with no penalty. Prior to age 65, you’ll have to pay a 20% penalty, plus taxes, if you spend HSA funds on non-qualified expenses.
So, your HSA morphs into something that looks like a traditional retirement account if you keep it long enough. You can spend the funds on anything you like, but withdrawals are taxed at your ordinary income tax rate.