Should Gig Workers Use a Roth IRA?

July 19, 2023 Patrick Means
Even if you don't have an employer sponsored retirement plan, it's still important to save for your future.

It was a Thursday afternoon, the day of the NFL draft. I'm a huge Denver Broncos fan, so I took the day off and was playing golf with my cousin. Like most NFL fans, we were debating who my favorite team should draft. My cousin, in the golf cart, held his laptop with headphones on because he was working. He's got three jobs as a contract worker in IT security.

I was envious for a couple of reasons. First, because he's a much better golfer than me. And second because he can work from the golf course. Then, the conversation transitioned from football to adulting. My cousin has two kids and wants to start planning his financial future. He realizes that although he's fortunate to make a great living and have flexibility in his work, one of the things he envies about me is my employer sponsored retirement plan. And he's not alone.

You probably know someone like my cousin, or you yourself might work in the gig economy as a freelancer, contractor, or part-time worker. In 2022, 36% of the U.S. workforce were classified as independent workers, according to Statista.

Here's the rub. Twenty seven percent of gig workers, when it is their full-time job, have no retirement savings, Statista said. And 37% of full-time independent workers are between the ages of 21 and 38. That's a sweet spot to be saving for retirement.

Why it's important to save for your retirement now

Gig economy workers may not have access to traditional employer sponsored retirement plans, like a 401(k), which puts more responsibility on the individual to take control of their retirement savings plan. So, it's important to take ownership, and set up your own accounts to help prepare for the future.

My cousin understands—with a few hints from me—that compound growth is working on his side right now given his age. Compound growth can help create a snowball effect for your nest egg, as the original investments plus the income earned from those investments grow together. So, the sooner you start saving for retirement, the better.

That brings us to my cousin's next question: What's the difference between a Roth and a Traditional IRA? It's an excellent question and it is one I get often. But for gig workers especially, it's important to also consider other small business retirement accounts like a SEP IRA, i401(k) or a SIMPLE IRA which may allow you to contribute more and potentially benefit from greater tax advantages as a result. Be sure to consider all your options before choosing an account. Now, here's the lowdown on traditional and Roth IRAs.

Traditional IRAs

A traditional IRA is an individual retirement account that allows you to make contributions on a pre-tax basis if your income is below a certain level. Here are additional features of a traditional IRA:

  • You don't pay taxes until you withdraw the money in retirement.
  • Beginning at age 73, as of 2023, you'll have to start taking required minimum distributions (RMDs) each year from your traditional IRA. Those withdrawals are taxed as ordinary income.
  • If you withdraw money before age 59½, you may be subject to a 10% early withdrawal penalty and state tax penalties.

Roth IRAs

Here are Roth IRA features, which reveal several differences:

  • You make your contributions with after-tax dollars.
  • You won't have annual RMDs.
  • You can withdraw contributions from a Roth account anytime, tax- and penalty-free.
  • But you can only withdraw your earnings tax-free after age 59½ if you've had the account for at least five years—otherwise, you must pay taxes and penalties on them.

General guidelines to help you choose

Wondering how to pick?

Traditional IRA: Consider this option if you don't expect to be in a higher tax bracket when you retire.

Roth IRA: Consider this option if you think your tax bracket will be higher when you retire than it is today. This could apply to younger folks who have yet to reach their peak earning years.

If you are a high earner, you will by default have to contribute to the traditional IRA. There are income qualifications for contributing fully to a Roth IRA account that vary from $138,000 to $153,000 for singles and $218,000 to $228,000 if you're married filing jointly for the 2023 tax year.

When you contribute to a Roth IRA, you take money you've already paid taxes on and put it away for your future. In my view, you could potentially get more bang for your buck over the long-term with a Roth IRA because all the interest and earnings grow tax free over time. Also, if an unforeseen event comes up, you do have more flexibility to gain access to Roth IRA money without penalty because you've already paid taxes on those contributions, given you met the minimum age and 5-year holding period requirement.

How much can you contribute to an IRA?

If you have earned income, you can contribute up to the maximum annual contribution. Annual contribution limits are the same for traditional and Roth IRAs:

  • For tax year 2023, you can contribute a maximum of $6,500.
  • If you're 50 or older, you can make an additional $1,000 catch-up contribution for a total of $7,500.

Ideas to start saving for your retirement

Turn your retirement savings on auto drive. As a gig worker, you may not have the benefit of having a retirement contribution automatically deducted from your paycheck. You'll probably have to create that system for yourself. So, consider setting up an automatic transfer, say, once a month, from your checking account to your retirement account. It's much harder to try to write a big check once a year than it is to have smaller amounts of money systematically come out of your account on a regular basis.

Make small decisions today. I'm all about enjoying life now, which is why I take time off to play golf. But I still want to make sure my decisions today can help create longevity for these experiences. So, I make some small sacrifices today to save, knowing that I have time on my side to help me enjoy life later. The benefit of small decisions today can have a huge impact on your future. Use a compound savings calculator to see for yourself how making consistent deposits now can have such a dramatic impact on your future. 

So, here's my message to my cousin and gig workers everywhere. You can have your cake and can eat it too. If you take control of your finances by setting up the right accounts and contributing to them regularly, you'll be in a great position to have the job you want, the flexibility you want, plus the confidence that you're building a nest egg toward the future you want. That's a hole-in-one on my scorecard.

Next Steps:

  • Learn about small business retirement accounts.  
  • Use this compound savings calculator.  
  • Explore more personal finance topics.