Pathways to Retirement and the Self-Employed

We study the role that self-employment plays in transitions to retirement using a rich administrative dataset consisting of the tax returns of a large random sample of individuals from the 1945 birth cohort over 1999-2013 (at ages 54 through 68). We find that roughly 1 percent of wage earners become self-employed each year. Local labor unemployment rates do not appear to affect transitions to self-employment for either older or younger workers, though they do increase the probability of retirement. The probability of switching from wage-employment to self-employment, conditional on continuing to work, increases by around 18 percent at age 63 and continues to increase during the mid-to-late 60s. We find weak evidence that this effect is more pronounced for individuals with larger IRA balances, particularly after penalty-free withdrawals are available. Late-career transitions from wage employment to self-employment are associated with a substantially larger drop in income than mid-career transitions from wage employment to self-employment. For younger wage earners who become self-employed, income increases with the duration of self-employment; however, it continues to fall for older wage earners. Supplementary analysis using the Health and Retirement Study (HRS) suggests that hours worked also fall upon transition to self-employment. Overall, our results suggest that older individuals who become self-employed may be using it as a “bridge job” that provides, flexible part-time work as they transition to retirement.