Solo 401(k) Retirement Savings for the Self-Employed

As a self-employed individual, you have the option to set up a Solo 401(k) plan to save for retirement. This type of plan allows you to contribute a significant amount of money to a tax-deferred account each year.

A Solo 401(k) plan can be set up and managed with the help of a financial advisor or a plan provider. The plan must be established by December 31 of the year you want to make contributions for.

Contributions to a Solo 401(k) plan are made with pre-tax dollars, which reduces your taxable income for the year. This means you'll pay less in taxes upfront, and the money will grow tax-deferred over time.

A solo 401(k) is an individual 401(k) designed for a business owner with no employees.

The IRS has specific rules regarding solo 401(k) plans, and one of them is that you can't contribute to a solo 401(k) if you have full-time employees.

You can, however, use the plan to cover both you and your spouse.

Setting up a Solo 401(k) is relatively simple, especially compared to traditional 401(k) plans. You can set one up through a financial institution that administers 401(k) plans, which can be a great option since these plans typically involve only 1 or 2 people, making them simpler to administer.

Fees for self-employed 401(k) plans can be relatively low, with some institutions not charging any setup or maintenance fees. However, it's essential to review potential plans and be aware of all applicable fees before signing up.

When choosing a plan, look for one that offers a wide range of investment options, including mutual funds, stocks, bonds, ETFs, and CDs. Some institutions also offer online tools or telephone assistance to help you pick the right mix of investments for your plan.

To establish your plan, you'll need to complete the necessary paperwork and provide the required documentation to the financial institution. This may include information about yourself, your business, and your financial situation.

Here's a breakdown of the information you'll typically need to provide:

Once you've completed the paperwork and provided the necessary documentation, you can set up your Solo 401(k) account and start making contributions.

Contributing to a Solo 401(k) is a straightforward process once your account is set up. The IRS sets the contribution limits for a Solo 401(k) each year, so be sure to look those up.

The employee contribution limit applies to each individual participant, regardless of multiple businesses or sources of self-employment income. This limit is set by the IRS and can be found by looking up the current year's 401(k) contribution limits.

You can also make employer contributions to your Solo 401(k), which are calculated as a percentage of your net earnings from self-employment. The employer contribution is capped at 25% of your net earnings.

To calculate your net earnings from self-employment, subtract your business expenses from your total self-employment income. Your compensation used to calculate your allowed contribution is your "earned income", which is defined as net earnings from self-employment after deducting both business expenses and other deductions.

If you're an S-corp, you'll take 25% of your W-2 wages to get the employer contribution limit. Remember to consider any other retirement plans you may have, as the contribution limits may be affected by your participation in multiple plans.

Here's a breakdown of the steps to determine your contribution amount:

A Solo 401(k) can shelter more earnings than a SEP or SIMPLE IRA, making it a great option for self-employed individuals.

The Solo 401(k) allows for loan provisions, giving you access to your retirement funds when you need them. This can be a lifesaver in case of an emergency or unexpected expense.

You can contribute up to the employee 401(k) maximum contribution as an employee, and up to 25% of your net earnings from self-employment as an employer. This dual contribution capability sets the Solo 401(k) apart from other retirement plans.

As an employer, you can contribute up to 25% of your salary if you're taxed as an S-corp, but the employer contribution cannot exceed the total 401(k) limits for the given year.

A Solo 401(k) offers a wide range of investment options, including stocks, bonds, real estate, and alternative investments like precious metals or cryptocurrencies. This flexibility gives you the ability to diversify and customize your portfolio.

Pre-tax contributions made to a Solo 401(k) are tax-deferred, meaning you don't pay taxes on that income until you withdraw it in retirement. This can result in significant tax savings, especially if you're in a higher tax bracket during your earning years.

Here are the main advantages of a Solo 401(k):

You can contribute up to $23,000 to a self-employed 401(k) as an employee, or 100% of your compensation, whichever is less. If you're 50 or older, you can add an extra $7,500 in catch-up contributions each year.

Total contributions to a participant's account, including catch-up contributions for those age 50 and over, cannot exceed $76,500 for 2024. For those under 50, total contributions cannot exceed $69,000.

As the employer, you can make a contribution of up to 25% of your compensation each year. This means you can contribute a total of up to $48,000 in one year if you're an independent consultant under 50 with $100,000 in compensation.

You can take a loan from your Solo 401(k) plan if it has a loan provision, up to 50% of the total 401(k) value or $50,000, whichever is less. The loan must be repaid according to the terms of the loan amortization schedule, which is typically 5 years or up to 10-15 years if used for a primary residence.

You must take required minimum distributions from self-employed 401(k)s beginning at age 73, and distributions may be subject to a 10% early withdrawal penalty and income taxes if taken before age 59 1/2.

Here are the key contribution limits and deadlines to keep in mind:

Remember to adhere to these deadlines to ensure your contributions are valid.

A Solo 401(k) offers two tax options: traditional and Roth. With a traditional 401(k), contributions reduce your income in the year they are made, but distributions in retirement will be taxed as ordinary income.

You can opt for the Roth solo 401(k), which offers no initial tax break but allows you to take distributions in retirement tax-free. This is a better option if you expect your income to be higher in retirement and/or you expect tax brackets to be higher in the future.

The IRS has strict rules about when you can tap the money you put into either type of account: With few exceptions, you'll pay taxes and penalties on any distributions before age 59 ½.

You can contribute up to the current year employee max contribution for a 401(k) as an employee, and up to 25% of your net earnings from self-employment as an employer. The employer contribution cannot exceed the total 401(k) limits for the given year.

A Solo 401(k) allows you to invest in a wide range of assets, including stocks, bonds, real estate, and even alternative investments like precious metals or cryptocurrencies. This flexibility gives you the ability to diversify and customize your portfolio.

Here's a quick rundown of the tax implications:

Contributions to a Solo 401(k) are tax-deductible, but the type of contribution determines the tax implications. With traditional contributions, you reduce your income in the year they are made, but distributions in retirement will be taxed as ordinary income.

You can opt for a Roth solo 401(k), which offers no initial tax break but allows you to take distributions in retirement tax-free. This is a better option if you expect your income to be higher in retirement and/or you expect tax brackets to be higher in the future.

Distributions from a Solo 401(k) are generally subject to income tax if they are pre-tax contributions and may be subject to early withdrawal penalties if taken before the age of 59 1⁄2. Roth money can be withdrawn tax-free if eligible, typically after age 59 1⁄2.

To minimize tax liability, consider making pre-tax (or "Traditional") contributions to a Solo 401(k), which are tax-deferred. This can result in significant tax savings, especially if you're in a higher tax bracket during your earning years.

The IRS requires an annual report on Form 5500-SF if your 401(k) plan has $250,000 or more in assets at the end of a given year. This form may need to be filed if your account's year-end balance is more than $250,000, you terminate the plan, or you find you have an employee that has become eligible.

Here's a summary of tax implications for Solo 401(k) contributions and distributions:

Remember to consult with a tax professional or financial advisor before making any decisions about distributions from your Solo 401(k), as the specific rules and regulations can be complex.

A Solo 401(k) plan can be a great way to manage your retirement savings, and one of its key features is the ability to accept rollovers from other accounts.

Not all Solo 401(k) plans accept rollovers, so it's essential to check the plan document first.

Traditional IRA, SEP, Qualified Plans, and Keoghs are all eligible for rollovers into a Solo 401(k) plan.

You can also roll over money from a 401(k), 403(b), or governmental 457 plan into a Solo 401(k) plan.

If you have a SIMPLE IRA, you'll need to wait two years before you can roll it over into a Solo 401(k) plan.

A Solo 401(k) plan can be rolled over to another traditional 401(k) plan, and into a traditional IRA or rollover IRA.

Designated Roth accounts in a Solo 401(k) plan can be rolled over to another 401(k) plan with designated Roth accounts, or to a Roth IRA.

Designated Roth accounts are a valuable feature of Solo 401(k) plans, allowing you to make after-tax contributions and take tax-free distributions of contributions and qualified earnings.

One of the key benefits of designated Roth accounts is that the income limitations for contributing to a Roth IRA do not apply, making it possible for high-income self-employed individuals to make Roth contributions.

The designated Roth account is a separate entity from the pre-tax Solo 401(k) account, and it cannot receive employer contributions. Those must be made to the pre-tax account instead.

Here are some key features of designated Roth accounts in a Solo 401(k) plan:

A five-year holding period is required before withdrawals of earnings can be taken without penalty, and this period starts on the date of the first contribution to the designated Roth account.

You can withdraw funds from your Solo 401(k) under certain circumstances, but be aware of the potential penalties and taxes involved.

Distributions may be allowed due to a triggering event, such as death, disability, plan termination, or reaching age 59 1/2 or older, but they may be subject to a 10% early withdrawal penalty, along with any applicable income taxes.

You must take required minimum distributions from self-employed 401(k)s beginning at age 73. This means you'll need to start withdrawing a certain amount of money each year, even if you don't need it.

Plans can be structured to allow loans or hardship distributions, which can provide some flexibility in case of an emergency.

In the event of a triggering event, you can roll your self-employed 401(k) assets into another 401(k) (assuming the employer's plan allows rollovers) or an IRA.

Roth money can be withdrawn tax-free if eligible, typically after age 59 1⁄2. This is a big advantage if you've contributed to your Solo 401(k) with after-tax dollars.

If you're considering taking distributions, it's recommended to consult with a tax professional or financial advisor to understand the tax implications and guide you through the process in a tax-efficient manner.

Distributions from a Solo 401(k) are generally subject to income tax if they are pre-tax contributions and may be subject to early withdrawal penalties if taken before the age of 59 1⁄2.

Here's a summary of the distribution rules:

To be eligible for a Solo 401(k), you must be self-employed or have self-employment income from a business you own. This includes freelancers, consultants, sole proprietors, and small business owners.

You can't have any full-time employees, other than yourself and your spouse. Part-time employees who work less than 1,000 hours per year can be excluded from the plan.

A Solo 401(k) can be adopted by any self-employed business, including a sole proprietorship, limited liability company, partnership, C-Corporation, S-Corporation, etc.

You don't need to work full-time in a self-employed capacity to qualify. A common example is an individual who works for an employer but also does a little consulting on the side, which would be considered self-employed income.

You can have a Roth option, which means you can save more into a Roth account than is typically allowed by a Roth IRA. And a Solo 401(k) is not subject to the income limits of a Roth IRA.

Here's a breakdown of the eligibility rules:

The contribution limit for a Solo 401(k) is the total of up to $69,000 in 2024 and $70,000 in 2025, with an additional catch-up contribution of $7,500 for those 50 or older.

The deadline for depositing salary deferrals into the Solo 401(k), as well as the deadline to fund the profit sharing contribution, is the partnership tax filing date of March 15 (or September 15 if an extension was filed).