Choosing Between Solo 401k and Employer 401k Plans

If you're self-employed or own a small business, you've probably heard of solo 401k and employer 401k plans. Solo 401k plans are designed for business owners with no employees, aside from themselves or their spouse, and can be a great way to save for retirement.

The main difference between solo 401k and employer 401k plans is the level of contribution. With a solo 401k plan, you can contribute up to 20% of your net earnings from self-employment, up to a maximum of $57,000 in 2023, plus an additional $6,500 if you're 50 or older.

Setting up your solo 401k can be a relatively simple process, especially compared to traditional 401k plans. You can set one up through a financial institution that administers 401k plans, and because these plans typically involve only 1 or 2 people, they're simpler to administer.

Many online brokerage companies such as Fidelity and Vanguard offer solo 401k plans, which usually have low to no fees depending on your portfolio value. You can also consider opening your solo 401k plan with an existing taxable brokerage account, as fee calculations are often based on your overall holdings in all your accounts.

To set up your solo 401k, you'll need to complete the necessary paperwork and provide the required documentation to establish your plan. This typically involves filling out an application form provided by the solo 401k provider, which will ask for basic personal information such as your name, address, social security number, and contact details.

You'll also need to provide information about your business, including its legal name, type of business entity, and employer identification number (EIN) if applicable. Additionally, you'll need to provide the plan documents, which may be bundled with the account or provided by a third-party administrator (TPA).

Once you've set up your solo 401k, you'll need to establish contribution levels and choose investments for those funds. There is no annual minimum contribution requirement, so you can increase contributions in good years and save less during times when you need more cash for your business.

Here are some key things to consider when setting up your solo 401k:

It's also a good idea to review the plan documents and understand the rules for who can participate in the plan, including the exception for spouses and minor children.

A solo 401k is a type of retirement plan designed for self-employed individuals and small business owners who don't have any employees.

The plan is also known by other names, such as solo-k, self-employed 401k, individual 401k, i401k, one-participant 401k, and uni-k.

To qualify for a solo 401k, you must be a business owner or entrepreneur with no employees, except for your spouse or minor children who work for you and are on the payroll.

You can also have 1099 independent contractors, but not W-2 employees besides yourself and a spouse.

The solo 401k is similar to a regular 401k, but with a twist: as your own employer, you manage both the employee and employer contributions.

You can make a matching contribution to your own employee portion, just like employers do for their employees.

The solo 401k is a great way to save for retirement, with tax advantages provided by the government to incentivize saving.

Here are the different names for a solo 401k:

You can open a solo 401k plan with online brokerage companies like Fidelity and Vanguard, which often have low to no fees depending on your portfolio value.

If you already have a taxable brokerage account, it's a good idea to open your solo 401k plan with the same company to take advantage of fee calculations based on your overall holdings.

A Solo 401(k) plan is a type of retirement plan that allows self-employed individuals to contribute both as an employer and an employee, providing a unique opportunity to maximize retirement savings.

The business owner wears two hats in a 401(k) plan: employee and employer, allowing contributions to be made in both capacities.

Contributions can be made to the plan in both capacities, with the owner able to contribute up to the employee 401(k) maximum contribution as an employee, and up to 25% of net earnings from self-employment as an employer.

Self-employment compensation is defined by the IRS as net earnings from self-employment after deducting half of self-employment tax and contributions for yourself.

To determine your contribution amount, consider your self-employment income, business expenses, and tax deductions.

You can make contributions to your Solo 401(k) account on a regular schedule or as a lump sum, depending on your chosen provider.

Regular contributions can be set up through automatic transfers from your business bank account to your Solo 401(k) account.

Lump sum contributions can be made at any time, but be sure to meet the contribution deadlines to avoid any issues.

To manage your investments effectively, review your portfolio regularly and make adjustments as needed to maintain your desired asset allocation.

Consider your risk tolerance, investment goals, and time horizon before making investment decisions.

Diversification is crucial in investment management, helping to spread risk across different asset classes and reducing the impact of market volatility.

You can visit the small business retirement plans page of a brokerage firm, such as Vanguard, Fidelity, or Charles Schwab, to open and fund your Solo 401(k) account.

Each brokerage firm offers a walkthrough on how to establish a new account, and their customer service numbers can provide additional support if needed.

When making contributions, be sure to choose whether you want to elect contributions for the current tax year or the previous tax year, as this can impact your tax obligations.

Contributions can be made throughout the year or in a lump sum at the end of the year or at the beginning of the next year, depending on your income situation.

A table summarizing the contribution limits for a Solo 401(k) plan is as follows:

This information can help guide your planning for retirement, ensuring you make the most of your Solo 401(k) plan and maximize your retirement savings.

To open a Solo 401(k) account, you can visit the small business retirement plans page of companies like Vanguard, Fidelity, or Charles Schwab, and follow their walkthrough to establish a new account. Their live chat or customer service numbers can provide additional support if needed.

You can link a funding account to your Solo 401(k) account, usually your primary checking account, to make direct ACH contributions. When making contributions, you can choose to elect contributions for the current tax year or the previous tax year, but be sure to pay attention to this selection to avoid any tax complications.

You can make contributions throughout the year or in a lump sum at the end of the year or at the beginning of the next year, depending on your income situation. If you have a regular income with predictable expenses, making monthly contributions throughout the year may be beneficial.

Determining your contribution amount is a crucial step in setting up your Solo 401(k) account. The employee contribution is set by the IRS each year and applies to each individual participant, regardless of multiple businesses or sources of self-employment income.

To calculate your employee contribution, look up the 401(k) contribution limits for the current year. You can also make employer contributions to your Solo 401(k), which is calculated as a percentage of your net earnings from self-employment, up to 25%.

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. This is typically done by subtracting your business expenses from your total self-employment income.

To determine your maximum employer contribution, multiply your earned income by 25%, or 1/4. If you are an S-corp, you will take 25% of your W-2 wages to get the employer contribution limit.

The total contribution made by both the employee and the employer cannot exceed the annual limit set by the IRS. It's essential to consider any other retirement plans you may have, as the contribution limits may be affected by your participation in multiple plans.

Funding a Solo 401(k) plan is a straightforward process that can be completed online or in a branch office of your brokerage. You'll set yourself up as the plan administrator (employer) side and then treat yourself as a plan participant (employee) side.

To open a Solo 401(k) plan, visit the small business retirement plans page of the company you'd like to open your account with, such as Vanguard, Fidelity, or Charles Schwab. Each brokerage firm offers a walkthrough on how to establish a new account, and their live chat or customer service numbers can provide additional support if you need it.

You can link a funding account, usually your primary checking account, to directly draw funds via ACH for your contributions. Contributions can be made throughout the year or in a lump sum at the end of the year or at the beginning of the next year, depending on your income situation.

If you have a regular income with known expenses, making monthly contributions throughout the year may be beneficial. However, if your income is highly irregular or you earn a large income, it may be better to wait until the end of the year to determine how much you can contribute and potentially deduct.

As an employee, you can contribute up to the employee 401(k) maximum contribution, while as an employer, you can contribute up to 25% of your net earnings from self-employment (or 25% of your salary if you're taxed as an S-corp). The employer contribution cannot exceed the total 401(k) limits for the given year.

Here are some key contribution details to keep in mind:

You can make contributions on a regular schedule or as a lump sum, and it's essential to keep track of your contributions and maintain accurate records to report them on your tax returns.

Taking Distributions from Your Retirement Account can be a bit tricky, but I'm here to break it down for you.

You can take distributions from your self-employed 401(k) due to a "triggering event", such as death, disability, plan termination, or reaching the age of 59 1/2 or older.

These distributions may be subject to a 10% early withdrawal penalty, along with any applicable income taxes. This is a key consideration when deciding when to take distributions from your account.

If you're 59 1/2 or older, you can withdraw your Roth money tax-free. This is a nice perk, especially if you've been contributing to your Solo 401(k) for a while.

You must take required minimum distributions from self-employed 401(k)s starting at age 73. This is a rule you'll need to follow, so it's essential to plan ahead.

It's always a good idea to consult with a tax professional or financial advisor before taking distributions from your account. They can help you understand the tax implications and guide you through the process in a tax-efficient manner.

Here are some options to consider when taking distributions from your self-employed 401(k):

Understanding the tax implications and deadlines associated with a Solo 401(k) is crucial to avoid any penalties or invalid contributions.

As a self-employed individual, you can contribute up to the current year employee max contribution for a 401(k), and as an employer, you can contribute up to 25% of your net earnings from self-employment. However, the total contribution cannot exceed the annual limit set by the IRS.

You need to make contributions by the tax filing deadline, which is usually April 15th of the following year, but can be extended to October 15th if you file for an extension. If you operate as an S-corp, get your employee contributions in before the end of the year to reflect them in your payroll properly.

Distributions from a Solo 401(k) are generally subject to income tax if they are pre-tax contributions.

You'll want to consider the age 59 1⁄2 threshold, as taking distributions before this age may result in early withdrawal penalties.

Roth money can be withdrawn tax-free if eligible, typically after age 59 1⁄2.

The tax implications of Solo 401(k) distributions can be complex, so it's a good idea to consult with a tax professional or financial advisor for guidance.

They can help you understand the tax implications and guide you through the process of taking distributions in a tax-efficient manner.

Deadlines are crucial when it comes to Solo 401(k) plans, and it's essential to understand them to avoid any penalties or issues.

The deadline for opening a Solo 401(k) account is now your tax filing day, which is generally April 15th, but may be March 15th if you have an S-Corporation.

You can extend this deadline into the fall if you file an extension, but it's not always recommended due to overfunding rules.

Contributions must be made by the tax filing deadline, including any extensions, which means contributing by April 15th of the following year for most self-employed individuals.

If you file for an extension, you have until October 15th to make your contributions for the previous tax year.

As an S-corp, you need to get your employee contributions in before the end of the year so that your payroll properly reflects the contributions.

It's crucial to adhere to these deadlines to ensure your contributions are valid and avoid any potential issues.

If the solo 401k isn't the right fit for you, there are other options to consider. SEP (Simplified Employee Pension) plans are a viable alternative, offering tax benefits for self-employed individuals.

You can also explore Individual Retirement Accounts (IRAs) or Roth IRAs, which provide flexibility and tax advantages for retirement savings. Other types of plans may also be available.

If you're already working with an online brokerage company like Fidelity or Vanguard, you can open your solo 401k plan with them, taking advantage of low to no fees depending on your portfolio value. This can be a convenient option if you already have a taxable brokerage account.

Here are some alternatives to consider:

If you're looking for alternatives to a solo 401(k) plan, there are a few options to consider.

One alternative is a SEP (Simplified Employee Pension) IRA. With a SEP IRA, the employer makes all the contributions, and there is no employee side.

You can contribute up to 25% of your net self-employed earnings to a SEP IRA, similar to the employer side of a solo 401(k).

If you have additional employees, however, you have to contribute for all eligible employees as well.

A SEP IRA can be a good option if you're self-employed and don't have any other employees.

However, if you're a high-income earning physician or household, a SEP IRA may not be the best choice, as it will count against you when doing a Backdoor Roth IRA.

Here are some alternatives to consider:

If you're a self-employed physician, you have options beyond the traditional solo 401k plan.

You can consider other tax-advantaged retirement plan options, such as those mentioned in article section example 2, "Alternatives for Self-Employed Physicians".

Many online brokerage companies, like Fidelity and Vanguard, offer solo 401k plans with low to no fees, as mentioned in article section example 1, "Where to Get a Solo 401k Plan".

These plans can be beneficial if you already have a taxable brokerage account with the same company, as fee calculations are often based on your overall holdings.

If you're considering a solo 401k, it's essential to note that you can't have any W-2 employees on payroll besides yourself and a spouse, as mentioned in article section example 3, "Introduction to the Solo 401k for Self-Employed and Side Gig Physicians".

However, you can have 1099 independent contractors that you work with and still qualify for a solo 401k.

Here are some key features of a solo 401k:

As a self-employed professional, you have the opportunity to participate in a Solo 401(k) plan, which allows you to contribute both as an employer and an employee.

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. The employer contribution cannot exceed the total 401(k) limits for the given year.

Self-employment compensation is defined by the IRS as net earnings from self-employment after deducting one-half of your self-employment tax and contributions for yourself.

Here's a summary of the dual contribution capability:

This dual contribution capability allows you to maximize your retirement savings and take advantage of significant tax deductions and tax optimization.

When selecting a provider, consider the level of expertise they have in employee engagement and involvement. The provider should have a proven track record of success in this area.

A good provider will have a clear understanding of the organization's goals and objectives, as well as the ability to tailor their services to meet those needs. This is evident in the example of XYZ Corporation, which worked with a provider to design and implement an employee recognition program that aligned with their company values.

The provider should also have a strong network of resources and tools to draw upon, such as the employee engagement platform used by ABC Inc. to boost participation in their wellness program.

Ultimately, the provider you choose should be able to demonstrate a return on investment for your organization, such as the 25% increase in employee satisfaction reported by DEF Company after partnering with a provider.

To be eligible for a Solo 401(k), you must claim some self-employed income, which doesn't necessarily mean working full-time in a self-employed capacity.

A common example of part-time self-employed income is an individual who works for an employer, but also does a little consulting on the side, making their business eligible for adopting a Solo 401(k).

You can adopt a Solo 401(k) Plan with a sole proprietorship, limited liability company, partnership, C-Corporation, or S-Corporation.

The business adopting the Solo 401(k) Plan must not employ any full-time employees that are eligible to participate in the plan, other than the business partners and their spouses.

A full-time employee is generally defined as one who works at least 1,000 hours per year for their employer.

You can exclude certain employees from plan eligibility, such as those under age 21, non-resident aliens, and union members for which retirement benefits were the subject of a collective bargaining agreement.

For a partnership, or an LLC taxed as a partnership, the deadline for depositing salary deferrals into the Solo 401k, 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).

Defined Benefit and Cash Balance Plans can be a great option for self-employed individuals who have a large amount of income and cap out solo 401k contribution limits.

These plans are more similar to pensions than 401ks, but they have a lot more regulation and requirements, making them complicated and expensive to maintain.

They are not a DIY endeavor, requiring professional management and oversight.

However, they can be worth exploring for those who want to reduce their taxable income and potentially put in a large amount of money pre-tax.

Defined benefit and cash balance plans can be found on our defined benefit cash balance plans page and other self-employed retirement plan options on our guide to side gig finances and self-employed income.

As the employer, you have the opportunity to contribute to your solo 401(k) plan, which can help you maximize your retirement savings.

You can contribute up to 20-25% of your compensation, depending on how your business is classified from a tax standpoint, with a maximum contribution limit that includes both your employee and employer contributions.

If you're a sole proprietor or an LLC taxed as a sole proprietor, you can contribute 20% of your net earnings from self-employment, which is calculated after expenses and self-employment taxes.

For an S-corporation, you can contribute up to 25% of your W2 income, subject to the total maximum contribution limit.

To calculate your employer contribution, you'll need to consider your net earnings from self-employment, self-employment taxes, and other nuances of the rules, so it's a good idea to confirm the numbers with your accountant and tax return.

Here are some key employer contribution limits to keep in mind:

Keep in mind that these rules are subject to change, so it's essential to stay up-to-date on the latest information and confirm your contribution amount with your accountant and tax return.

As the employer, you have a unique opportunity to contribute to your solo 401(k) plan, which can help you maximize your retirement savings and minimize your tax liability.

As an employee, understanding your contribution limits is crucial when it comes to retirement savings. You can contribute up to $23,000 in 2024, or 100% of your earned income, whichever is less.

Your earned income is defined as your net earnings from self-employment, minus half of your self-employment tax amount and employer contributions. This might sound complicated, but the IRS offers a calculator to help you figure it out.

If you're 50 or older, you're eligible for catch-up contributions of an additional $7,500 every year, bringing your total to $30,500 in 2024.

The solo 401k plan has several advantages that make it a popular choice for self-employed individuals. It generally offers higher contribution limits than other options, including catch-up contributions.

One of the key benefits is the ability to contribute both as an employee and an employer, allowing for potentially higher overall contributions. This is because you can do the employee portion as a dollar earned to dollar earned portion instead of the percentage of income earned on the employer side.

Here are some of the specific advantages of the solo 401k:

The solo 401k also offers better asset protection than IRAs, which can be a significant advantage for self-employed individuals. This is because 401k plans are generally subject to state-dependent regulations that offer more protection than IRAs.

The solo 401k has several advantages that make it a popular choice for self-employed professionals. It offers higher contribution limits than other options, including catch-up contributions.

One of the key benefits of the solo 401k is the ability to contribute both as an employer and an employee, allowing for potentially increased contributions overall. This is because the employee contribution is made on a dollar-for-dollar basis, while the employer contribution is based on a percentage of net earnings from self-employment.

Roth contributions in a solo 401k are also not restricted by income, giving you more flexibility in your tax strategy. Additionally, the solo 401k allows for both traditional and Roth contributions, enabling you to optimize your taxes.

A solo 401k can also provide better asset protection than IRAs, depending on the state. This is because 401k plans generally have more stringent regulations and protections in place.

The solo 401k has its limitations, and it's essential to understand them before making a decision.

One of the main disadvantages is that it's only available to sole proprietors or businesses with only one employee, unless you employ your spouse and/or minor children, which might not be the case for everyone.

Contribution limits are tied to your self-employed income, so if you only have a side gig, you may be limited in how much you can contribute.

You'll need to take into account total contributions across all 401k plans, including your employer plan from your main job, if applicable.

Setting up a solo 401k can be a bit complicated, requiring a separate EIN and potentially involving a third party for Roth or mega backdoor Roth options.

You'll also need to annually file a Form 5500-EZ once your account balance reaches $250,000.

The good news is that the Form 5500-EZ is designed to be easy to complete, and unlike regular employer 401k plans, solo 401ks don't require discrimination testing, reducing paperwork and record keeping.

Here are the main disadvantages of a solo 401k: