Who Can Have A Solo 401 Plan
You can open an individual 401 if:
You make self-employment income through a product or service such as working as an independent contractor, painting, or driving for ride-hailing companies.
You own a sole proprietorship, a limited liability company, limited partnership, S corporation or, C corporation.
You are the only employee in your business.
Solo 401 Contribution Deadline
Note that the solo 401 contribution deadline is the extended due date of your individual tax return or your business tax return . Specifically, here are the solo 401 contribution deadlines for specific tax situations:
- Deadline for solo proprietor who has not extended Form 1040: April 15
- Deadline for solo proprietor who has extended Form 1040: October 15
- Deadline for S corporation owner who has not extended Form 1120S: March 15
- Deadline for S corporation owner who has extended Form 1120S: September 15
- Deadline for C corporation owner who has not extended Form 1120: October 15
So if youre making solo 401 contributions, be sure to keep in mind the deadlines above.
How Much Does It Cost To Open A Solo 401
There is no cost to open a 401 account but watch out for those fees later on. While you’re researching your options, check for account maintenance fees, transaction fees and commissions, mutual fund expense ratios, and sales loads.
A fractionally higher fee can mean a big hit to a retirement portfolio. If you make the right choices you can minimize the fees you pay.
Read Also: How To Diversify 401k Portfolio
Covering Your Spouse Under Your Solo 401
The IRS allows one exception to the no-employees rule on the solo 401: your spouse, if he or she earns income from your business.
That could effectively double the amount you can contribute as a family, depending on your income. Your spouse would make elective deferrals as your employee, up to the $19,500 employee contribution limit . As the employer, you can then make the plans profit-sharing contribution for your spouse, of up to 25% of compensation.
Solo 401 Employer Contribution Limits And Rules
Youll calculate your employer contribution limit differently depending on whether your business is incorporated.
If youre not incorporated, youll need to calculate your net income. Its a good idea to consult with a tax specialist if you find that calculation to be challenging.
If you have a spouse, he or she must get the same contribution from the company that you do. In other words, if your employer contribution is 15% per year and your spouse participates in your solo 401, you must give them 15% per year as well. The same is true for business partners: You must all get the same employer contribution percentage.
Employer contributions can be made only to a traditional solo 401. These contributions are tax deductible for your business.
Employer contributions are due by the time your business files its tax returns.
If your solo 401 account value exceeds $250,000, youll have to start filing Form 5500 EZ annually. That adds an extra layer of complexity to your solo 401. You can roll over some of your 401 funds into an IRA to avoid triggering that requirement.
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The Final Word About Solo 401k Rules
A solo 401k can be a really good want to save for retirement if youre self-employed. Many of the rules are major perks overall higher than average contribution limits, getting to choose your tax-advantage, and being able to cover your spouse.
If youre trying to figure out the rules, dont let them keep you from opening your retirement account. Theres never been a better time to start saving for the future.
The Ultimate Guide To The Solo 401 Written By A Cpa Who Has One
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Many self-employed business owners wrongly assume that their retirement options are more limited than those available to employees of large corporations, who often have access to an employer-sponsored 401.
Well, entrepreneurs of America, I have some good news for you: as the owner of your own business, you can contribute to your own solo 401 also known as an individual 401 and the contribution limits are even greater than what a corporate employee would have.
This being said, the solo 401 rules can be a little complicated, but thankfully I have put together this guide for you.
Lets start with the basics.
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Sep Ira For The Self Employed
A Simplified Employee Pension IRA meets the definition of retirement plans for the self employed but is probably more suitable for small-business owners who have employees. If you establish a SEP IRA and contribute for yourself, you must also contribute for your employees. Essentially, a SEP IRA is like a group traditional IRA.
Contributions are tax-deductible and investments grow tax-deferred until retirement when distributions are taxed as income. The best part of a SEP IRA is that it too allows the same generous annual contributions as a Solo 401k, up to $ $61,000 in 2022 .
But with a SEP IRA, that generous contribution limit also applies to employees. Eligible employees are anyone that is 21 or older, has worked for you for at least three of the past five years, and had a minimum of $600 income from you in 2016 through 2020 or $650 in 2021. In 2022, you must contribute for him or her. If you contributed 20% of your compensation for yourself, you must also contribute 20% of what your employees earn.
However, you dont have to set it up and administer it as an employer 401k account. Employees own and control their accounts.
Also, there is not a Roth version which means you lose the Roth Solo 401k flexibility of tax-free withdrawals when you retire. But you do retain the Solo 401k flexibility of not having to contribute every year no contribution for you or your employees.
Alternatives To A Solo 401
There are basically two options in addition to the solo 401 for freelancers and independent contractors who want to save for retirement and get the tax advantages that go with these IRS-approved choices:
- The , for Simplified Employee Pension, is designed to be an easy, flexible option for small businesses with employees. It works much like a traditional IRA but has higher contribution limits. The limits are the same as for the Solo 401: $58,000 for 2021 and $61,000 for 2022. However, your contribution cannot exceed 25% of your net adjusted income. You may not find that adequate for your goals. No catch-up contribution is allowed for those age 50 and older. No Roth option is available. A SEP IRA can be opened through any brokerage or bank.
- The Keogh Plan is open to sole proprietors, partnerships, and limited liability companies and is often used as a profit-sharing vehicle for professional practices such as doctors’ and lawyers’ groups. It has the same contribution limits as the SEP IRA and the Simple 401 but poses a greater administrative burden. There is no Roth option.
Another option, the SIMPLE IRA, is designed for businesses with 100 or fewer employees. It is open to sole proprietors but has a lower contribution limit than the Solo 401 or the SEP IRA. The maximum contribution is up to 3% of salary plus $13,500 in 2021 (rising to $14,000 in 2022. There is no Roth option.
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Can You Contribute A Lump Sum To A Self
According to Bergman, a self-employed individual can usually make an employee deferral lump-sum contribution to a plan so long as he or she has sufficient earned income. However, in the case of a W-2 owner/employee, the employee deferral contribution should not be more than the income earned for that income period. In the case of employer profit-sharing contributions, those can be made by the employer in a lump sum.
Who Should Get A Solo 401
Solo 401 plans are best for business owners who want the most flexibility in how they save for retirement. Before signing up for a Solo 401, you may also want to consider a SEP IRA or SIMPLE IRA as well.
Solo 401 plans take more paperwork to get started but offer more flexibility in what you are able to contribute. For example, SEP plans only accept employer contributions, while a solo 401 takes contributions from either the employee or employer. SIMPLE IRAs are available to businesses with up to 100 employees. SEP IRAs dont have that limit.
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Starting A 401 Without A Job
If you dont currently have a job, you may have some challenges. 401 plans are employer-sponsored plans, meaning only an employer can establish one. If you dont have your own organization and you dont have a job, you may want to evaluate contributing to an IRA instead. However, those accounts may require earned income during the year to contribute, so its not as simple as you might hope. That said, a spousal IRA may allow certain couples to contribute to a retirement account with no job.
What Else Do Small Business Owners Need To Know About 401 Plans
Small business owners who offer retirement savings plans may be able to take advantage of tax incentives. Matching employee contributions, for instance, is generally tax deductible as a business expense. For the first three years of the plan, employers may also be eligible for tax credits up to 50% of the start-up and administration costs or $5,000 , as well as a $500 automatic enrollment credit per year.
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How Does A Self
The solo 401 is like the classic 401. You contribute into the account from your pre-tax income, and you can invest the savings without paying taxes. However, you will pay taxes on withdrawals when you retire. A self-employed 401 allows your spouse to contribute in the same plan.
A major difference between an individual 401, a standard 401, and other personal 401 options is that you can make more contributions. If you qualify for a self-employed 401, the higher contribution restrictions, and easy administration of the account, makes it an ideal choice for retirement savings.
How Much Can I Contribute To A Solo 401
There are two types of contributions that can be made:
It is important to consult your accountant to calculate the profit-sharing contribution if you plan to open and contribute to a Solo 401.
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Be Smart With Your 401
Opening a 401 is a smart step on the road to a comfortable retirement, but it’s not quite as simple as signing some papers and setting aside a percentage of your paycheck. You have to understand the rules, choose your investments wisely, and continue to maintain your plan for as long as you own it. If you do that, you can feel confident that you’re giving yourself the best shot at a secure retirement.
Who Should Choose A Sep Ira Instead Of A Solo 401
When a newly minted entrepreneur or gig worker lands at Henrys door and asks whether to open an SEP IRA or a solo 401, he asks one question: Do you have any plans to hire an employee, even in the future? If the answer is maybe, he steers them toward an SEP IRA, which can be used to fund employee retirements.
Remember: Hiring just one employee for your business in the futurebeyond your spousewould eliminate the solo 401 as an option. And switching from a solo 401 to an SEP IRA at some future date can be a big hassle, Henry warns.
Entrepreneurs who go with an SEP IRA because of potential future hires have another important consideration: All employee contributions must be the same percentage of compensation. For instance, an entrepreneur who wants to put 10% of their net income into their SEP IRA must put 10% of worker pay into their SEP IRA, too.
But even in some cases where hiring employees simply isnt in the cards, Henry sometimes advises the self-employed to choose a SEP IRA. Simplified is in the plans name for a reason: They can be easier to set up than solo 401 plans, according to Henry, and theyre more widely available.
Every situation is different, and an individual should assess the option that is best for their financial goals, but there is some truth to the fact that a SEP is easier to open, says Cherill. In fact, most taxpayers can simply open a SEP account online with their brokerage firm and manage it themselves.
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Solo 401k Spouse Rules
You can cover your spouse under your solo 401k if they are drawing income from your business. Your spouse is the only exception to the no employees solo 401k rule.
For your spouse to be eligible, they must be a part-time employee, full-time employee, or co-owner of your business. You can effectively double the contributions if both you and your spouse contribute up to the maximum amount, assuming youve earned enough to cover those contributions.
Contribution Limits For A Solo 401
Self-employed workers may contribute up to $61,000 to a solo 401 in 2022 , or $67,500 if age 50 or older . This is a lot higher than what traditional employees can contribute to a 401 because self-employed workers can make employer contributions as well.
The employee contribution is $20,500 in 2022 , or $27,000 if you’re 50 or older . This is the same amount traditionally employed workers are allowed to contribute to their 401s.
The employer contribution is up to 25% of your net self-employment income, which is defined as all your self-employment earnings minus business expenses, half your self-employment tax, and the money you contributed to your solo 401 for your employee contribution. For example, if you earned $100,000 in net self-employment income, you could make an employer contribution of up to $25,000 to your solo 401.
Your maximum contribution is the lesser of the annual contribution limit , or your employee contribution plus 25% of your net self-employment income. So you cannot contribute more than $61,000 in 2022 , even if your employer contribution would allow for it, and you can’t exceed your maximum employee and employer contributions for the year, even if you haven’t hit the annual limit.
All the retirement saving options if you’re your own boss.
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How Do You Set Up A Self
It is easy to set up a self-employed 401 plan with many 401 administrators. You can also open a solo 401 online. To set one up, you will need an Employer Identification Number , which you can get from the IRS. You also need to complete a plan adoption agreement and an account application. Self-employed 401s are easy to administer and attract low maintenance fees because they involve only one or two people.
Before choosing a plan administrator, it is important to compare their fees before you sign up. You may also want to choose an administrator that allows you to invest your retirement savings into a broad range of assets including mutual funds, ETFs, CDs, stocks, and bonds. Other features to look for include 24-hour multi-channel support, investment advisory, low fees, and positive customer reviews. Once youve completed the paperwork, and the plan becomes active, the only thing you have to do is to set contribution levels and choose investments.
Self-employed 401 plans have no annual minimum contribution requirements. In good years, you can make the maximum contributions and reduce your savings when the cash flow is low. But once you have up to $250,000 in the account, you must file IRS Form 5500-EZ to report the financial status of your solo retirement plan to the tax authorities.
How Do Small Business Owners Choose The Best 401 For Their Needs
To find the right 401 for their small business, employers generally look for plan providers that:
- Charge reasonable plan and investment fees and have no hidden costs
- Provide real-time integration between the 401 recordkeeping and payroll systems to eliminate manual data entry and reduce errors
- Offer a simplified compliance process
- Make administrative fiduciary oversight available
- Offer ERISA bond and corporate trustee services
- Help with investment fiduciary services and plan investment responsibilities
- Make investment advisory services available for employees
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So Can I Invest In Real Estate In My Solo 401
Yes, you can, and this is a very popular investment choice for solo 401 owners.
Just make sure that you do not engage in any self-dealing / prohibited transactions in your real estate ventures.
For example, personally guaranteeing any loan taken on a property owned by your solo 401 would be considered self-dealing is typically done through a higher-interest non-recourse loan, meaning that the creditor cant go after you personally).
Also, using a property owned by your solo 401 would also be considered self-dealing.
There are some other traps that one can fall in when investing in real estate through a solo 401, so be sure to work with a qualified professional who can guide you along the way.