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What Sole Business Owners Need to Know About Solo 401(k) Plans
As a sole business owner, a Solo 401(k) allows you to pay yourself up to $56,000 as both an employee and an employer.
Running your own business is like running a marathon. You may have coaches and people to lend support, but at the end of the day, it all rests on your shoulders.
Thankfully, there are a few benefits to being a lonely entrepreneur: one being a solo 401(k). These plans are ideal for individuals in charge of their own businesses who want to save more money for retirement. Read on for more details on why a solo 401(k) could be perfect for you and your business.
The Benefits of a 401(k) Built Just for You
A solo 401(k) is ideal for business owners with no employees other than a spouse that want to maximize retirement savings. It is easy to administer and provides many of the same benefits as a traditional 401(k), including tax-deductible contributions.
Any money you invest in a solo 401(k) allows you to save for retirement with income before it is taxed. By contributing to a solo 401(k) you benefit from a lower tax bill and potentially far greater savings growth into the future.
Unlike a regular 401(k), which only allows employees to make a contribution up to $19,000, a solo 401(k)’s contribution limit is $56,000 a year (or $62,000 if the participant is 50 or older). That’s because you can make contributions as both the employer and the employee – a double win for the self-employed.
While many self-employed entrepreneurs choose a SEP IRA for their retirement savings, a solo 401(k) may be a better choice if you earn less than $212,000 because you will face fewer contribution limits. The solo 401(k) allows you to pay yourself twice, both as the employer and as the employee. The “employee” contribution you can make is limited to $19,000. The “employer” portion is limited to 25% of compensation. Added together, the “employee” and “employer” parts must be $56,000 or below. For example, if you earn $100,000, you can only contribute $20,000 to a SEP IRA (subject to the 20% self-employment compensation limit). However, if you instead open a solo 401(k), you can make an “employee” contribution of $19,000 in addition to the “employer contribution” of $25,000, for a total of $44,000.
Like a regular 401(k), a solo 401(k) charges a 10% penalty if you withdraw the funds before age 59.5. Required minimum distributions start at age 70.5 and there will be a fine if you do not take those appropriately.
Unlike the traditional 401(k), you may not be allowed to take loans from a solo 401(k), so make sure you don’t tie up money that you will need for a purpose later on, such as a near term investment in your business.
Vesting is immediate in the solo 401(k) (it’s your money, after all), and there is no Roth option to the solo 401(k), so younger people with access to a Roth account through a traditional employer may want to maximize those contributions first.
A solo 401(k) is also a great option for those running their own business, but still working elsewhere. If you’re eligible, you can contribute to a 401(k) run by a company and a solo 401(k) that you create yourself. Plus, your spouse is also allowed to put away funds in a solo 401(k) that you’ve created, so you can double the annual family retirement funding limits. If you do have part-time employees or seasonal help, they must work 1,000 hours or less for you to be eligible to create a solo 401(k).
Being a sole proprietor managing your personal retirement and tax savings options calls for much responsibility, but you don’t have to go it alone. If you would like insight and assistance navigating your retirement plan options, give us a call at 844-377-4963 or use the “Let’s Talk” tool in the right sidebar.
Quick Facts – Solo 401(k)
- Only those with no employees other than a spouse are eligible
- Can contribute up to $56,000 in tax-deductible savings
- Easy to administer and maintain, no need to file until assets reach $250,000