Solo 401(k) Plan – Individual 401k for the Self-Employed

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This article is part of a series on self-employed retirement plans, and was written by Robert D. Flach. Robert has been preparing business and individual tax returns for people in all walks of life since 1972. He writes the tax blogs THE WANDERING TAX PRO. Article assumptions: Self-employed individuals have many types of retirement plans…

This article is part of a series on self-employed retirement plans, and was written by Robert D. Flach. Robert has been preparing business and individual tax returns for people in all walks of life since 1972. He writes the tax blogs THE WANDERING TAX PRO.

Article assumptions: Self-employed individuals have many types of retirement plans from which to choose. While these plans are available regardless of the type of business “entity” chosen, I will be discussing them from the point of view of the Schedule C filer. In such a situation the determination of the amount of the allowable contribution begins with the “net profit” reported on Line 31 of Schedule C or Line 3 of Schedule C-EZ.

All of the retirement plans that I will discuss are available to the one-man business with no employees, and I will limit my discussion to the contributions of the business owner. However these plans will require coverage of any qualifying W-2 employees of the business, and special rules will apply to contributions for employees.

Solo 401(k) Plan – Eligibility & Rules

A recently added self-employed retirement plan option is the Single-Participant 401(k) Plan, also called a Solo 401(k). The Solo 401(k) was created by the Economic Growth and Tax Reconciliation Act of 2001, and is similar to a traditional 401(k) plan that would be offered by a corporation or other large business. However, the Solo 401(k) plan is designed for a self-employed individual and requires less administrative upkeep compared to the corporate version of the 401(k).

Where can you open a Solo 401k? Small business retirement plans are found with many major brokerage houses, including Vanguard, Fidelity, Merrill Edge, TD Ameritrade, Charles Schwab Investments and more.

Solo 401(k) plan eligibility. The Solo 401(k) plan is only available to an individual business owner and his/her spouse. Part time workers that work less than 1,000 hours per year are excluded. If you have full-time employees, you will need to select another self-employed retirement plan.

Plan establishment and contribution deadlines. Like the Keogh Plan, a Single-Participant 401(k) must be established by December 31st.  And, also like a Keogh Plan, an annual Form 5500 is required when your plan reaches $250,000 in assets. You have until the tax filing deadline (plus extensions) to make contributions.

Contribution limits. The Single-Participant 401(k) allows for a combination of “employee” deferral of up to the regular 401(k) maximums, $18,000 with a $5,000 catch-up for 2017 , and a discretionary employer match of up to 25% of compensation (20% of net earnings as with the SEP IRA and other plans).  The combined maximum cannot exceed $54,000 for 2017, plus the appropriate “catch-up” additions if applicable.

Example Solo 401(k) contribution:

Let us say that for 2017 John Q Proprietor, a 53 year-old Schedule C filer, had $60,000 in net earnings from self-employment after the ½ of SE tax deduction.  With a SEP IRA John can contribute $12,000 ($60,000 x 20%).  However, with a single-participant 401(k) plan John can make a $23,000 ($18,000 + $5,000 catch up) “elective deferral contribution” as an “employee” and a $12,000 “employer” contribution, for a total of $32,500.

IRS Publication 560 (Retirement Plans for Small Business) has a worksheet to determine the deductible amount of contributions to a single-participant 401(k).

Benefits of Solo 401(k) plans

Maximize retirement contributions. Depending on your income, the solo 401(k) gives you the potential to put away more of your income than the SEP IRA, which has the same maximum contribution limit ($54,000 in 2017). Like the SEP IRA, Solo 401(k) plan owners can contribute 25% of their compensation as profit sharing, but Solo 401(k) plan owners can also contribute up to the first $18,000 as tax deferred contributions. So unless you can max out the entire $54,000 with a SEP IRA, the Solo 401(k) will allow you to contribute more money toward retirement. These are additional benefits of the individual 401(k) plan.

  • Minimal administrative work. The associate paperwork is easy to file and maintain.
  • Discretionary contributions; immediate vesting. Members are not required to contribute to their Solo 401(k) account. Your contributions are 100% vested immediately.
  • Traditional and Roth options. The Solo 401(k) plan comes in two flavors – traditional and Roth. Like Traditional and Roth IRAs, the different versions of the Solo 401(k) give you different options for managing your taxes both now and in the future.

Here is more information about different self-employed retirement plans.

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About Ryan Guina

Ryan Guina is the founder and editor of Cash Money Life. He is a writer, small business owner, and entrepreneur. He served over 6 years on active duty in the USAF and is a current member of the IL Air National Guard.

Ryan started Cash Money Life in 2007 after separating from active duty military service and has been writing about financial, small business, and military benefits topics since then. He also writes about military money topics and military and veterans benefits at The Military Wallet.

Ryan uses Personal Capital to track and manage his finances. Personal Capital is a free software program that allows him to track his net worth, balance his investment portfolio, track his income and expenses, and much more. You can open a free account here.

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  1. jesse says

    What I dont like about this article is that it is not new information. This also doesnt tell you how hard it is to actually get the account. I was told to go to any bank and bring the plan agreement with its associated TID and that was it. Not so!!! I called Bank of America and they told me to talk to Meril Edge and Merril doesnt have a clue what to say. They are completely useless. I am told Wells Fargo is also a place where you can walk in with your plan agreement docs and just like that walk out with a checking account. After months of research on where to get the plan agreement written professionally for IRS compliance and for a reasonable price and calling and talking to clueless people, finally I spoke to someone at Vanguard who said I needed to open a individual retirement pool account, put the minimum of 3,000 to open into a money market fund, then send their forms with my plan documents and include a check writing option form. After all this clears, then the trustee, me, can write a check to purchase investment income property or certificates. However those at Vanguard are conflicted as they say only if you are approaching 60 years of age can you write a check without is being a distribution. If you are under this age requirement then any purchase of investment property using a check will be consider a distribution. Talk about that and how crazy that is. As a single member LLC and years away from even 50 this bothers me that I am going to be certifying I am of the required age to write checks not considered distributions for the purpose of purchasing investment property. If I go to an auction and purchase a condo for a great price, write a check from the 401k and then all the rental income goes into the 401k but the 401 has to pay the association dues, which could be monthly, and taxes and any repairs then every check written is not or should not be a distribution. All that is simple business accounting right? What also bothers me is no one wants to show me the boiler plate plan agreement docs that I would be purchasing until I actually purchase them. And then explain why I need to pay every year to certify the boiler plate docs are compliant when I have a CPA who can easily tell me if any IRS code has changed that directly affects this area, which by the way hasnt changed in over 5 years. And may not change for many more years as it takes and act of congress to do so. Talk about something new, something no one is writing about. This is all repetitive stuff, easily copied and pasted here. Yes, I am frustrated and with cause. There is just no one putting out the scope of information that is needed and it is soooo lame to tell someone not to think but go to someone else and ask them to think for you like telling me to go talk to my tax advisor.

    • Ryan Guina says

      Jesse, this article is aimed at people who are interested in learning about retirement plan options for self-employed individuals. Owning real estate in a Solo 401k is a highly specific type of investment that only applies to a very small segment of the population. My recommendation is to search for companies that specialize in this type of plan administration (I found several via a quick Google search, but I won’t link to them as I don’t have the time to research and vouch for each of them; this needs to be done on an individual basis).

      Another option is to simply bite the bullet and consult with a tax advisor. A quick phone call will let you know if they have the experience of working with this situation (experience is helpful as it will take fewer man hours and cost less in the long run).

      The tax code is incredibly complex, and I personally prefer getting things done correctly the first time. With taxes, I find that consulting with a professional often saves me a lot of time and money in the long run.

      If you don’t want to speak with a tax specialist, then consider frequenting online forums and researching there, or creating a thread to ask pros how they do it. You can also ask on a site like Quora.com, which is a crowd sourced Q&A forum.

      Best of luck with finding the information you seek, and if you feel so inclined, you are welcome to put together and article about your experience to share with our readers.

  2. Len Blaifeder says

    Hi Ryan.
    My wife is a self employed speech language pathologist. We have 3 boys in college and are trying to qualify for maximum financial aid. Last year we opened a solo 401K for her.

    Question…Can the employer contribution that she makes into her own 401K appear as an expense on her Schedule C, thus reducing her income?

    Thank you.

    Len Blaifeder

  3. jesus ceja says

    Hi ryan, Im a self employed proprietor with no employees. I recently etablished a solo 401k on dec 31 2014 with merill lynch so i have not made any contributions for 2014. My question is can i make my max contributions for the 2014 tax year as both employee and employer before april 2015 tax deadline to get the maximum tax breaks?

    • Ryan Guina says

      Jesus, based on my understanding, yes, you can make contributions until April 15th. I’m not sure if that covers both the employees and the employer. In this case, I strongly recommend sitting down with an accountant to make sure you have everything set up correctly and have a full understanding of how everything works. Then next year you will have a good plan in place that you can follow. Best of luck!

  4. Suzie says

    My husband has a Solo 401K and now wants me to make contributions as a spouse. We’re hoping to max out the contributions for both of us. My question is how to fill out the tax forms, specifically the Schedule C and SE. Does he do one Schedule C, as in the past? And then we both make contributions? Now that I would contribute I’m really not sure how to document the contributions I would make. There does not seem to be any guidance in this procedure. Hoping you can help.

    • Ryan Guina says

      Suzie, I recommend speaking with a tax professional to help set this up. The reason I recommend using a tax professional is because every business has a different formation type (sole proprietor, LLC, S-Corp, C-Corp, etc.) and the rules can vary depending on how your business is set up. It can also vary depending on how you pay yourself (for example, are you both W-2 employees, or not?) and how much you pay yourself. Finally, going through a tax professional can help you identify other areas where you may be able to find tax savings, may be making mistakes, or can find other ways to improve your operations. Using an accountant with small business experience helped me save a lot of money on my overall tax situation, so this recommendation is coming from experience.

      As for how to track contributions, a common setup would look like this: both employees are on the payroll (W2 employees), and both names are on the Solo 401k plan. Contributions can be made directly from the payroll each month, and are tracked through the payroll provider, and by the 401k plan administrator. In my situation, I use ZenPayroll for my payroll processing, and Vanguard for my Solo 401k plan. Both companies track my contributions. I hope this helps!

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