What Is a Solo 401(k) and Should You Have One?

Get the details to make an informed decision on this investment.

A Solo 401(k) is called many different things — a personal 401(k), individual 401(k), self-employed 401(k), Solo-k or Uni-k. No matter the name, they all translate into retirement savings plans for small business owners who don’t have employees except for a spouse. 

Many types of 401(k) plans are available, but if you’re a sole proprietor or independent contractor and you want a savings plan like those offered by a big company, this might be the right choice for you.

You can build a sizable nest egg with a Solo 401(k), just like you can with a plan at a large business. For example, say Mary, a 30-year-old, socks away $10,000 a year in her Solo 401(k) and gets a 6% annual return on her money. By the time she’s 65, she will have contributed $350,000 to the plan, and her account will have grown to almost $1.2 million.

Given the fact that so many Americans are retiring broke today, it’s crucial that, as a sole proprietor, you save for retirement now. Then, you won’t be left out in the cold when it comes time to quit your 9 to 5.

Here is what you’ll learn about in this guide to Solo 401(k)s — start at the top or jump to what you really need to research:

What Is a Solo 401(k)?

A Solo 401(k) is a savings-maximizing retirement plan for self-employed individuals or those who are partners in businesses whose employees consist only of those partners and their spouses. You cannot contribute to this plan if you have any common-law employees, which the IRS describes as “anyone who performs services for you is your employee if you can control what will be done and how it will be done.” The business owner can, however, contribute to the Solo 401(k) as both an employer and an employee.

Use this handy table to familiarize yourself with Solo 401(k) highlights:

What Is a Solo 401(k)?
How To Open a Solo 401(k)Get an employer ID number and open at any of a variety of online brokers.
EligibilityMust be a business owner with no employees
Contributions LimitFor 2019, up to $56,000; catch-up contribution of $6,000 for those 50 and older
Contributions TaxesPre-tax contributions for traditional 401(k); after-tax dollars for Roth 401(k)
Qualified Retirement Distribution TaxesQualified distributions for 401(k) taxes as income; Roth 401(k) distributions are tax-free

Check Out: This Is Why Nearly 30% of Americans Aren’t Saving More Money

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Solo 401(k) Contribution Limits

Employers can contribute up to 25% of their net self-employment compensation (up to $56,000 in 2019) to a Solo 401(k), and those contributions are typically tax-deductible as a business expense. When an employee makes contributions, it’s important to remember that all participants must get the same percentage. Contributions are generally deductible as a business expense and aren’t required every year. When contributions are made, however, all participants must receive the same percentage.

Employees can make contributions either pre-tax or through a Roth plan, which offers after-tax contributions. Employees can contribute 100% of their compensation (up to $19,000 in 2019 or $25,000 if they are 50 or older). You can contribute both as an employer and an employee to a Solo 401(k), but the combined contributions can’t exceed $56,000 for the 2019 tax year ($62,000 if you’re 50 or older).

Being able to contribute two ways to a Solo 401(k) can add up to significant savings. For example, in 2019, you can make contributions of up to $19,000. And if you’re at least 50 years old, you can add an extra $6,000 in catch-up contributions annually. As an employer, you can make combined contributions of up to $56,000 in 2019. But if you’re over 50, your combined employee/employer yearly contributions can’t exceed $62,000.

So, for instance, say you’re a business owner with no employees and you made $100,000 in 2019. You could contribute $19,000 as an employee and $25,000 as an employer (based on your total salary minus self-employment taxes and business expenses). That means that each year, you could save a whopping $44,000.

9 Smart Strategies: How To Maximize 401(k) Contributions

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Solo 401(k) Withdrawal Rules

Solo 401(k) rules dictate that you cannot make any withdrawals until a specified event occurs. These events include reaching age 59 1/2, separation from service, termination of the plan or something else the plan identifies. You might be able, however, to make a hardship withdrawal, but you’ll pay a 10% penalty if you haven’t reached the age of 59 1/2. Solo 401(k) sponsors are not required to offer loan provisions within plans. Check with your plan’s sponsor to confirm.

When you reach the age of 70 1/2, you generally have to start taking withdrawals from your Solo 401(k). You can structure your plan to accept other retirement account rollovers, such as SEP-IRAs and traditional IRAs.

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Tax Benefits of Solo 401(k)s

A Solo 401(k) offers account holders the opportunity to choose their own tax advantages. You can either open a pre-tax account — aka traditional Solo 401(k) — or an after-tax account, known as a Roth Solo 401(k). If you choose the former, your retirement distributions will be taxed as regular income, but if you choose the latter, your retirement distributions will be tax-free.

You can access additional tax breaks with your Solo 401(k). For example, if your business isn’t incorporated, you can typically deduct your contributions for yourself from your personal compensation. In the case of incorporation, however, your contributions can be considered a business expense.

See Related: Self-Employment Tax Deductions

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Solo 401(k) vs. SEP IRA

You might be on the fence about which type of account to open, a Solo 401(k) or a Simplified Employee Pension IRA. In that case, reference this chart to see which retirement account option is better for your situation:

Solo 401(k) vs. SEP IRA 
SEP IRASolo 401(k)
AdvantagesBest for business owners who want to provide retirement benefits to all employees by making contributionsCan contribute as employer and employee
Which Employers Can Provide PlanPeople who are self-employed or businesses that don’t have retirement plansSelf-employed individuals with no common-law employees
Employee EligibilityTo join, employees typically must be 21 or older and earn at least $600 during the tax year.No employees allowed; no age restriction
FundingEmployers only contribute; employees can’t contribute via payroll deductions but might be able to make traditional IRA contributions.Business owners can contribute as employer and/or employee
Contribution OptionsEach year, employer can decide if it wants to contributeBusiness owners can contribute as employer and/or employee
Employer Contribution LimitsMaximum of $56,000 for the 2019 tax year; contributions are deductible and not required each yearUp to $56,000 for the 2019 tax year ($62,000 if age 50 or older); contributions are deductible and not required each year
Employee Contribution LimitsUp to $6,000 ($7,000 for employees 50 and older)Up to $19,000 ($25,000 for employees age 50 or older)
WithdrawalsWithdraw at any time, subject to federal income taxes and a possible 10% penalty if the employee is under age 59 1/2No withdrawals until age 59 1/2 or a specified event; possible hardship withdrawals subject to 10% penalty if under age 59 1/2
Employer’s ResponsibilityFill out Form 5305-SEP; no IRS reportingPossible annual filing of Form 5500

Find Out: Why You Shouldn’t Worry When the Stock Market Tanks Your 401(k)

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How To Open a Solo 401(k)

Once you have an Employer Identification Number, you can set up a Solo 401(k) through any financial institution that administers 401(k)s. Administration fees for Solo 401(k)s are generally lower than other 401(k)s because they are so simple to manage, given a Solo 401(k) involves only one or two people. Some financial institutions don’t even charge for setting up and maintaining these types of accounts.

Before you sign your name on the dotted line, know exactly what fees will apply to your account. In addition, consider going with a plan that offers a lot of different investment types, such as stocks, bonds, mutual funds, CDs and ETFs.

Once you’ve established your plan, decide on how much you’ll contribute and which investments you want. Because there isn’t a minimum contribution requirement annually, you can contribute more in profitable years and contribute less in lean years.

An important reminder: If your account is worth more than $250,000, you must file IRS Form 5500-EZ, the Annual Return of One-Participant (Owners and Their Spouses) Retirement Plan.

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Where To Open a Solo 401(k)

If you’re wondering where to open a Solo 401(k), you have lots of options. This table shows six popular choices for Solo 401(k) plans:

Where To Open a Solo 401(k)
ProviderHighlights
VanguardLow-cost Solo 401(k) you can set up easily
ShareBuilder 401(k)All-online plan that features low-cost investments and simple administration
Charles SchwabAccess brokerage and banking services in addition to a Solo 401(k)
Fidelity In-person service; large network of offices from which to choose
E-TradeEnables you to actively trade stock and other securities in your retirement account
TD AmeritradeGood account if you want a traditional provider as an alternative to Vanguard

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Decide Now If a Solo 401(k) Is Right for You

If you don’t want to retire broke and you’re a sole proprietor with no employees except your spouse, you might really like being able to have complete control of your plan and take immediate action when an investment becomes available. Any contributions you make to a Solo 401(k), as well as investment returns and earnings, are tax-deferred until withdrawal — and employers receive tax benefits too. In addition, you can also roll a Solo 401(k) over if you change jobs. It’s always a good idea to check with a financial advisor or tax professional before you make any big financial decisions, and opening a Solo 401(k) is no exception.

Keep reading to find out more about planning for retirement.

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About the Author

Barri Segal has 20+ years of experience in the publishing and advertising industries, writing and editing for all styles, genres, mediums, and audiences. She has been writing on personal finance topics for 12 years and gains great satisfaction from making a difference in consumers’ lives.