Whether you’re self-employed now or plan to start a small business in retirement, a Solo 401(k) is an ideal way to keep your investments flowing. Here’s how.
Owning a business is no joke. As the boss, you’re responsible for ensuring customers are happy, taxes are paid, and your competition is in the rearview mirror. As challenging as it may be to be a solo business owner, though, the benefits can be pretty sweet – including the chance to change the course of your retirement by taking advantage of a Solo 401(k).
What is a solo 401(k)?
A Solo 401(k) – sometimes called an individual 401(k) or self-employed 401(k) – is designed specifically for small business owners who don’t have any employees (other than a spouse). Although a Solo 401(k) shares some characteristics with a standard 401(k), there are some notable differences.
Think of a Solo 401(k) as a tool that can help you supercharge your retirement savings plan. Even if you’ve already retired from your “regular” job, the benefits of a Solo 401(k) can be surprisingly lucrative.
Here are three ways a Solo 401(k) can make retirement more comfortable.
1. Impressive contribution limits
At first glance, a Solo 401(k) looks no different than a traditional employer-sponsored 401(k).
Plan Type | Traditional Employer-Sponsored 401(k), 403(b), Governmental 457 plan, or Thrift Savings Plan | Solo 401(k) |
|---|---|---|
Annual contribution limit | $23,500 | $23,500 |
Catch-up contribution limit for employees aged 50 and over | $7,500 | $7,500 |
Catch-up contribution limit for those aged 60, 61, 62, and 63 | $11,250 | $11,250 |
Sources: IRS and Fidelity. All above contribution limits are pre-tax dollars.
It’s when you contribute as the employee and the employer that the contributions add up. Here we compare how a Solo 401(k) stacks up against a traditional, employer-sponsored retirement plan once an employer match is factored in:
Plan Type | Traditional Employer-Sponsored Retirement Plan | Solo 401(k) |
|---|---|---|
Legal limit on matching | While there’s no legal limit on the percentage an employer can match, most offer between 3% and 6%. For an employee who contributes the maximum $23,500 to their 401(k), that means receiving an employer match of $705 to $1,410 annually. | Because you’re self-employed, the IRS considers you both the employee and the employer. As the employer, you may be able to contribute up to $46,500, depending on your age and business earnings. |
Sources: Paycor and Fidelity
2. Customizable
There’s no getting short-changed with a Solo 401(k). Once your account is set up, you can access the same investments as major corporations. In addition to traditional stocks and bonds, you can invest in index funds, real estate, tax liens, precious metals, mutual funds, and more.
With so many options from which to choose, you can customize your Solo account to meet your goals and risk tolerance.
Depending on the broker through which you open your account, you may also choose between a traditional or Roth Solo 401(k). With a traditional account, you don’t pay taxes until you withdraw money. With a Roth, you can contribute after-tax dollars, and pay no taxes on withdrawals in retirement.
3. Tax savings
One of the most attractive features of a Solo 401(k) plan is the tax savings. If you opt for a traditional Solo 401(k) or decide not to employ the Roth feature of a Solo Roth, any funds you invest won’t be taxed until you begin to withdraw money in retirement. The best time to pay those taxes will depend, in part, on whether you believe you’ll bring in more or less money in retirement and the tax rate you expect to pay.
If you’re self-employed without employees, you can open a Solo 401(k) any time you’d like, even if you work for another employer simultaneously. You can also open a Solo account after you’ve retired from your “regular” career and have started your own business.
Opening an account is as easy as finding a broker you’d like to work with, filling out a Solo 401(k) application, and providing your Employer Identification Number (EIN). If you don’t have an EIN, you can apply for one through the IRS website, and, in most cases, it will be assigned within minutes.
Whether you’re hoping to plump up your retirement account during your prime working years or like the idea of continuing to invest throughout retirement, a Solo 401(k) can be one of the most attractive tools at your disposal.
