The Solo 401(k)

A retirement savings vehicle designed for the smallest businesses.

A solo 401(k) lets a self-employed individual set up a 401(k) plan combined with a profit-sharing plan. You can create one of these if you work for yourself or if you own a small business with just 1-2 full-time employees including yourself (the second FTE must be your spouse).1

Reduce your tax bill while you ramp up your retirement savings. Imagine nearly tripling your retirement savings potential. With a solo 401(k), that is a possibility. Here is how it works:

*As an employee, you can defer up to $18,000 of your compensation into a solo 401(k) in for 2015.1

*As an employer, you can have your business make a tax-deductible contribution of up to 25% of your compensation as defined by the plan. If your business isn’t incorporated, the annual employer contribution limit is 20% of your net earnings rather than 25%. If you are a self-employed individual, you must calculate the maximum amount of elective deferrals and non-elective contributions you can make for yourself using the methods in IRS Publication 560.1,2

*Total employer & employee contributions to a solo 401(k) are capped at $53,000 for 2015; if you are 50 or older, you can also make an employee catch-up contribution of up to $6,000 for 2015.1,6

If you are 50 or older and self-employed, you could potentially put as much as $59,000 into a solo 401(k) for 2015. Now add your spouse to the mix. Is he or she age 50 or older and a full-time employee of your business? Then the two of you could potentially contribute up to $118,000 to the plan.1,6

The profit-sharing contribution that the business makes to the solo 401(k) is tax-deductible for the business, and the cost of setting up the plan is tax-deductible both for the business and the individual.3

You can skip contributions to the plan in a lean year. Employer and employee contributions to a solo 401(k) are wholly discretionary. You determine how much goes in (or doesn’t) per year.4

You can even create a Roth solo 401(k). The Roth version of a solo 401(k) is just like any other Roth account: you put in after-tax dollars as a tradeoff for tax-free gains and eventual tax-free withdrawal. If you don’t want to go Roth, you can have a traditional solo 401(k) with pre-tax dollars going in, tax-deferred growth and eventual taxed withdrawals.3

Rollovers into the plan are allowed. If you have money in a SEP-IRA, an IRA or an old 401(k), 403(b) or 457 plan somewhere, those assets may be rolled over into a solo 401(k). (The exception: Roth IRA assets may not be.) Certain plan providers even allow hardship withdrawals (loans) from these plans prior to age 59½.4,5

There are some demerits to the solo 401(k). As you are setting up and administering a 401(k) plan for your business, you have to see that it stays current with ERISA and IRC regulations. Obviously, it is much easier to oversee a solo 401(k) plan than a 401(k) program for a company with 15 or 20 FTEs, but you still have some plan administration on your plate. You may not want that, and if so, a solo 401(k) may have less merit than a SEP or traditional profit-sharing plan. The plan administration duties are relatively light, however. If the assets in your solo (k) exceed $250,000, you will need to file a Form 5500 annually with the IRS.1,4

What if you want to hire more employees? If you do, you will have to convert your solo 401(k) into a standard 401(k) plan per the Internal Revenue Code.4

On the whole, solo 401(k)s give SBOs increased retirement savings potential. If that is what you need, then take a good look at this option. These plans are very easy to create, their annual contribution limits far surpass those of IRAs and stand-alone 401(k)s.5

Mark Lund is the author of The Effective Investor and provides 401k consulting for small businesses and Investment Advisory Services for individuals. Advisory services offered through Stonecreek Wealth Advisors, Inc. a Registered Investment Advisor firm in Utah. Call 801-545-0696 for more info.

1 – [10/23/14]
2 – [11/1/13]
3 – [11/11/14]
4 – [9/17/12]
5 – [11/17/14]
6 –,-Employee/Retirement-Topics-401k-and-Profit-Sharing-Plan-Contribution-Limits [10/23/14]

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