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Retirement Plans for the Self Employed: Solo 401(k) vs SEP-IRA

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Did you know that there are over 22 million people in the United States who identify their employment situation as self-employed with no additional employees?[i] All of those individuals are responsible for making important retirement planning decisions on their own, rather than relying on a large company to create a retirement savings program for them.

Thankfully, there are provisions in the U.S. tax code that are specially designed to help self-employed workers plan for the future. Two of the most popular are the SEP-IRA and the Solo-401(k). A discussion of the basics of these plans follows, but be aware that choosing the best plan for a particular situation can be complicated and will require a more in-depth analysis than can be provided in the scope of this blog.


SEP stands for “simplified employee pension.”  SEP-IRAs are simple retirement plans that work very well for self-employed business owners because the administration of the account is straight-forward and they’re cost effective. Workers have the flexibility to decide on an annual basis how much they are going to contribute, and may make the contribution at any time prior to the tax filing deadline, plus extension, of October 15th of the year following the year to which the contribution applies. SEP-IRA plans limit contributions to 25% of employee compensation, or 20% of self-employed earnings, with a maximum of $53,000 for 2015.

Unlike many other retirement plans, SEP-IRAs don’t allow loans or hardship distributions. Any distributions taken before age 59 ½ are considered early distributions and are subject to taxes and penalties. SEP-IRA plans tend to be popular with self-employed business owners who wish to save more than the $5,500 that traditional IRAs allow but want to avoid complexity. The most reliable information about SEP-IRAs can be found on the IRS’s website by clicking here.

Solo 401(k)

The solo 401(k) goes by many names, including solo k, uni-k, one participant 401(k), and individual 401(k). It’s a simplified version of the group retirement benefits programs used by large companies, but is strictly for use by sole proprietors with no employees other than a spouse. Unlike the traditional 401(k) plans used by large employers, solo 401(k) plans are not required to undergo the complicated and expensive testing that applies to the plans of bigger companies. Solo 401(k) plans can accept both pre-tax contributions and after-tax Roth contributions. The maximum that can be contributed by a participant to their account is the lesser of 100% of compensation or $18,000 for 2015, plus $6,000 in catch-up contributions for those over age 50.

In addition, the business owner’s company may make an elective profit-sharing contribution, for a total maximum contribution of up to $53,000 before catch-up contributions. Employee contributions must be made by the end of the year, while profit sharing contributions may be made before the tax filing deadline. The computation of allowable contributions to solo 401(k) accounts can be tricky, so we encourage you to consult with a financial advisor and a tax professional who are knowledgeable about the plans. Unlike SEP-IRA plans, solo 401(k) plans can allow account owners to take loans of up to $50,000 from their accounts. Again, the IRS website is a great resource to learn more. Click here to be taken to the solo 401(k) page.

[i] United States Census Bureau. “2011 Nonemployer Statistics.” U.S. Department of Commerce: http://censtats.census.gov/cgi-bin/nonemployer/nonsect.pl


wisdom wealth strategies

Andrea L. Blackwelder, CFP®, ChFC and Joseph D. Clemens, CFP®, EA are the founders and partners of Wisdom Wealth Strategies. Their shared passion is simple: to bring financial empowerment, understanding, and peace-of mind to people who wish to improve their financial future, build wealth for their families, and achieve financial independence. Click here to find out more about how you can work with Wisdom Wealth Strategies.



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