What Is The Better Option: Solo 401(k) vs SEP IRA?

For small business owners and self-employed individuals, the Solo 401(k) and SEP IRA are two of the top retirement plan options. Whether you're a freelancer or running a small business, these plans provide a straightforward way to start saving for retirement while offering significant tax advantages. In tough economic times, building a solid retirement fund can be challenging, but these plans allow small business owners to set up a professional-grade retirement strategy with ease.

‍

Here's a breakdown of the Solo 401(k) and SEP IRA, and when each plan may be the right fit for you.

‍

Solo 401(k) or SEP IRA

‍

SCORE, a non-profit advisor to small businesses cites data showing that only 28 percent of companies with fewer than ten employees offer such plans. Two plans that can help fill this gap and assist small businesses as they provide for their workers are the Solo 401(k) plan, SEP IRA.

You can get either up and running fairly quickly, without many of the problems associated with most traditional plans (including 401(k)s that often discriminate against small businesses because they're too.

‍

Solo 401(k)

‍

A Solo 401(k) is a retirement savings plan designed specifically for self-employed individuals or small business owners with no employees, aside from a spouse. It allows the business owner to make contributions in two capacities: as an employer and as an employee. This dual contribution feature enables higher annual contribution limits compared to other retirement plans.

‍

For 2024, the maximum contribution limit for employee deferrals is $23,000 (or $30,500 if you're 50 or older). Additionally, you can contribute up to 25% of your business's net earnings as an employer, with a combined total contribution limit of $66,000. Solo 401(k)s also offer the option for Roth contributions, which are taxed upfront but grow tax-free. This flexibility makes the Solo 401(k) an attractive choice for those who want to maximize their retirement savings while benefiting from potential tax advantages.

‍

SEP IRA

‍

A SEP IRA (Simplified Employee Pension Individual Retirement Account) is a retirement plan designed for self-employed individuals, small business owners, and freelancers. It allows employers to make tax-deductible contributions to their employees' retirement savings, or to their own account if they're self-employed. One of the main advantages of a SEP IRA is its simplicity and low administrative burden, making it easy to set up and maintain.

‍

For 2024, the contribution limit for a SEP IRA is up to 25% of your net earnings, or $66,000, whichever is lower. Contributions are tax-deductible, and the funds grow tax-deferred until withdrawal. While SEP IRAs don’t offer a Roth option, they are a flexible, high-contribution plan that suits those looking for an easy way to build retirement savings with tax benefits.

‍

Key Differences Between Solo 401(k) vs SEP IRA

‍

To better understand the differences between Solo 401(k) and SEP IRA, let’s break down some of the key factors in the following table:

‍

‍

Contribution Limits Explained

‍

Solo 401(k) Contribution Limits

‍

The contribution limits for a Solo 401(k) in 2024 allow self-employed individuals or small business owners to contribute as both an employee and an employer. Here's a breakdown of the limits:

1. Employee Contribution: You can contribute up to $23,000, or $30,500 if you're 50 or older (thanks to catch-up contributions).
2. Employer Contribution: As the employer, you can contribute up to 25% of your net earnings from self-employment.
3. Total Contribution: The combined total of both employee and employer contributions can be up to $66,000, or $73,500 for those 50 or older.

These contributions are subject to certain income limits and IRS guidelines, allowing for significant retirement savings while potentially lowering taxable income.

‍

SEP IRA Contribution Limits

‍

The SEP IRA contribution limits for 2024 are based on a percentage of your compensation or net earnings from self-employment. Here’s how it works:

1. Contribution Limit: You can contribute up to 25% of your compensation or net self-employment earnings, with a maximum contribution of $66,000.
2. Employer-Only Contributions: SEP IRAs only allow contributions from the employer, meaning if you're self-employed, you contribute as the employer to your own account. Employees cannot make contributions themselves.
3. Tax Benefits: Contributions are tax-deductible, and the funds grow tax-deferred until you begin withdrawing them in retirement.

This SEP retirement plan offers a high contribution limit and flexibility, making it an excellent choice for self-employed individuals and small business owners seeking a straightforward retirement solution.

‍

401k for self employed

‍

In 2024, a 401(k) for self-employed individuals, commonly referred to as a Solo 401(k) or Individual 401(k), is a retirement savings plan designed for sole proprietors or small business owners without employees (other than a spouse).

This plan allows for substantial contribution limits, enabling participants to contribute both as an employee and an employer. For 2024, the employee deferral limit is $23,000, with an additional catch-up contribution of $7,500 for those aged 50 and older.

The employer contribution can be up to 25% of compensation, allowing total contributions to reach up to $66,000 (or $73,500 for those 50 and older). A Solo 401(k) also offers flexible investment options and the ability to take loans from the account, making it an attractive choice for self-employed individuals seeking to maximize their retirement savings.

‍

Sep Vs Individual 401k

‍

When choosing between a Sep Vs Individual 401k, understanding the key differences can help you select the best retirement savings option for your needs. Below is a comparison table outlining the main features of each plan.

‍

‍

Final Thoughts

‍

Choosing between a Solo 401(k) and a SEP IRA depends on your individual circumstances, including your business structure, income level, and retirement goals.

• If you are self-employed without employees and want higher contribution limits and more flexibility, a Solo 401(k) might be your best bet.
• If you run a small business with employees and prefer a straightforward retirement plan, a SEP IRA could be the right choice.

Consider consulting with a financial advisor to evaluate your options and determine which retirement plan aligns with your financial goals.

‍