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IRA Financial Group Blog

AdBits Episode 23 – Intro to Solo 401(k)

AdBits Podcast
5 Minute Read

IRA Financial’s Adam Bergman Esq. introduces the Solo 401(k) plan, the best retirement plan for the self-employed, the eligibility requirements and the benefits of the plan.




If you are self-employed and not saving for retirement, what are you waiting for? Even if you are, how are you saving – with an IRA? In case you are unaware, there is a better option! While IRAs are a great way to save (especially if you self-direct), there’s an ever better plan. The Solo 401(k). The Solo 401(k) has many distinct advantages over the IRA. The biggest benefit is the amount of money you can put away for retirement. Plus, depending on the type of plan you choose, you can get a huge upfront tax break or have tax-free funds during retirement. In this episode of AdBits, Adam Bergman discusses the Solo 401(k) and why every self-employed individual should have one.

Who can Open a Solo 401(k)?

The Solo 401(k) is simply a regular 401(k) you can contribute to at most jobs, however it’s specifically designed for the self-employed. You must satisfy the eligibility requirements though. Anyone with self-employed income can start a Solo 401(k), regardless if you have a company-job. Therefore, even if you contribute to a 401(k) through work, you can still fund a Solo, assuming you qualify.

There are basically two requirement to be eligible for a Solo 401(k). Obviously, the first one is the presence of self-employed work. This can be anything from a business, gig work (like Uber or DoorDash), work as a contractor or consultant, or even an Amazon or eBay store. The second requirement is that you employ no full-time employees, other than a spouse or business partner. Hence, if you have other full-time employees (defined as working 1,000 hours during the year, or 500 in each of the last two), you cannot fund a Solo 401(k). Of course, if you have other self-employment income, you can.

If you do have full time employees at your business, you should seek alternative retirement plans, such as a Safe Harbor 401(k), SEP or SIMPLE IRA. All offer great benefits and a plan should be offered to help both yourself and your employees save more for retirement. If you have an owner-only business, or only use part-time help, you should continue to read and listen to the podcast!

Benefits of the Solo 401(k) Plan

Contribution Limits

As we mentioned earlier, one of the main benefits of the Solo 401(k) is the contribution limits. While you are limited to $6,000 or $7,000 with an IRA, you may contribute almost ten times that amount to a Solo 401(k). For 2020, you can contribute up to 57,000 if you are under age 50 or $63,500 if you are age 50 or older. Note that in 2021, these limits will increase by $1,000 each.

The reason you can contribute so much to a Solo is because you can put away funds as both the employee and the employer. As the employee, you can put away up to $19,500 or $26,000 if age 50+, just like a workplace plan. These contributions are made on a dollar-for-dollar basis. On the other hand, the employer profit sharing contribution is based on a percentage of the income you make annually. If you are a corporation, you can contribute up to 25% of your gross income. If you are a sole proprietorship or partnership, you can contribute 20% of your net income.

More on Contributions

Since you are the only one involved in a Solo 401(k), you are in charge of all facets of the plan, meaning you can decide what types of contributions are allowed. First, you can choose to allow for Roth contributions. These are after-tax funds contributed to the plan. Although there is no upfront tax break, all qualified distributions are tax free.

Further, you can allow for after-tax, traditional contributions. These are neither pretax or Roth. Essentially, you have the ability to contribute after-tax dollars to the plan and then convert those to a Roth. The genius is that these can be made on a dollar-for-dollar basis. This strategy is known as the Mega Backdoor Roth. Therefore, if you want to supersize your after-tax savings, you can with a Solo 401(k).

Investment Options

The next great benefit is the freedom to invest in what you want, when you want. By self-directing your Solo 401(k), you can invest in anything from real estate to precious metals and Bitcoin to crowdfunding projects. Essentially, you cannot invest in collectibles and any transaction that involves a disqualified person. Plus, if you choose the checkbook control option, you are control of when an investment is made. Alternatively, you can opt for custodian controlled, who will make the investments on your behalf. It all depends how much freedom you want, and how much time you can devote to investing.

Having options will help diversify your portfolio. With a regular, bank-run 401(k) plan, you are limited in its investment menu, generally consisting of stock, bonds and mutual funds. However, when you choose the right plan provider, such as IRA Financial, you can broaden your asset choices and invest in what you know and understand. Plus, holding different asset classes with retirement funds is a great hedge against one of them falling.

Loan Option

Unlike an IRA, you can borrow money from a 401(k) plan. If you are ever in a jam, or have an investment you want to make outside of your retirement plan, you can take a Solo 401(k) loan. You may borrow up to $50,000 or 50% of the plan balance, whichever is less. You can use these funds for any purpose. Of course, you should only take money from a retirement plan as a last resort. The loan option is preferred over a simple withdrawal for a few reasons.

When you withdraw money from a retirement plan, you must pay taxes. The funds are treated as taxable income and must be included on your next return. Plus, if you are under age 59 1/2, you will get hit with a 10% early withdrawal penalty.

Instead, with a Solo 401(k), you can borrow those funds. The money borrowed must be paid back at least quarterly, at much favorable rates than a bank loan. Plus, the interest owed on the loan gets paid back into the plan (instead of a bank). This is motivation to return money to the plan, instead of taking a taxable distribution. Failure to live up to the terms of the loan will have that money treated as such, with taxes and penalties due.

In Sum

If you are self-employed, you must be proactive with your retirement savings. This is especially true if this is your only source of income. An IRA may be right for some people, but if you are looking to supercharge your retirement balances, you must consider “Going Solo!”

Stay In Touch

We always appreciate our listeners and we hope you will continue to listen and spread the word. You can find AdBits on SoundCloud, YouTube or your favorite streaming platform. Thanks for listening and if you have any topics you want to see covered, give us a call @ 800.472.0646 today!

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