The single-member LLC is one of the most popular vehicles for establishing a business. Assuming you qualify, the Solo 401(k) plan is the best option for your retirement planning needs. This article will explore how the Solo 401(k) rules work specifically for a single-member LLC.
What is a Single Member LLC?
A Limited Liability Company (LLC) is an entity created by state statute. An LLC with at least two members is classified as a partnership for federal income tax purposes unless it files Form 8832 and elects to be treated as a corporation. An LLC with only one member is treated as an entity disregarded as separate from its owner, unless it files Form 8832 and affirmatively elects to be treated as a corporation. An LLC with one owner is often referred to as a single-member LLC and is treated as a disregarded entity for federal income tax purposes. However, for employment tax and certain excise taxes, an LLC with only one member is still considered a separate entity.
The LLC’s activities should be reflected in its owner’s federal tax return. If the owner is an individual, the activities of the LLC will be reflected on:
- Form 1040 or 1040-SR Schedule C, Profit or Loss from Business (Sole Proprietorship)
- Form 1040 or 1040-SR Schedule E, Supplemental Income or Loss
- Form 1040 or 1040-SR Schedule F, Profit or Loss from Farming
For Solo 401(k) plan purposes, only a business may adopt a 401(k) plan. Hence, the single-member LLC will need to file a Schedule C.
What is a Solo 401(k)?
The Solo 401(k) plan is not a new type of 401(k) plan. Also known as an individual 401(k) or self-employed 401(k), it is a retirement plan that must be adopted by a business that does not have any non-owner full-time employees.
It is perfect for any sole proprietor or small business with no full-time employee. Any business that does not have a non-owner (excluding the owner’s spouse) works more than 1,000 hours annually or three consecutive years of 500 hours may establish a Solo 401(k) plan.
Types of Solo 401(k) Contributions
The most popular benefit of the Solo 401(k) plan is the high annual maximum contributions which can be reached much faster than a SEP IRA since a SEP is strictly a profit-sharing plan. The Solo 401(k), on the other hand, is a profit-sharing plan, but it also has the employee deferral feature, which will be highlighted below.
There are generally two types of categories of contributions:
Employee Deferral Contribution: All 401(k) plans feature employee deferral, which is the amount one can contribute as an employee of the plan. The contributions can be made in pretax or Roth and must stay within the annual contribution limits. For 2024, one can contribute up to $23,000, plus, if he or she is at least age 50, an additional $7,500 catch-up contribution can be made for a total of $35,000.
Employer Profit Sharing Contribution: Through the role of the employer, an additional contribution can be made to the plan in an amount up to 20% in the case of a single member LLC (Schedule C taxpayer). The business makes employer contributions which are also 100% elective but must be made before the business files its tax return. Profit-sharing contributions must be made pretax but can be converted to Roth so long as your plan documents permit. Employer contributions are a percentage of the plan participant’s W-2 amount, guaranteed payment, or net Schedule C amount, depending on your business type.
The sum of employee deferrals and employer contributions cannot exceed the IRC 415 limit for 2024 which is $69,000 or $76,500 for persons aged 50 and older. To take advantage of the opportunity to make both employee deferral and employer profit-sharing contributions for 2024, the Solo 401(k) plan would need to be adopted during the 2024 taxable year.
When are Solo 401(k) Contributions Due for a Single Member LLC?
An LLC reports its business income using Schedule C, which is a schedule to the Individual Income Tax Return (Form 1040). For 2023, a business owner who operates his or her business as a single-member LLC can establish a Solo 401(k) plan for the 2022 taxable year up until taxes are filed. Taxes are due April 18, 2024, or October 18 if an extension is filed. Only profit-sharing contributions can be made to the Solo 401(k) if the plan is not established during the taxable year.
Looking ahead, contributions for the 2024 taxable year can be made up until April 15, 2024, or October 15 if an extension was filed. Note – SECURE Act 2.0, which was passed in December 2022, will allow employee deferrals and employer contributions to be made in 2024 for the 2023 taxable year.
Conclusion
The Solo 401(k) plan has become the most popular retirement plan for the self-employed. For single-member LLC business owners, the plan offers massive tax and retirement advantages – the ability to contribute up to $67,500 or $72,500 for 2023, a $50,000 tax-free loan option, Roth sub-account and a wide array of investment choices. One should work with a financial advisor to determine the best plan for your specific situation.
