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The History of the Solo 401(k) Plan

The history of solo 401ks

You may know of the Solo 401k Plan, but not the Solo 401k history. Where did it begin? Why did it begin and most importantly, who does the Solo 401k benefit?

The Solo 401k Plan comes with many names. You may know of it as:

  • Individual 401(k)
  • Self-Directed 401(k)
  • Self-employed 401(k)
  • One participant plan

So what exactly is this individual 401(k) plan?

The Solo 401k

The Solo 401k is a qualified retirement plan specifically created for self-employed individuals and small business owners with zero employees.

To the surprise of many investors, the Solo 401k plan is not a new type of retirement plan. However, you can’t find it in the Internal Revenue Code.

How does this individual 401(k) plan compare to the traditional 401(k) plan? The rules and requirements are typically the same, however, the Solo isn’t subject to ERISA rules, which can be complex and costly.

Related: Solo 401(k) for Real Estate Investing 

Increasing Popularity of the Solo 401k Plan

Why isn’t the individual 401(k) subject to the complex ERISA rules? A look into the Solo 401k history can explain this.

The goal of Title I of ERISA is to protect the interests of participants and their beneficiaries in employee benefit plans of owners. As a result, there is no need for ERISA in an individual 401(k) Plan because there are no non-owner employees to protect. The adopting employer doesn’t have full-time employees, except a partner or spouse.

The Solo 401k plan became popular around 2002, with the enactment of the Economic Growth and Tax Reconciliation Relief Act of 2001 (EGTRRA). The Solo 401k has all the attractive features of the 401(k) plan, but with a few advantages created specifically for the self-employed.

The Solo 401k Plan (or individual 401(k) Plan) has become the most popular retirement plan for the self-employed and small business owners, which is what the IRS envisioned in creating this plan.

Learn More: The Roth Solo 401(k)

Solo 401k History

Before the 41(k) plan, there were deferred compensation arrangements. It predates the 401(k) by decades, and as a result, is seen as the precursor to the 401(k). This made it possible for some compensation (and as a result, tax liability) to be deferred.

Around the 1950s, many companies (particularly banks) added profit-sharing plans that were later called “cash or deferred arrangement” (CODA). Each year, when employees were given profit-sharing bonuses, they received the option to deposit some or all of this bonus into the plan rather than receiving it in cash.

Normally, this triggers immediate income tax, but a CODA sought to treat any amount the employee contributes to the plan as if it were an employer contribution, and therefore tax-deferred.

In 1956, the IRS issued the first in a series of rulings allowing profit-sharing plans to include a CODA and still be eligible for the favorable tax treatment accorded employer contributions.

Related: Solo 401(k) Eligibility

The Employee Retirement Income Security Act of 1974

The Employee Retirement Income Security Act of 1974 (ERISA) created sweeping changes in the regulation of pension plans. It created rules regarding reporting and disclosure, funding, vesting, and fiduciary duties.

The aim behind ERISA was “assuring the equitable character” and “financial soundness” of Defined Benefit pension plans. However, the Act contained numerous provisions impacting Defined Contribution plans. This includes profit-sharing plans, and eventually 401(k) plans.

Self-Employed Individuals Tax Retirement Act of 1962

After much deliberation, Congress enacted the Self-Employed Individuals Tax Retirement Act of 1962. This extended some of the benefits of qualified plan participation to self-employed persons. Plans covering self-employed individuals were often called Keogh or H.R. 10 plans, after the principal sponsor and bill number in the House of Representatives.

The 1962 legislation required that plans covering self-employed individuals must satisfy all of the qualification criteria for plans covering only common law employees. It imposed numerous additional requirements and limitations.

The Revenue Act of 1978

In 1978 came the Revenue Act of 1978. Employees did not receive tax on the portion of income they chose as deferred compensation rather than as direct cash payments.

The Revenue Act of 1978 added permanent provisions to the IRC, sanctioning the use of salary reductions as a source of plan contributions. The law went into effect on Jan. 1, 1980.

In 1981, the IRS issued proposed regulations on 401(k) plans sanctioning the use of employee salary reductions as a source of retirement plan contributions.

Many employers replaced older, after-tax thrift plans with 401(k)s and added 401(k) options to profit-sharing and stock bonus plans.

1981: Official Rules are Set in Place

Although a tax code provision permitting cash or deferred arrangements (CODAs) was added in 1978 as Section 401(k), it was not until November 10, 1981 that the IRS formally described the rules for these plans.

In the years immediately following the issuance of these rules, large employers typically offered 401(k) plans as supplements to their Defined Benefit plans, with few employers offering them to employees as stand-alone retirement plans.

November 10, 1981 marks the birth of the modern 401(k) plan. After that date, companies began to add 401(k) contributions to their profit-sharing plans, convert after-tax thrift-savings plans to 401(k) plans, or create new 401(k)-type DC plans.

Surveys show that within two years, nearly half of all large firms were either already offering a 401(k) plan or considering one.

Setting in Place a Unified System

Over the years, most notably in 1974 and 1981, the rules for plans covering self-employed individuals were liberalized and elaborated. Rules applicable to all plans, including those covering only common law employees, were tightened by subjecting them to some of the restrictions originally applicable only to plans covering self-employed persons.

In 1982, Congress adopted a unified system for all qualified plans, finding the logic of a unified system so obvious that only a single sentence was sufficient to justify the change: “Congress believed that the level of tax incentives made available to encourage an employer to provide retirement benefits to employees should generally not depend upon whether the employer is an incorporated or unincorporated enterprise.”

The Economic Growth and Tax Relief Reconciliation Act

In 2001, the Economic Growth and Tax Relief Reconciliation Act (EGTRRA) took another step to spur saving through 401(k) and other DC plans.

EGTRRA increased the annual Defined Contribution plan contribution limit, albeit not higher than the $45,475 limit in place in 1982.

In addition, the restrictions placed on employee deferrals were loosened as the limit on pre-tax contributions was increased and additional “catch-up” contributions were allowed for employees age 50 and older.

With the goal of preserving retirement accounts even when job changes occur, EGTRRA increased the opportunities for rollovers among various savings vehicles (401(k) plans, 403(b) plans, 457 plans, and IRAs). In addition, EGTRRA permitted 401(k) plans to offer a “Roth” feature for after-tax contributions.

Growth of the Solo 401k (Individual 401(k) Plan)

Prior to 2002, most self-employed individuals would use a SEP IRA or SIMPLE IRA as a retirement vehicle. However, in 2002 the Economic Growth and Tax Reconciliation Act of 2001 (EGTRRA) became effective. It generally provided the small business owner with no employees or the self-employed the same advantages/benefits of a conventional 401(k) Plan.

EGTRRA included various reforms that contributed to the growing popularity of the Solo 401k Plan versus the SEP IRA and SIMPLE IRA. Below is a list of several key EGTRRA provisions that led to growth in popularity of the Solo 401k Plan (also known as individual 401(k) plans):

How the EGTRRA Popularized Individual 401(k) Plans

1. EGTRRA increased the deductible profit sharing contribution limit from 15 percent to 25 percent of employees compensation. Additionally, it changed the application of deferrals so they are not counted against the employer’s maximum deductible contribution amount.

2. It increased the annual contribution limit per plan participant to the lesser of an annual maximum dollar amount of 100 percent of the participant’s compensation. Prior to EGTTRA, an eligible participant of a Solo 401k Plan was not eligible to make employee deferrals.

3. The EGTRRA created the designated Roth contribution option for 401(k) and 403(b) plans. This provision allowed plan participants to designate all or a portion of their employee deferrals as Roth (after-tax) contributions.

Promoting Individuals to Save for Retirement

EGTRRA modified Internal Revenue Code Section 4975(f)(6) to allow for the expansion of the loan feature to apply to unincorporated businesses (a sole proprietorship). Legislation passed in August 2006. The Pension Protection Act (PPA), also aims to foster retirement savings and 401(k) plan participation.

Among its many provisions, the Act makes the EGTRRA pension rule changes permanent and, additionally, makes some of the rules governing pension plans more flexible. For example, the PPA encourages employers to automatically enroll employees in their 401(k) plans and allows employers to offer appropriate default investments.

These measures seek to increase participation in 401(k) plans and facilitate the best use of these plans’ options by workers.

Read: Not All Solo 401k Plans Are The Same

The marketing for this type of plan is aimed at business owners who do not have any employees, other than themselves and perhaps their spouse. Many of the advantages of these individual 401(k) plans generally vanish if the employer expands the business. The employer may hire more employees since he/she must now adopt a conventional individual 401(k) Plan. As a result, the employee must include the new employee(s) in the plan.

No matter what the name of the plan, it must meet the rules of the Internal Revenue Code (IRC). If employees are hired and they meet the eligibility requirements of the plan and the Code, they must be included.


As you can see, the Solo 401k Plan is an IRS approved plan that was initially established into law in 1962. Later, it was greatly enhanced by the 2002 EGTRRA law. Today, the Solo 401k Plan is the most popular retirement plan for the self-employed or small business owner.

As of 2013, The 401(k) plan retirement system now holds $2.8 trillion in assets on behalf of more than 50 million active participants and millions of former employees and retirees.

The number of workers covered by 401(k) plans continues to expand, which has been a result of rules attempted to encourage more employers, small and large, to open 401(k) plans by making them as simple and accessible as possible.


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