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A Self Employed IRA – Why You Should be Using a Solo 401K?

A self-employed individual has many options when it comes to retirement planning. Most self-employed individuals are directed towards using an IRA, Roth IRA, SEP IRA or SIMPLE IRA as a retirement planning vehicle. Although these type of IRA have some attractive retirement and tax planning elements, there is a retirement solution that will offer a self-employed individual a far more attractive option.

The Solo 401K Plan, also known as an Individual 401K or Self Directed 401K, offers a self employed business owner the ability to make high contributions (up to 10 times a Traditional IRA – up to $54,500) as well as use the funds to make almost any type of investment, including real estate, tax liens, private businesses, precious metals, and foreign currency on their own without requiring custodian consent tax-free!

The Solo 401K plan is unique and so popular because it is designed explicitly for small, owner only business. There are many features of the Solo 401K plan that make it so appealing and popular among self employed business owners – much more so than a self employed IRA, such as a SEP.

The annual Solo 401k contribution consists of two components, an employee salary deferral contribution and an employer profit sharing contribution. In 2011, the total contribution limit for a Solo 401k is $49,000 or $54,500 if age 50 or older. The total allowable contribution limits are combined to get the maximum Solo 401k contribution limit.

The sum of both contributions can be a maximum of $49,000 per year (for 2010) or $54,500 for persons over age 50.

In contrast to a self employed IRA, a Solo 401K Plan offers a self-employed individual the ability to use more of their compensation to make Solo 401K Plan contributions. In the case of a SEP, the maximum amount that can be contributed is up to 25% of the self-employed individual’s compensation. Whereas, in the case of a Solo 401K Plan, for 2011, an individual can contribute the first $16,500 ($22,00 if the individual is over 50), and then up to 25% of the individual’s compensation as a profit sharing contribution.

For example, if Joe, who is 55 and a self-employed business owner who operates his business through a corporation earns $100,000 and had a SEP, his maximum SEP contribution limit would be $25,000. In contrast, if Joe established a Solo 401K Plan, Joe would be able to make an employee deferral contribution of $22,000 and Joe’s company would be able to make a profit sharing contribution equal to 25% of Joe’s compensation or $25,000, giving Joe a $47,000 annual contribution. Hence, the Solo 401K Plan allowed Joe to contribute an additional $22,000 to his retirement plan.

If the business owner’s spouse elects to participate in the Solo 401(k) and earns compensation from the business, the spouse is allowed to make separate and equal contributions increasing the couples’ annual total contribution to $98,000 for 2010 or $108,000 if both spouses over age 50.

In addition, unlike a self-employed IRA, such as a SEP, a Solo 401K Plan allows a self-employed individual to borrow up to $50,000 or 50% of his or her account value, whatever is less. The loan must be paid at least quarterly at a minimum interest rate of at least Prime as per the Wall Street Journal (as of July 27, 2001 – Prime is 3.25%). The loan can be used for any purpose, including paying personal or business expenses. In addition, the loan feature is used by many self-employed individuals to help start or fund a new or existing business. With the current difficulty in securing financing for a new or existing small business, many self-employed individuals and small business owners have turned to the Solo 401K loan as a source of funding. The advantage of using a Solo 401K loan over a traditional bank or hard money lender, is that the interest rate you can charge yourself is typically less than what you will pay to an outside lender, plus the interest you are paying goes back to your Solo 401K plan tax-free. In other words, by taking a Solo 401K loan you are gaining access to much needed funds while at the same time increasing the value of your Solo 401K Plan.

To learn more about the advantages of the Solo 401K loan over a self employed IRA, please contact an IRA Financial Group retirement expert at 800-472-0646 or visit

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Posted in Solo 401(k)

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