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Rowing Your Own Boat: Is a Solo 401(k) Plan Right for You?

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February 8, 2017
Solo 401(k) plans and retirement savings for the self-employed.

Are you self-employed, or a small business owner, and you like to think outside the box when it comes to retirement investing? If so, you might want to consider a solo 401(k) plan.

Nearly a third of millennials are self-employed running start-ups. There are many benefits to running your own business, including the ability to follow your passion, call the shots, and often choose your own hours. But when you are the "chief everything officer," sometimes saving for retirement is relegated to the back burner, says Dara Luber, senior manager of retirement at TD Ameritrade.

The solo 401(k) plan is a savings retirement vehicle that may allow you to maximize personal retirement contributions as well as take advantage of business deductions.

Who Should Consider This Option?

"Anyone who owns a small business, is an independent contractor, or is self-employed,” Luber says. “The one caveat is that you can't have any employees other than your spouse," she adds.

"A lot of small business owners expect their business will provide a windfall for retirement. They don't feel the need to balance between investing today for tomorrow. But even a few dollars every month can make a difference, and as their business does better, they can continue to increase the amount," Luber says.

Luber outlines some benefits to the solo 401(k) plan:

  1. Higher contribution limits.
  2. Low administrative cost and easy setup.
  3. Potential tax benefits—the ability to sock away a big chunk of money pre-tax.
  4. Large set of investment options.

An individual can wear two hats and contribute to a solo 401(k) as both as the employee and employer. For 2017, the employee contribution limits for those under 50 for a solo 401(k) are $18,000 (or if you are over age 50, you can make up to an additional $6,000 in catch-up contributions). Plus, as the employer, you can also contribute up to 25% of compensation, Luber says. Total contributions, however, may not exceed $54,000 in 2017 (or $60,000 if you are over age 50).  

In addition to contributions to a solo 401(k), you may be eligible to contribute to a regular IRA that may or may not be deductible, Luber says. That will depend on your adjusted gross income, and it may be best to talk with your tax advisor about your own unique circumstances.

The Caveats

Like IRAs and other 401(k) plans, you may begin withdrawing the money at age 59 1/2, and you will be required to take a certain minimum amount each month once you reach age 70 1/2. And let’s not forget that 10% early withdrawal penalty if you are under age 59 1/2 (exceptions may apply, however).

The solo 401(k) plan must be set up by the end of the business tax year in order for you to make a contribution for that year. Also, remember that you can't have any employees other than your spouse or child.

Finally, if you are a business owner who is also employed by a second company and participates in its 401(k) plan, the IRS wants you to know that limits on elective tax are by person, not by plan. You will need to consider the limit for all elective deferrals you make during a year.

Get Started

No matter what savings vehicle you choose, it’s just important to get started. "Studies have shown that those who have a habit of automatic retirement investments are more likely to enter retirement better prepared. Even a small amount can pay off in the end," Luber concludes. 

Hands-On Retirement Planning

See if you are on the right path to retirement. Call us at 800-213-4583 to speak with a retirement consultant who can personalize a plan for you.