A Solo 401k plan is self-employed business owners’ best retirement savings vehicle. This is because they have high yearly contribution limits and more flexibility than other plans, such as SEP or traditional IRAs. They also allow you to serve as trustee, giving you checkbook control. In addition, they are an excellent option for moonlighting workers.
Tax Deduction
A solo 401(k) is one of the most valuable retirement plans available to self-employed individuals. It allows savers to contribute up to 20% of net self-employment income as both an employee and employer. That’s up to $37,500 this year for those under 50 and $64,500 if you’re over 50. It’s also an excellent option for people with multiple jobs who want to maximize their employee contribution limits. Additionally, a Solo 401(k) is one of only a few retirement accounts that makes it possible to make “mega back door” Roth IRA contributions by making voluntary after-tax contributions and immediately rolling them into a Roth IRA. This is a great way to invest in alternative investments like real estate, private equity, hedge funds, gold, and private loans, which would otherwise be prohibited by the pro-rata rule that applies to regular IRAs. Many brokerages offer Solo 401(k) plans. Be sure to shop for one offering the best fees, investment options, and customer service. Some brokers charge a one-time setup fee, while others charge ongoing annual fees.
Flexibility
A Solo 401k plan offers massive flexibility in how you save for retirement. You can contribute as both an employee and an employer (as the business owner). This allows you to vary your contribution amounts year to year based on income, needed tax deductions, and outlook for future growth. Also, you can combine net earnings from multiple businesses into a single Solo 401k account as long as each is a “substantially unrelated” business. This can allow you to maximize after-tax Roth contributions, especially if your other employer makes a matching or profit-sharing contribution. Another significant benefit is that the owner of a Solo 401k acts as their trustee. This can reduce the need for a custodian to oversee the assets and charge hefty fees. This can significantly reduce costs and increase what you’re able to achieve.
Investment Options
The Solo 401(k) offers massive flexibility for a small business owner when diversifying an investment portfolio via different asset classes. This is one of the reasons why it’s such an attractive option for self-employed people looking to save as much as possible for retirement. The plan also allows you to vary your contributions from year to year between the pre-tax/traditional bucket and the after-tax Roth bucket, giving you tremendous flexibility when managing your retirement savings. This can be a great way to optimize your savings over time based on your income, tax deductions, and outlook for the future. The Solo 401(k) can also be used with other retirement accounts like SEP, traditional, and Roth IRAs. This can benefit individuals looking to set aside a significant amount of money for retirement but also want the benefits of the more flexible options offered by the Solo 401(k) plan, such as participant loans and the mega backdoor Roth strategy.
Borrowing
A Solo 401k is the ideal retirement plan for self-employed individuals who want to save more than they can contribute. This includes freelancers, shop owners, and small business owners without employees. The IRS allows Solo 401k participants to borrow up to 50% of their current balance or $50,000, whichever is lower, from their accounts. This makes a Solo 401k loan more accessible than other borrowing options, like a personal bank loan. For example, let’s say you have a credit card debt with 20% interest, costing you more than you earn in your 401k. You could take a participant loan from your Solo 401k to pay off the credit card debt and save money in the long run. There are many benefits to a Solo 401k plan, but each needs to weigh their circumstances and decide whether this type of retirement account is right for them. If you are considering a Solo 401k, it’s best to seek the advice of a professional financial advisor who can help guide your decision-making process.
Self-Direction
A Solo 401k allows account owners to self-direct investments, which means they can invest in a broader range of assets than are available with traditional employer-sponsored 401(k) funds. However, this freedom comes with a price, and small-business owners should pay close attention to fees when choosing their plan providers. The IRS has specific rules that protect retirement accounts from prohibited transactions. These include a direct or indirect loan between a 401(k) and a disqualified person and investing in collectibles (artwork, antiques, gems, metals, certain coins, alcoholic beverages, and musical instruments). A financial advisor can help you understand the benefits of a Solo 401(k) and help you develop an investment strategy to meet your goals.
