Employer contribution limits: Both SEP IRAs and Solo 401(k)s allow you to contribute up to 20% of your compensation as the employer. What to do when you lose your 401(k) match, the key differences between these two 401(k) plans. If you're self-employed and looking for a retirement plan, you may be trying to decide between a solo 401(k) and a SEP IRA. SOIN1021438, Stay up to date on the latest business news and stock Stock Advisor list price is $199 per year. SEP stands for simplified employee pension, and it allows an employer (including the self-employed) to make contributions to employees retirement plans, giving them a way to save for retirement through their employer. In contrast, with a solo 401(k), you can save up to 100 percent as an employee contribution, up to the annual threshold, and then you can flip to employer contributions at up to a 25 percent rate. Solo 401 (k) vs SEP IRA: What are the Contribution Limits? For 2022. 2022 contribution limits for selected tax-deferred accounts Disclosures It also offers catch-up contributions, too. Heres how annual solo 401(k) contribution limits work for elective deferrals: The limit on 401(k) contributions, including elective deferrals and employer nonelective contributions, is $58,000 for 2021 and $61,000 in 2022. Unlike a traditional 401(k) plan, SEP IRAs have little to no administrative overhead. Our editorial team does not receive direct compensation from our advertisers. You can benefit from SEP IRA tax breaks for a given tax year by opening your account by your annual tax filing deadline, which is usually in mid April. Profit-sharing contribution limits follow the same rules as solo 401(k)s -- 25% of compensation or 20% of net . However, remember that your annual maximum contribution limit applies to your total contributions across all your 401(k) accounts. SEP-IRAs can . Weve maintained this reputation for over four decades by demystifying the financial decision-making SEP IRAs arent subject to annual DOL reporting requirements1 and the contribution limits for a SEP IRA ($58,000 for 2021 and $61,000 for 2022) are significantly higher than for a traditional or Roth IRA ($6,000 for 2021 and 2022, annually). Other factors, such as our own proprietary website rules and whether a product is offered in your area or at your self-selected credit score range can also impact how and where products appear on this site. Social Security's Trust Funds Could Run Out Sooner Than Expected. So this plan can be particularly advantageous for the self-employed. Using a solo 401(k) avoids the problem of mixing pre-tax and after-tax funds in an IRA. Solo 401(k)s also offer features more on par with other employer-sponsored retirement plans that SEP IRAs lack: You can, for example, generally take out a loan from your solo 401(k) equal to the lesser of $50,000 or 50% of your account balance. A solo 401(k) could allow you to save more for retirement on a tax-advantaged basis compared to a SEP IRA, but not everyone can contribute to one. But there are several circumstances where a SEP IRA may be a better option. I would say that the biggest benefit of all is the Roth option, says Desmond Henry, a certified financial planner (CFP) based in Topeka, Kan. For someone who is a high earner, the solo makes sense because of the Roth option.. . 1 While there are no DOL reporting requirements for SEP IRAs, employer contributions are reported to the IRS on the employers tax return. SoFi Invest But even in some cases where hiring employees simply isnt in the cards, Henry sometimes advises the self-employed to choose a SEP IRA. Amounts contributed are tax-deductible in the year you make them. 2. Most importantly, SEP IRAs offer more generous tax breaks than personal IRAs. For 2023, up to 25%* of the employee's compensation or $66,000, whichever is less.*. This can limit your solo 401 (k) contributions if you have a full-time job with a 401 (k) and also do some freelance work on the side. For 2023, the 401 (k) annual contribution limit will is $22,500, up from $20,500 in 2021. Bankrate follows a strict Those over age 50 can make a catch-up contribution of an additional $7,500 (in 2023), as is typical for other employer-sponsored plans. A 401 (k) can have more plan types added to help you save more when your business is ready. Home equity line of credit (HELOC) calculator. In contrast, the SEP IRA restricts you to the rules of a traditional IRA, even. The SEP IRA takes the idea of the traditional IRA and stretches it to fit the needs of freelancers, business owners and others who have employees. He oversees editorial coverage of banking, investing, the economy and all things money. Then you can make employer contributions at the 25 percent rate. What are index funds and how do they work? With a SEP IRA you can set aside up to 25 percent of your businesss income, up to $66,000 annually (as of 2023). SEP IRAs are easy to establish and maintain. This is useful for higher-income individuals who aren't eligible to contribute to a Roth IRA but are interested in taking advantage of the backdoor Roth IRA. Which retirement plan is right for you and your needs? Specifically, $20,500 if under age 50 and an additional $6,500 if age 50 or older. But this compensation does not influence the information we publish, or the reviews that you see on this site. Both are great options for retirement savings, but it can be difficult to decide which one is best for you. The answer can depend largely on whether your business has employees or operates as a sole proprietorship and which plan yields more benefits, in terms of contribution limits and tax breaks. This tax-advantaged plan is available to any size business, including sole proprietorships with no employees, and its one of the easiest retirement plan to set up and maintain. Any business with one or more employees is eligible for a SEP IRA, including freelance workers and independent contractors. So if you're really looking to save for your retirement big-time, a solo 401 (k) might be your best bet. If youre ready to start saving for the future, one way to get started is by opening a brokerage account on the SoFi Invest investment platform. Of that total contribution, in 2022, $20,500 would be the salary deferral as an employee while $18,587 would be a profit sharing contribution as an employer. If you have an individual 401 (k) plan (and no other retirement plans to which you're contributing), your contribution limit will be $39,500 calculated as follows: Employee contribution of $19,500, plus Employer contribution of $20,000 (20% of $100,000). When opening an account, be sure to note minimum investment requirements and investment options. SEP IRAs are available from most major brokerage firms and easy to set up. However, you have flexibility in making contributions and dont have to make one in any given year. But in many other respects, self-employment retirement plans offer many of the same benefits as traditional retirement plans. If thats the case, then you may turn to the SEP IRA, which allows you to establish the plan for multiple employees. The SEP IRA does not allow catch-up contributions if youre over 50, and it does not offer a Roth version, so if either of those is a dealbreaker, the SEP IRA wont be for you. To participate in a self-employment retirement plan and its various benefits, youll need to earn income from your own business, whether thats a full-fledged company or as a freelancer. As the employee, you can contribute up to 100% of your earned income, up to the annual contribution limit (click here to see the contribution limits for Solo 401(k)s). Discounted offers are only available to new members. Remember: Hiring just one employee for your business in the futurebeyond your spousewould eliminate the solo 401(k) as an option. Just like other 401(k) plans, solo 401(k)s have annual contribution limits. Solo 401 (k) Eligibility and Contribution Limits The solo 401 (k) annual contribution maximum in 2022 is $61,000 and $66,000 in 2023. The solo 401(k) also allows you to make contributions on an after-tax basis, as well as a pre-tax basis. A summary of how these plan options vary includes: If youre setting up a plan for your employees, youll also want to compare the SEP IRA against the SIMPLE IRA to see which works better. Employer only (or self employment income). Again, based on your plan documents, employee deferrals can be made in pretax or Roth. Companies with only a single employee can take advantage of SEP IRAs, meaning they can be a good choice for solo entrepreneurs or gig workers. SoFi Invest refers to the three investment and trading platforms operated by Social Finance, Inc. and its affiliates (described below). The law no longer differentiates between "sole proprietor, partnership or LLC" and "S-corp or C-corp." For 2023, the SEP IRA contribution limits cannot exceed the lesser of: 25% of compensation $66,000 If you're self-employed, your "compensation" requires a calculation. SEP IRAs work much like traditional IRAs, with regard to the tax treatment of withdrawals. It can provide the benefits of a typical 401(k) plan: tax breaks, tax-deferred growth, tax-free growth if you opt for a solo Roth 401(k) and you can actually score some bonus perks, too, allowing you to stash even more cash in your plan. Your adjusted gross income, including your self-employment income and other income, is under the Roth IRA income limits. Another way to look at this is by thinking about the type of features that are most important to you. Check out this great listen on Audible.com. The IRS offers a rate table you can use to calculate your contributions. Solo 401(k) accounts tend to offer a bit more flexibility in investment choices, too, Henry says. A solo 401 (k), also known as an individual 401 (k) or a 401 (k) with only one participant, is a retirement account available to business owners with no employees. We follow strict guidelines to ensure that our editorial content is not influenced by advertisers. Doing so requires a nondeductible contribution to a traditional IRA and then a conversion to a Roth IRA. Youll avoid taxes on contributions, and be taxed only when you withdraw money in retirement. Regulations also govern when you can take a loan from a solo 401(k) plan. Opening fees and annual fees are often zero. The Final Word on Solo 401 (k) Contributions If you're self-employed, a Solo 401 (k) may be a great solution to your retirement savings account needs. The SEP IRA and the Solo 401(k) have become a popular savings tool for self-employed persons who don't have an employer 401(k) plan, as they allow them to contribute more than the annual $6,000 contribution that is allowed in a Traditional IRA or Roth IRA. Learn more. Even if you have a 401(k) at your main employer, you can contribute to a SEP if youre self-employed, making it an attractive way for freelancers to stash extra money. Something went wrong. market happenings. 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