People with full-time jobs at big companies often have access to an employer-sponsored 401(k) retirement account. If you’re self-employed, you have to figure out retirement all on your own. There are a handful of ways to manage your retirement, but one of the absolute best is with a Solo 401(k) account.

Solo 401(k) accounts give you generous limits, a huge range of investment options, and often come with no recurring fees. If you are looking to save for retirement while self-employed, read on to find out why a Solo 401(k) is the first place you should start. 

What is a Solo 401(k)?

What is A Solo 401(k) - What is it?

What is A Solo 401(k) - What is it?

A Solo 401(k) is a type of retirement savings account designed for people who work in a solo business. Solo 401(k) accounts are tax-advantaged retirement accounts, similar to a traditional 401(k) or IRA.

Solo 401(k) accounts are available from most major brokerages (I’ll talk about two of my favorites below). If you already have a favorite brokerage for your investments, you can likely open a Solo 401(k) at the same place and manage it with the same online login.

By default, accounts are funded with pre-tax dollars. That means you don’t pay income taxes on the income when you earn it. Withdrawals in the future are taxed as regular income, presumably at a lower tax rate than you pay today, since your income will likely be lower during retirement years.

What is a Roth Solo 401(k)?

Solo 401(k) accounts are also available as a Roth Solo 401(k). Instead of the typical pre-tax contribution, Roth Solo 401(k)s tax after-tax contributions. This means you pay taxes on the income in the year you contribute, but all qualified withdrawals in retirement are tax-free.

If you have a decade or more before retirement, a Roth could make more sense. If your investments will grow significantly in the time leading up to retirement, the tax-free investment gains could be worth more than the taxes you paid on your after-tax contributions. The same logic applies to a Roth IRA.

When signing up for a Solo 401(k), you just check a box on the form to designate it as a Roth account in most cases. If you’re unclear on how to choose a Roth Solo 401(k) in the application process, call the brokerage before submitting to make sure you’re following the right steps.

Like all retirement accounts in the US, limits apply on Solo 401(k) accounts. The limits change annually and are partially based on your business income.

For 2020, you can contribute up to a total of $57,000 if you are under 50 years old. If you are 50 or older, you can contribute an additional $6,500.

If you run your business as a side hustle and also work for an employer, your 401(k) contributions at work count toward your Solo 401(k) limit. 

In addition to your contributions, you can make your spouse an employee if you’re married. In that case, your family’s contribution limits are effectively doubled.

Who is a Solo 401(k) for?

What is a Solo 401(k) - Who is a Solo 401(k) for?

What is a Solo 401(k) - Who is a Solo 401(k) for?

Solo 401(k) accounts are only for business owners where they are the only employee of the company. Your spouse can also make contributions under the same Solo 401(k). But if you have any additional employees, you are not eligible.

If you are interested in a less-cumbersome plan or don’t fit the requirements for a Solo 401(k), you could consider an SEP IRA. SEP IRA accounts have similar limits, but you can only contribute from your business. Contributions may be restrained a bit more than a Solo 401(k) due to how the limit is calculated.

While Solo 401(k) and SEP IRA accounts are best for people who are self-employed, they are not your only retirement account options.

Here’s a longer list of retirement accounts to consider:

Account type Contribution limit (2020) Catch-up contribution After-tax (Roth) contributions allowed Employment status requirements
Solo 401(k) $57,000 $6,500 Yes Self-employed with no other employees
SEP IRA $57,000 None No Self-employed with or without employees
IRA $6,000 $1,000 Yes Any
SIMPLE IRA $13,500 $3,000 No Companies with 100 employees or fewer

*Various limits may apply based on your income, business profits, and other factors.

Even if you contribute to a Solo 401(k) or SEP IRA, you can still contribute to a traditional or Roth IRA in most cases. That’s the same as people who contribute to both an employer 401(k) and their own IRA. If you can afford to contribute in both, it’s a win-win for your finances.

If your company is bigger than just a small team, you may want to consider a SIMPLE IRA, which is designed for companies of up to 100 employees. Larger companies should use a traditional employer 401(k) plan.

Where to get a solo 401(k)

Solo 401(k) accounts are available from most major brokerage firms.

Here are a couple of the most popular options to compare when shopping for your own Solo 401(k) provider:

Fidelity

Fidelity offers retirement accounts with no signup fees, no closing fees, and no annual fees. It includes $0 trades for US stocks and ETFs. It also has its own family of mutual funds available with no transaction fees. If you’re into low-fees, the Fidelity Self-Employed 401(k) should be on your shortlist.

Fidelity is a strong brokerage for retirement accounts of all kinds. It features extensive resources to learn about investing and the specific investments that make up your portfolio. It also offers a wide range of valuable investment tools, resources, and calculators designed to help you succeed in reaching your retirement goals.

Vanguard

Vanguard pioneered the industry of low-cost index fund investing. With a Vanguard account, you can invest in any Vanguard mutual fund with no transaction fees. At Vanguard, this type of account is called an Individual 401(k) or i401(k) for short.

Vanguard is also a part of the $0 commission club for all stocks and ETFs. Vanguard is famous for its own family of funds, which are among the largest in the U.S.

Vanguard was once the cheapest option for nearly all index funds, but these days lag behind competitors in some categories – although many of their fees are still reasonable.

Summary

When you own a business, you don’t have the convenience of relying on an employer to help you prepare for retirement. While you are likely contributing to Social Security, those benefits are generally far from enough to maintain the same standard of living in retirement.

When you plan and save for the future, you’re doing yourself a huge long-term favor. It may be decades before you enjoy the results, but you won’t regret saving and investing well for retirement.

Read more:

  • How Much Should You Contribute To Your 401(k)?
  • How Much Should Be in Your 401(k) At 30?