Self-Employed Retirement Plan Comparison: SEP IRA vs Solo 401K vs SIMPLE IRA Last updated: January 14, 2021 G.E. Eligible startup costsYou may claim the credit for ordinary and necessary costs to: Eligible tax yearsYou can claim the credit for each of the first 3 years of the plan and may choose to start claiming the credit in the tax year before the tax year in which the plan becomes effective. SEP IRA and 401(k) plan accounts are owned by the employee, who can choose between a range of investment options. For the 2020 tax year, up to $6,000 ($7,000 for employees age 50 or older). I think I know what the answer is but I just wanted to ask the BP community to … “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.”. Employees are not permitted to make their own elective contributions, although a solo entrepreneur or self-employed person—who is in effect both employer and employee—may contribute acting as employer. SEP IRA vs solo 401k (tax questions) Retirement. You can still get a plan for 2020! The main differences between the three retirement vehicles mentioned above, are going to be the tax benefits and who they are designed to work for. And is one better than another? 401(k) vs. IRA: An Overview . Any information herein is for educational purposes only and should not be considered tax, legal, or investment advice. In most cases, the employee has multiple options of mutual funds to choose from when deciding on investing their contributed money. The main ones are a 401(k) plan, Simplified Employee Pension IRA known as the SEP IRA, or a Savings Incentive Match Plan for Employees IRA referred to as a SIMPLE IRA. This compensation comes from two main sources. I want to have both SEP & Roth 401K. Employers can establish an account for themselves, in addition to the IRAs which are made available to their employees. © 2021 Forbes Media LLC. Simplified Employee Pension (SEP IRA), Savings Incentive Match Plan for Employees (SIMPLE IRA), and Individual 401 (k) — sometimes called a solo 401 (k) or a self-employed 401 (k). The only difference is that there's no elective employee contribution portion with a SEP-IRA, only the profit-sharing portion. This tax-advantaged retirement plan is generally limited to just self-employed individuals, though spouses who work at least part time for them may be eligible to contribute to one as well. In Turbotax, when I checked "max contribution" box for SEP, it showed -$7736 on Retirement Deduction Results page, but when I put in same amount manually, it does not. The Takeaway: Solo 401(k) vs. SEP IRA. The coronavirus pandemic has only accelerated the trend toward self-employment. As we saw from the analysis above, the Solo 401k beats the SEP IRA in terms of flexibility and features. 401(k) vs. SEP & SIMPLE IRAs; 401(k) Advantages over SEP and SIMPLE IRAs. Employers have to fund every eligible employee's SEP IRA account at up to $49,000 or 25 percent of the employee's total compensation for the 2010 tax year, whichever rate is less. To help support our reporting work, and to continue our ability to provide this content for free to our readers, we receive compensation from the companies that advertise on the Forbes Advisor site. The term pension in this case is a bit archaic—a SEP IRA is not a defined benefit plan. These plans have different funding rules, and should be looked at closely by a business owner. SEP IRA vs. Solo 401 (k) Owners of small businesses have more choices today when it comes to saving for retirement. A SEP IRA is simple to administer and no tax filings are required. The maximum contribution to an IRA is $5,000 as of 2009. First, you have to know what it is. The plan may also be referred to as an individual 401(k) or a one-participant 401(k). The reason for the penalty is to encourage people to save for retirement and not withdraw the funds until the stated retirement age. To put it simply, a 401(k) plan is a retirement account offered by employers allowing employees of the company to contribute a portion of their paycheck to retirement. I’m self-employed and I opened up a SEP IRA and contributed $5000 this year 2016 (less than 20% of my income) After researching a bit I decided to open up an Indivdiual 401K account and contributed $8000 this year (2016) Realizing i don’t need to have both accounts i closed the SEP IRA and rolled that over to the individual 401K. This is what we call a combo plan. Of that total contribution, $19,500 would be the salary deferral as an employee while $18,587 would be a profit sharing contribution as an employer. For example, these plans are set up under different sections of the tax code. But the differences don't stop there. But there are other factors to consider as well. Potentially greater retirement contributions at the same income level, therefore maximizing retirement contributions and valuable tax deductions. Schedule a FREE 30 minute call with him: But it also comes with a lot of responsibilities — not the least of which is saving for your own retirement. Small businesses have 3 basic retirement plan options today – 401k, SIMPLE IRAs, and SEP IRAs. If you’re older than 50, that increases to $6,000. The Solo 401(k) annual contribution maximum in 2020 is $57,000 and $58,000 in 2021. For those who qualify for the Solo 401k, they will almost always find that a Solo 401k has certain features that make it the better option. Traditional 401(k) plans also have tax advantages. Most importantly, SEP IRAs offer more generous tax breaks than personal IRAs. Your email address will not be published. If you’re deciding between a solo 401(k) and a SEP IRA, and you have employees, the choice is easy: SEP IRA. Schedule a FREE 30 minute call with him: At Vanguard, for example, SEP IRA plans can be set up online while Solo 401(k) accounts require a phone call. What Happens If Your Employer Suspends Its 401(k) Program. SEP IRA vs 401k: How SEP IRAs Compare. Those who have full-time employees can save for retirement using a … But again, with these issues I wouldn’t leave anything to chance. The SEP IRA and Solo 401k are both business retirement plans. Unemployment Benefits Boost Calculator, Simplified Employee Pension Individual Retirement Account. But again, with these issues I wouldn’t leave anything to chance. 401(k) Advantages over SEP and SIMPLE IRAs. This includes self-employed people, sole proprietorships, LLPs, C corporations and S corporations. Paul Sundin, CPA has written on retirement planning for Inc., Kiplinger and others. SEP-IRA. Your biggest advantage that you have in planning for retirement, is time. Hiring just one employee for your business in the future—beyond your spouse—would eliminate the Solo 401(k) as an option. Miller 4 Comments While completing my taxes in prior years, I started noticing that I would have a not insignificant tax bill due from self-employment and side project income unless I found a way to reduce my taxable income (especially with full-time … sep ira vs. 401k. IRA vs 401k: Understanding the difference between the two. To help choose the right plan for your business, you need to understand their features and match them to … SEP IRA vs 401k: Which is the best plan in 2021? Contribution Limits to a SEP-IRA The total contribution limits to a SEP-IRA appear similar to solo 401 (k) limits, capping out at $55,000 for 2018. The ranks of self-employed Americans are growing. It allows sizable contributions and big tax deductions. With a SEP IRA you can set aside up to 25 percent of your business’s income, up to $57,000 annually (as of 2020). Simplified is in their name for a reason: They can be easier to set up than Solo 401(k) plans, according to Henry, and they’re more widely available. Employees who may be closer to retirement age have higher contribution limits, allowing them to “catch up” on contributing to retirement funds. While SEP IRAs usually have a broader range of choices than 401(k) accounts, the choices are more limited than those available in a standard brokerage account. Switching from a Solo 401(k) to an SEP IRA at some future date can be a big hassle, Henry warns. We will take a look here at how the plans differ. The benefit of a SEP over a regular traditional IRA is that you can take advantage of higher contribution limits than an IRA offers. Second Stimulus Check Calculator: How Much Will You Receive? French pilot Cherpin dies from injuries sustained in crash, organizers say… Now, if you’re self-employed and have employees and you’re curious as to whether to go with the SEP IRA over the SIMPLE IRA or traditional 401k, I would still say, mostly, no. You had 100 or fewer employees who received at least $5,000 in compensation from you for the preceding year; You had at least one plan participant who was a non-highly compensated employee; and. SEP-IRA and Solo 401K target solo entrepreneurs; an entrepreneur and spouse, and business owners with no employees or contract-only employees. So in this post, we take a look at the SEP IRA vs 401k. 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. Eligible employersYou qualify to claim this credit if: Amount of the creditThe credit is 50% of your ordinary and necessary eligible startup costs up to a maximum of $500 per year. But that’s not the only reason to pick a Solo 401(k). The SEP-IRA limit is up to 25% of an employee’s salary or up to $57,000, depending on which is less. When you work for an employer, you can usually count on there being a 401(k) plan or something similar already in place that you can contribute to. This is the total amount the employee can personally contribute to all SEP, Roth, and traditional IRAs each year. The maximum limit for 401k contributions is usually much higher than the limit for an IRA. That’s because as employee they can contribute up to $19,500, but as employer they can add onto that up to 25% of their adjusted income for a maximum total contribution of $57,000 in 2020 and $58,000 in 2021. INDIVIDUAL 401(K) For the 2020 tax year, $19,500 ($26,000 for employees age 50 or older). A SEP-IRA has the same overall contribution limit as a solo 401(k). Prior to any investment decision, please consult your tax, legal and investment professionals. If you qualify, you may claim the credit using Form 8881, Credit for Small Employer Pension Plan Startup Costs. For side-hustle workers who don’t pay withholding taxes and worry about their end-of-year tax bill, the deduction can really help. When is comes to the battle of retirement plans, SEP IRA vs Solo 401k, the Solo 401k is the clear winner (if you are self-employed and you or your spouse are the only employees). This is the total amount the employee can personally contribute to all SEP, Roth, and traditional IRAs each year. By Kimberly Lankford , Contributor July 24, … Determine what your objectives are and take advantage of the potential tax benefits and savings benefits offered by retirement vehicles. Here is a deep dive report on the important pieces of information concerning qualified retirement plans like 401(k) plans, Cash Balance Plans and SEP plans. Retirement. IRA’s only allow a yearly contribution of $5,500 for individuals, or $11,000 for spouses, where SEP plans allow you to contribute up to $55,000 yearly. This is because they allow for a fixed $18,500 Salary Deferred portion, regardless of how much your business makes. However, when you work for yourself, it's a different story. If you can’t put away more than $6,000, you should go with the SEP IRA … Everything To Know About Cashier’s Checks, Best Investment Apps For Managing Portfolios, How to Buy Bonds: A Primer for New Investors, The 5 Best Round-Up Apps For Saving Money. If you’re deciding between a solo 401(k) and a SEP IRA, and you have employees, the choice is easy: SEP IRA. SEP or 401 (k) Profit Sharing Plan Which Should You Choose? I just started a business last year and wanted to put some money into retirement. 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