Retirement Plan Options For The Self-Employed: Solo 401(k)s vs. SEPs
So, the bottom line is those of you who are savvy will set up the Solo 401(k) to take advantage of every tax break available, and create the greatest amount of wealth. You also will not have to worry about future years when cash might be tight, because you will not have to contribute the maximums, or anything at all, if you so choose. In other words, the Solo 401(k) lets you make larger contributions in profitable years while giving you the freedom not to make lower contributions in less profitable years or when cash flow - is tighter.
If you wish to contribute more than 25 percent of earned income then a Solo 401(k) is definitely for you. Otherwise, a SEP may be sufficient. As you start nearing $225,000 of earned income the difference between one plan type and the other shrinks because, in both cases, you’re approaching the contribution maximums. Setting up a Solo 401(k) is generally a little more expensive and requires slightly more paperwork than a SEP. However, the benefit almost always outweighs the small cost difference.
It’s important to note that you must set up a Solo 401(k) by December 31st of this year. A SEP can be set up after year-end and before you file even if you request extensions.
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Guy McPhail, CPA, CFP, is president of Zdenek Financial Planning, LLC .www.zdenek.com
