If you are a business owner who wants to maximize your tax savings on your 2024 income, check out the Solo 401(k) and the related limits and deadlines. Even if optimizing your retirement plan isn’t a top priority now, minimizing your tax bill will make reaching financial freedom much easier. Keep reading to see if now is the time to open a Solo 401(k) plan for your business.
What Exactly Is A Solo 401(k)?
A Solo 401(k) is a streamlined retirement plan specifically designed for a business with no employees beyond the owner (and perhaps their spouse). You can no longer contribute to a Solo 401(k) if you have eligible full-time employees.
The Solo 401(k) typically allows for more significant contributions for business owners than other retirement accounts. These larger contributions will mean more tax savings for business owners.
What Are The 2024 Contribution Limits For A Solo 401(k)?
The total Solo 401(k) contribution limit (employee + employer contribution) is up to $69,000 in 2024. For business owners 50 or older, there is an extra catch-up contribution of $7,500.
In 2025, the Solo 401(k) contribution limit will increase to $70,000, with the catch-up contribution remaining at $7,500.
When figuring out your maximum Solo 401(k) contribution limit each year, remember that you will be essentially contributing as an employee and employer. The total allowable between these contributions is $69,000 in 2024. To get to this number, you should know the following: (If you are bored with this calculation, your tax planning-focused financial planner can take care of all of this for you).
1) The maximum contribution as an employee is $23,000 in 2024. If you are 50 or older at any point during the year, there is the potential to make a $7,500 catch-up contribution.
2) The remainder of the total contribution will come from the employer. This profit-sharing contribution is limited to 25% of your compensation (or net self-employment income if you don’t have an official salary).
In this scenario, you are both the employee and the employer, but each has its contribution rules.
Is A Solo 401(k) Better Than A SEP IRA?
A SEP-IRA and a Solo 401(k) are similar retirement accounts for small business owners. There is a clear winner between the two, assuming you are looking for the largest tax savings. In most scenarios, a business owner can make more significant contributions to a Solo 401(k) versus a SEP-IRA each year, making it, hands down, a better small business retirement plan choice.
When Do You Need To Make Your Final Solo 401(k) Contributions?
The employee contributions are due by the final payroll of the calendar year. For the most part, you will want to have your contribution in by Dec. 31. However, if your last pay cycle of the year runs past the New Year, you may have a little flexibility to when the money hits your Solo 401(k).
Employer contributions to a Solo 401(k) need to be made by the time the business’s taxes are filed, including extensions. In many cases, the employer profit-sharing contributions will be made the following calendar year, around the time of tax prep and filing.
Do You Need To Establish A Solo 401(k) Plan And Make Contributions Before The End Of The Calendar Year?
Before tax year 2022, you needed to have opened your Solo 401(k) by Dec. 31 for current-year deposits. However, Secure 2.0 extended the account opening deadline, allowing you to establish a Solo 401(k) plan after the end of the taxable year and before your filing due date. So, for 2024, you can still open a Solo 401(k) after the calendar year has ended.
However, waiting until after the calendar year to open your Solo 401(k) will likely limit your maximum contribution. If your plan is not opened by Dec. 31, you will lose out on the option of making an employee contribution, which in many cases could cost you a $23,000-30,500 tax deduction in 2024 alone.
Ideally, you should set up your Solo 401(k) before the end of the year for the most tax savings. However, if you read this on Jan. 1, 2025, or later, you can still benefit from opening a Solo 401(k) for 2024 if you have a self-employed income.
Can You Make Solo 401(k) Contributions After The Deadline?
If you are filing your taxes on extension, you will have extra time to make your Solo 401(k) employer contributions for the prior year.
Are There Any Penalties To Making A Late Solo 401(k) Contribution?
If you miss the Dec. 31 deadline, small contribution limits for your Solo 401(k) will limit your tax savings. You must also meet the employer’s deadlines to be able to contribute.
Even if you love your business, having the option to retire someday can make those tough days more manageable. The tax savings from optimizing your Solo 401(k) can help you reach financial freedom faster and easier. Even at current contribution limits and today’s state and federal tax brackets, a high-income business owner in California could save more than $350,000 in taxes over the next decade with a Solo 401(k) alone.
If you are already maxing out your Solo 401(k) and want even more tax savings, check out the Cash Balance Plan for business owners.