Most people don’t think about the mechanics of how their retirement funds are set up. As employees for a company, the business has handled the nuts and bolts of getting a 401(k) retirement plan established. The worker just needs to have contributions withdrawn from his pay.
It’s not that easy when you’re setting up your own business. That’s because you are the one responsible for getting your retirement plan off the ground. And if you don’t have the requisite knowledge about the options available, you may miss out on the one that’s best suited for your needs.
That’s the situation one Redditor on the r/fatFIRE subreddit found himself in. He was leaving his employer and striking out on his own by establishing a limited liability company (LLC). Although he had read differently elsewhere, his certified public accountant had told him the only way he could fund a 401(k) plan was to create an S-corporation. He wanted to know what was available.
24/7 Wall St. Key Points:
- Launching your own business entails a lot of planning, not least of which is what is the best retirement plan option for you.
- While 401(k)s are the best known option, there are numerous alternatives available for self-employed individuals, each with their own unique benefits and drawbacks.
- Also: Is your 401(k) optimized for your retirement plans? (Sponsored)
Many paths to retirement security
Now, I’m not a financial or tax advisor, so these are only my opinions from what I’ve read on the IRS website, but there are a number of options available to individuals that don’t require you to establish an S-corporation to tax advantage of them.
401(k). Traditional 401(k) retirement programs that most people are familiar with actually have a lot of regulations attached to them and special rules that have to be followed. While the Redditor could establish a traditional 401(k), there are better, simpler options like a Solo-401(k). It allows a person to make salary deferrals of up to $23,500 in 2025 while the business can also contribute, up to a combined maximum of $70,000. The benefit of the Solo-401(k) is there are far fewer rules for individuals to have to follow.
SEP-IRA. The simplified employee pension IRA (SEP-IRA) is similar to a 401(k) in that contributions are tax-deferred and are easier to set up than 401(k)s, while having the same contribution maximums, though they are arrived at differently. Because employees cannot contribute to a SEP-IRA — the employer makes contributions on the employee’s behalf — contributions are limited to 25% of the employee’s compensation or $70,000, whichever is smaller.
Other options. Self-employed people have other retirement plan options as well, such as SIMPLE IRAs (which have much lower total contribution limits), profit-sharing plans, money purchase plans, and traditional defined benefit pension plans. They are not really optimal alternatives for single-person, self-employed individuals due to their complexity.
Key takeaways
While there are always benefits and disadvantages to any plan, the solo-401(k) and SEP-IRAs tend to be the two options chosen most.
The SEP-IRA, for example, is the easiest to set up and maintain, but it does not allow for catch-up contributions like a 401(k) permits, and you can’t take loans from it.
A solo-401(k), on the other hand, let’s you save more for retirement due to the catch-up provisions, but is more work to set up and maintain.
Which works best for you is an individual choice, but you can actually have both. However, the contribution limits still apply and the situation would be much more complex than having one or the other.
There are numerous details not covered above to each plan that are best discussed with a competent financial and advisor who can help craft a individualized plan based on your unique needs. Speaking with a financial planner and tax professional are probably the first stops anyone thinking of going into business for themselves should be making.
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