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With the rise of the gig economy and an increasing number of individuals turning to self-employment, interest in solo 401(k) plans has never been greater. Understanding how these retirement plans work and their unique benefits can help an eligible small business owner take full advantage.
Some general information is outlined below. If you have more specific questions, a qualified 401(k) provider should be able to help.
What’s a Solo 401(k) Plan?
A solo 401(k) plan, also known as one-participant plan, is a 401(k) plan that exclusively covers business owners and their spouses. Solo plans are exempt from many of the most complicated requirements that typically apply to 401(k) plans, such as nondiscrimination testing, since they don't cover any non-owners.
Solo 401(k) plans are popular with eligible small business owners because they are easy to administer while allowing participants to make substantial contributions—up to the IRS 415(c) limit annually—without the restrictions that typically apply to larger 401(k) plans.
What Businesses Qualify for a Solo Plan?
A solo 401(k) plan can only cover business owners and their spouses. To qualify for a solo plan, a business cannot employ a non-owner that’s eligible for plan participation – regardless of whether the non-owner elects to participate or not. Meeting this solo requirement is very important because improperly excluding non-owners from a 401(k) plan can trigger significant IRS penalties – including corrective contributions, or even plan disqualification.
A 401(k) plan will lose its solo status the moment a non-owner becomes eligible for plan participation. A solo plan holder should notify their 401(k) provider before this happens to best ensure a smooth transition.
Additional considerations:
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- If your business is part of a controlled group or affiliated service group (ASG) of businesses, you cannot exclude their employees to qualify for a solo 401(k) plan.
- Beginning January 1, 2024, your business cannot keep long-term part-time (LTPT) employees out of a solo plan, regardless of the plan’s normal eligibility requirements.
What 401(k) Rules Don’t Apply to Solo Plans?
Unlike other 401(k) plans, solo plans are exempt from many of the complicated rules designed to ensure fairness because there are no non-owners to protect. These rules include:
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- Nondiscrimination testing: Solo plans automatically pass the 410(b) coverage, ADP/ACP, and 401(a)(4) general nondiscrimination tests because they only cover Highly-Compensated Employees (HCEs).
- Top heavy testing: All solo plans are top heavy, but the top heavy minimum contribution is moot because there are no non-key employees to receive an allocation.
- Participant disclosures: Solo plans are not required to distribute the numerous Title I disclosures that apply to other 401(k) plans, such as Summary Plan Descriptions or Summary Annual Reports.
- Form 5500: Solo plans have no Form 5500 filing requirement if assets as of the last day of the plan year are $250,000 or less.
- Fidelity bond: “Plan officials” who are responsible for the day-to-day administration of an ERISA-covered 401(k) plan must be covered by a fidelity bond. The purpose of the bond is to protect plan participants against losses caused by acts of fraud or dishonesty. As a non-ERISA plan, solos have no fidelity bond requirement.
What 401(k) Rules Do Apply to Solo Plans?
Despite their simplicity, there are still a few important rules that solo 401(k) plans must follow. These rules include:
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- Contribution Limits: the following IRS contribution limits apply to solo plans:
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- Form 5500-EZ: If the assets in your solo 401(k) plan exceed $250,000 as of the last day of the plan year, you must file a Form 5500-EZ.
- Participant Disclosures: Some disclosures, such as the 404(a)(5) participant fee notice and safe harbor 401(k) notices, are required if applicable to your plan.
Solo 401(k) Plan Design Considerations
Most 401(k) providers charge low fees for solo plans given their basic requirements. However, some won’t allow popular 401(k) features like participant loans or in-service distributions to maximize their profit. These limitations may not be a problem for some business owners, but they could disappoint others.
If you have a high income, you might want to consider making "mega back door" Roth IRA contributions to a solo 401(k) plan. This tax strategy involves contributing a significant amount of voluntary after-tax contributions to a solo plan and then immediately rolling those contributions to a Roth IRA so their amount and any future earnings can be distributable in retirement tax-free. To employ this strategy, you’ll need a solo plan that allows voluntary after-tax contributions and the in-service distribution of these contributions at any time.
Deadline to Adopt a New Solo Plan
Thanks to the SECURE Act of 2019 (SECURE 1.0) and the SECURE Act of 2022 (SECURE 2.0), the deadlines for adopting and contributing to a solo 401(k) plan have been extended:
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- Adoption Deadline: A business owner can make a retroactive profit sharing contribution to a solo plan up to the due date of the year’s tax return (including extensions). For example, if your 2023 tax return is extended to September 15, 2024, you have until that date to adopt a solo 401(k) plan for 2023.
- Contribution Deadline: A business owner can make a retroactive profit sharing contribution to a now solo plan up to the due date of the year’s tax return (including extensions). Sole proprietors and owners of single-member LLCs can make retroactive employee contributions to a new solo plan up to the due date of the year’s tax return (excluding extensions).
It Pays to Know Your Solo 401(k) Plan Options!
Solo 401(k) plans are popular with business owners because they offer unrestricted contributions – including “mega back door” Roth IRA contributions – up to the 415 limit. The kicker? They’re typically much less expensive than other 401(k) plans because they’re small and not subject to many plan qualification requirements.
However, you want to avoid 401(k) providers that limit your solo 401(k) plan design options. These limits can keep you from maximizing your plan benefits.
