Solo 401k For Part-Time Self-Employment

In A Non-Deductible IRA Is Worth It For Me, I mentioned I’m going to establish a self-employed 401(k) plan, also known as a solo 401k plan or an individual 401k plan. This is in part for providing a safe haven for the pre-tax money in my IRAs, in preparation for converting the remaining after-tax money in my IRAs to Roth. It will also allow me to shelter a little bit of money from my self-employment income. Every bit helps, you know?

When I tried to figure out how much I can contribute from my self-employment income to the solo 401k, I found that the information on the Internet assumes that the self-employment income is the person’s only earned income. For example the calculation worksheets provided by Fidelity, Schwab, and Vanguard all make that assumption. They don’t consider the cases like me who work at a day job while earning some self-employment income on the side.

Because I participate in the 401k plan at work, the maximum I can contribute to my solo 401k plan changes with what I earn from my day job and what I contribute to the workplace 401k plan. The Social Security tax I pay depends on the sum of my salary as an employee and my self-employment income. The salary deferral contributions I can make from self-employment income also depends on how much I already contribute to my 401k plan at my day job.

I would think there are enough consultants, freelancers, moonlighters, and bloggers who are in the same camp as I am, but there is very little resource I could find for people who earn their income from a mix of W-2 salary and self-employment.

You know where this is going to lead to, don’t you? I had to create a spreadsheet for myself and I’m sharing it here in case other people like me find it helpful.

Spreadsheet: Solo 401k For Part-Time Self-Employment

This spreadsheet takes into account employment income, contributions to workplace 401k, and self-employment income. It calculates the maximum salary deferral contribution and the maximum profit sharing contribution I can make to my solo 401k plan.

If there is no day job, just set the day job related fields to zero and it will work for people who only have self-employment income as well. There are two tabs: one for an unincorporated business (sole proprietorship), the other for an incorporated business. As usual, use this and everything you find on this blog at your own risk, because I’m not a CPA.

I’m going to use Fidelity for my plan because I already have other accounts with them and their plan is free and flexible. Vanguard is going to offer a plan but it looks like they don’t allow incoming rollovers and there is no brokerage option.

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Comments

  1. Matt says

    Was wondering why I hadn’t seen this issue addressed in any of the personal finance blogs I read. Nice job filling the void! This is very helpful.

    Matt

  2. says

    Hi TFB, was very excited to see your spreadsheet, I thought I was the only one who created crazy things like this. I created one earlier in the year for a similar purpose (day job + part time job with solo 401k). My goal, however, is to maximize contributions in my solo 401k, since I have full freedom of investment choices there. Granted, it makes a bigger difference once you have more self employment income (I’m contributing 100% this year to my solo 401k, which is almost maxing it out) The OTHER wrinkle, though, is my day-job employer offers a match up to 5% of my contribution. So my goals are to maximize that match first, then the solo-k to the extent of self employment income, and then fill out up to my 15.5k overall limit. Like you, I’m not a CPA – but using your #s your calc’s check out with mine ;-)

    http://sheet.zoho.com/public/abenke/2008-retirement-contributions-planning-web

  3. says

    Alex – Thank you for cross-checking the calculations. There’s a slight difference between your spreadsheet and mine. Using the default numbers, if you make the employee salary deferral $743.48, then the maximum employer profit sharing is only $92.94. You can’t make the full 20% profit sharing contribution because it has to be no more than one half of the “Adjusted Net Business Profit after Elective Salary Deferral” (line 6 in Schwab’s worksheet). If you want to keep the 20% profit sharing, then the employee salary deferral to solo 401k has to be no more than $557.61.

  4. Susan says

    Thank you so much. I have been laboring over the Fidelity worksheet but wasn’t entirely sure it was correct, since I also fall into the part-time category you outline. Your worksheet is a whole lot easier…and the numbers came out the same — even better! Thanks!

  5. Brad says

    Why do a solo 401k, when you could just do a SEP-IRA instead. You can put away even more in a SEP-IRA than a 401k, without all the administration headaches, etc.

    You can put away up about $49,000 (25% of $196,000)… Something like that.

    I suppose if your income is such that you want to put away $16,500 (in 2009) into a 401k, but you make less than 4x or 5x that (25% or 20%), then possibly the headaches of a 401k would be worthwhile.

    I don’t think there is any limitation of SEP-IRAs if you are also covered at work (but maybe I’m wrong about that, in which case, you’re right–and never mind! ;-)

    Cheers,
    Brad

  6. says

    Brad – No you cannot put away even more in a SEP-IRA than a solo 401k. At most you can contribute the *same* amount in a SEP-IRA, but not more.

    The limit on the employer profit sharing side is exactly the same between SEP-IRA and solo 401k. There is no salary deferral in a SEP-IRA, while there is salary deferral on top of employer profit sharing in a solo 401k. That’s the difference.

    If you max out 401k at work, SEP-IRA and solo 401k give you the same maximum. If your work 401k isn’t that great, you can get the match and do the rest in your own solo 401k. You don’t have that option with a SEP-IRA. In addition, you cannot use a SEP-IRA as a safe haven for your other IRA money for the purpose of converting to Roth IRA in 2010 and thereafter.

  7. Brad says

    Right you are. I assumed the limit on a solo (individual) 401k was the same $16.5k as for a corporate 401k. But they’re different. A “corporate” is really a W-2 401k, then you can also contribute 20% or 25% on top of that. So as you say, a solo or individual 401k allows even higher contributions if you have both a W-2 and a proprietorship/Sched C business (if you want to do the paperwork–though SEP paperwork isn’t that simple either, but in both cases a trustee like Schwab or whoever does most of the work for you).

    Thanks for the info!

    Useful link: http://www.sepira.com/sep_ira/sep-or-401k.htm

    I’ll spell it out in case your security strips it: sepira.com/sep_ira/sep-or-401k.htm

  8. john czerwonka says

    OK. I’m not a techie guy, so I apologize for what might seem like a “dumb” question. I’ve found the spreadsheet to calculate a solo 401-K contribution and it’s very helpful. However, I can’t figure out how to save it or print it on my computer. If I use the file save, and try to open it’s unreadable. And, if I simply use file/print it only prints half the page. I subscribed to Zoho (whatever that is) hoping it would allow me to save and print the spreadsheet, but I have no idea how to do that. Can any one help?

  9. Academic says

    Fantastic post. As an academic, I contribute to both my 403(b) and 457. I also have some self-employed income from part-time consultancy, so I recently opened a solo 401(k).

    If I’m not mistaken, the 403(b) and 401(k) are pooled together for the purpose of the deferral limit, and the 457 is separate.

    So if I got the numbers right, one can potentially defer $16,500 (for the 457) plus $49,000 (401k + 403b) for a total of $65,500.

    And the 50+ crowd can potentially defer an additional $5,500 on their 457 for a grand total of a $71,000. WOW!

  10. MTXB says

    Please excuse my ignorance here but you’d need to set up Solo 401k ONLY if you have non-deductible IRA and traditional IRA (401k rollover) together. You don’t need to set up solo 401k if you ONLY have traditional IRA (401k rollover from previous job)?

  11. catlady says

    Possibly dumb question, but I cannot find an answer anywhere.

    What if you work part-time and are not eligible for the 401K at work at all, but you also have freelance work on the side.

    Now, let’s say the freelance work does not make much more than a pittance (~1,100 gross per year, on average, with some years better).

    If you open a Solo 401K, could you use some of your wages from the part-time job to fund it? Or can you only use your earnings (gross or net) from the freelance work to fund it?

    Again, not eligible for 401K at “day job.” But would like to use some “day job” wages to help fund the Solo 401K for the freelance work. Possible?

  12. catlady says

    Never mind. I think I get it now. The max. to the solo 401K is only from self-employment income. I can use an IRA (traditional) to save on taxes/save for retirement from my part-time job (for which I am not 401K eligible).

  13. sep 401k student says

    Trying to decide if the Sep 401k plan is the best option for me. Very much appreciate the information I always find here.

  14. Will says

    This is a great worksheet – wish I had found it sooner! Does this mean I can’t contribute in the first year when my part-time business doesn’t show a profit? I understood that I could contribute under the salary deferal even if the net business profit was zero…

  15. says

    Will – It depends on how your business is structured. If it’s a C-Corp or S-Corp and you are getting a salary, you can contribute as an employee from the salary, and the business can also contribute up to 25% of that salary. If it’s a sole prop, the contribution is only based on net business earnings.

  16. Will says

    TFB – thanks for the info! I guess I’ll have to deal with an inadvertent over-contribution now. Ooops.

  17. SS says

    TFB, Hate to dig up this old thread, but I think this spreadsheet might no longer be accurate for 2011 (and possibly 2010). The reason is that the employer portion of the SE tax is 7.65 while the employee portion is 5.65, because of the reduction in SS tax. So, wouldn’t the half of SE tax need to be recalculated? Or am I off base here. I can’t believe this is this hard to figure out!

  18. Will says

    TFB – Shouldn’t the max profit sharing on line 31 be adjustable too? Or is that not self-determined? I thought you could contribute up to 25%. How is line 31 calculated?

  19. says

    Will – The maximum is just that, the maximum allowed by law. You can contribute less than the maximum if you’d like.

  20. KS says

    I’m having trouble with the spreadsheet, getting a $0 amount for profit sharing, if I put any number less than $22,000 in line 20.

    Is this because if I contribute less than allowed to my day job 401k I SHOULD not do any profit sharing contribution, or is it because I CAN NOT do profit sharing.

    I plan to open a solo 401k this year based on a small sole proprietorship income. But I also max out my employer’s 401k, and my income is above the SS wage base.

    I was under the impression that I could still make a profit sharing contribution to myself as long as I had net profit.

  21. says

    KS – If you are under 50, set line 17 to 0. If you are not maxing out your day job 401k, the spreadsheet first allocates the allowable contributions as employee contribution to the solo 401k. It’s possible to prioritize employer contribution over employee contribution but when you are both the employer and the employee, whether it’s employee contribution or employer contribution doesn’t really matter much.

  22. KS says

    I submitted the paperwork to open an solo 401k with fidelity, and today I see online a new account called “profit sharing keogh”. The representative said this was their solo 401k, but he was reading from a script, and he was clearly very new. I didn’t have time yet to call again, but I will send them an email.

    tfb, did you have the same experience with fidelity? I was able to find one other person on the web who had the same “keogh” experience and was concerned they were different than a solo401k, , but it did not mention the outcome/resolution.

    KS

  23. says

    KS – Don’t worry; that’s the one. Keogh is a name for any plan for the self-employed. Your 401k plan is a profit sharing plan with a salary deferral (401k) feature. So “Profit Sharing Keogh” is actually an accurate description. You can rename the account to anything you want. Go to the account history page, then click on the “Name This Account” link.

  24. KS says

    thanks tfb, the fidelity rep was less than confident about his answer, but it makes sense. And thanks for the tip about renaming the account, I didn’t realize I could do that, but then again, have never had a reason to. :)

  25. SM says

    TFB – thanks so much for this SS. I am starting my solo 401(k) plan today and came across this when trying to determine maximum amounts to contribute and this helps simplify things a TON. From what I understand, a spouse/partner can also contribute to the solo 401(k) if they earn income from the side-business. Would it be possible to add that calculation in and show what the most effective salary distribution should be to maximize tax deferral , as an option for people who have spouses (mine is not employed at all) and are looking to reach the maximum deferral? Thanks again for providing such a great resource!!

  26. Andy says

    This is helpful thanks. Yes, I think this is an issue many people are dealing with, if things were more clear perhaps even more people would use Solo 401k. One other issue worth noting is the Roth/non-roth solo 401k balance. It looks like you can only go with Roth for the Salary Deferral part. It’s nice to have both a Roth and Non-roth solo401k so that you can control your taxable income and thus your cash flow around April 15 (and of course better plan for your future tax burden).

    I don’t really get the technology behind the spreadsheet. I can’t see the formulas. Is this user error or by design? Backwards engineering based on value is no fun. Helpful if it were MS Excel.

    Thanks again.

  27. says

    Andy – It’s true you can only do Roth for employee contributions. Employer contributions must stay traditional. However I’m not a big fan of Roth 401k. See my post The Case Against Roth 401(k). If you have a decent amount of income, I think the traditional 401k still works better.

    Protecting the formulas is by design.

  28. Rommel says

    I’m wondering why the computed ‘Maximum Salary Deferral from self-employment’ is zero regardless of whatever amount you place under Net Business Profit from self-employment. Is this the ideal setup, especially if your self-employment income is minimal?

  29. says

    Rommel – The maximum salary deferral, i.e. the employe contribution will be zero if you are already maxing it out at the day job (cell B20 for unincorporated or B15 for incorporated). Whether it’s the ideal setup depends on your goal. It’s ideal for me.

  30. Choy says

    I’m not sure if the spreadsheet is wrong or if I’m misunderstanding something. Is the maximum employee deferral per year $17,000 (2012) for an employer 401k and solo 401k COMBINED? From my understanding, it is.

    The spreadsheet however, gives me $5,000 salary deferral under the summary header when I enter $50,000 gross wages, $17,000 contribution to employer plan and $10,000 for side business income.

    I definitely agree that there should be more resources on the internet for people in situations like ourselves. Thanks for writing this post!

  31. says

    Choy – If you are under 50, the line for age 50+ catch-up contribution should be set to zero. I see it’s easily missed. I will make a change to make it clearer.

  32. Raghu says

    Harry
    This is a really really useful calculation! This not only useful for part-timers. It is very relevant for me since I left job in mid-2012 and I started Solo 401K. So I have a W-2 (with 401K savings) from my previous job and earnings from self-employment. Just few thoughts to make it better (again, just my 2 cents, worth) -

    1. In Line 19, when you refer to “Gross wages”, it might help if you are referring to Box 1 or Box 3/Box 5 of the W-2. I am assuming you meant Box 3/Box 5 since you will be calculating payroll taxes and you do not want to include the 401K savings.
    2. I am probably missing something simple, but why are you calculating “20% of Line 29″ as Maximum contribution. I thought the maximum was 25% ? EDIT – It is 20% for a Single member LLC. Got it!!

    Thanks again. This is an excellent resource!

  33. Raghu says

    Harry,
    I am not sure if I am doing something wrong but in your calculator, line 28 is exactly half of the total self-employment but shouldn’t you just deduct the employer-portion (which isn’t exactly half in 2012). That might throw off the numbers a bit. You will deduct more (since employer’s share of SE axes are more in 2012) bringing the total profit smaller (line 31) and the total Solo 401K contribution slightly smaller.

    Since I will be contributing less than what is calculated here, I am not too worried but I thought it would be a good academic exercise for me to ask.

    Am I missing something else?

    Thanks again.

  34. says

    Raghu – Good catch. That 2% payroll tax holiday throws a few things off. For 2012, it should be 59.6% of the Social Security tax plus half of the Medicare tax. Then in 2013 it goes back to half and half. I’ll fix it right now!

  35. Felix says

    Thanks for this great tool. Been using it for years.

    However, for those of us over 50, I believe the salary deferral limit should be $23,000, not $24,000, derived from $17,500 + the over-50 catch-up of $5,500 (not $6,500… the latter is the IRA limit for those 50+), for a total of $23,000. Thoughts?

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