Solo 401(k) vs IRA

ahalpert

ahalpert

Major Contributor
Fellow self-employed people, is there any reason to use both an IRA and a solo 401(k) rather than just a solo 401(k)?

My impression is that IRAs are easier to set up and offer a slightly broader selection of investment vehicles. But if I plan to save more than my IRA maximum contribution limit, I would need to set up a 401(k) anyway.

My understanding is that solo 401(k)'s used to have high fees, but that they're now cheap or even free. I think that their contribution limit is high enough that I wouldn't personally need another savings vehicle. And I'm basically planning on putting it all in the s&p 500 and bonds, so I think they offer all the investment options I would need.

Why would I want an IRA in addition or instead? Am i missing something?
 
I don't think you are missing anything. One big advantage (unlikely scenario) of 401ks is that they cannot be garnished by courts in a lawsuit. IRAs can. If someone goes after you for some reason, your 401k is safe. In California, if your 401k is transferred to an IRA, that is also protected. (that's old information. I'd re-look into this if it's important to you).

I've never concerned myself with fees, well, mostly. The investment advisers make a big deal about this, but for the most part, I've not seen this as an issue. Packing money away as fast as you can is what is important and a 401k allows you to pack more money away.
 
I believe your terms are off. 401k is for employees of a business where as self employed is self directed. Within in that you can choose whether you want taxes taken out before or after. In my experience it safest to invest in an index stock fund that tracks the market.
 
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Hey Abe,

Look into a SEP it's good for self employed people. I have had one for 20 years... You can put up to 25% of your year's compensation, maxing out at $66,000 for 2023. It's pre-tax dollars that grow tax free and when you retire and withdraw the money the taxes you pay should be at a lower tax bracket, and you get to write it off your personal tax return for 2023.

You have until April 15th to setup a SEP account and make the contribution with a brokerage firm like Fidelity or Vanguard.

Jeff
 
^ Agree with jcadge. I've had one for about 15 years now. And they are super easy to set up... if you already have / are using a planner - they can probably do this for you.
 
Peter C. said:
I believe you’re terms are off. 401k is for employees of a business where as self employed is self directed. Within in that you can choose whether you want taxes taken out before or after. In my experience it safest to invest in an index stock fund that tracks the market.
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Self-employed people can set up a "solo 401(k)"

what the IRS calls a one-participant 401(k). Designed for self-employed workers, a solo 401(k) mimics many of the features of an employer-sponsored plan...

As the employee, you can contribute up to $20,500 in 2022, or 100% of compensation, whichever is less

As the employer, you can make an additional profit-sharing contribution of up to 25% of your compensation or net self-employment income,
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https://www.nerdwallet.com/article/investing/what-is-a-solo-401k

you can contribute up to $61k in 2022 if your net self-employment income is high enough
 
jcadge said:
Hey Abe,

Look into a SEP it's good for self employed people. I have had one for 20 years... You can put up to 25% of your year's compensation, maxing out at $66,000 for 2023. It's pre-tax dollars that grow tax free and when you retire and withdraw the money the taxes you pay should be at a lower tax bracket, and you get to write it off your personal tax return for 2023.

You have until April 15th to setup a SEP account and make the contribution with a brokerage firm like Fidelity or Vanguard.

Jeff
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Thanks, Jeff. The "simplified" part of SEP certainly sounds appealing.

The one reason I would lean towards a solo 401(k) is that my aspiration is to save 25% of my business gross, which would be more than 25% of my net income after deductions. I'm not sure if I can put that much away per year, but in a good year it may be feasible and would raise my average savings rate taking into account the lean years.

The solo 401(k) lets me put away 25% + $20k, which should let me hit my target.

That being said, apparently i needed to set up my solo 401(k) last calendar year in order to make an employee contribution for 2022.

Maybe I should set up a SEP IRA for now and consider switching to a solo 401(k) later if I can actually exceed my contribution limits.

I'm not working with a planner, but it seems like the account tools are accessible online and i don't mind doing it myself so i can understand it better and save on fees. Unless you guys think that's a bad idea.
 
ahalpert said:
Self-employed people can set up a "solo 401(k)"



https://www.nerdwallet.com/article/investing/what-is-a-solo-401k

you can contribute up to $61k in 2022 if your net self-employment income is high enough
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That's a dumb article trying to turn a phase.
In the United States, a 401(k) plan is an employer-sponsored, defined-contribution, personal pension account, as defined in subsection 401(k) of the U.S. Internal Revenue Code. Periodical employee contributions come directly out of their paychecks, and may be matched by the employer.
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That being said we are arguing semantics but it's not accurate to call it a 401k.
 
ahalpert said:
I'm not working with a planner, but it seems like the account tools are accessible online and i don't mind doing it myself so i can understand it better and save on fees. Unless you guys think that's a bad idea.
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Advisers read the same material you do and then pass it on to you for a fee. ........ Being happily retired, looking back, I have some animosity towards advisers (as you have probably read in my previous posts). I did all my investing on my own. But I have to say that my sister did exceptionally well using a financial advisor. I'm thoroughly impressed with how well she and her husband did using a financial advisor.

So there you have it Abe; advisors may or may not suck. I hope I helped.
 
Paul F said:
Advisers read the same material you do and then pass it on to you for a fee. ........ Being happily retired, looking back, I have some animosity towards advisers (as you have probably read in my previous posts). I did all my investing on my own. But I have to say that my sister did exceptionally well using a financial advisor. I'm thoroughly impressed with how well she and her husband did using a financial advisor.

So there you have it Abe; advisors may or may not suck. I hope I helped.
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On the positive side financial advisers you pay are more trust worthy because there shouldn't be a conflict of interest where they are being paid like a salesman to get sell you on a financial product they get a commission. But for the most part you can do well investing early and on a regular basis in the stock market. The two important ingredients is time and diversification. Real estate is also but is a different animal all together.
 
Peter C. said:
That's a dumb article trying to turn a phase.

That being said we are arguing semantics but it's not accurate to call it a 401k.
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Well, the IRS refers to it that way as well:

A one-participant 401(k) plan is sometimes called a:
  • Solo 401(k)
  • Solo-k
  • Uni-k
  • One-participant k
The one-participant 401(k) plan isn't a new type of 401(k) plan. It's a traditional 401(k) plan covering a business owner with no employees
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https://www.irs.gov/retirement-plans/one-participant-401k-plans

Semantically tortured? Maybe. But hey, a rose by any other name would smell as sweet
 
Paul F said:
Advisers read the same material you do and then pass it on to you for a fee. ........ Being happily retired, looking back, I have some animosity towards advisers (as you have probably read in my previous posts). I did all my investing on my own. But I have to say that my sister did exceptionally well using a financial advisor. I'm thoroughly impressed with how well she and her husband did using a financial advisor.

So there you have it Abe; advisors may or may not suck. I hope I helped.
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Haha so I should definitely not use a financial advisor unless I should. That clears things up!

When you say that your sister did exceptionally well, do you mean that she achieved high rates of returns? I think I may be less concerned by that and more interested in low risk and being able to "set it and forget it." I like free money as much as the next person, but I don't particularly want to occupy my mind with my portfolio or risk making a bad bet.
 
Peter C. said:
At some point they changed their definition or verbiage so Han 401k Solo it is. Here a link to the actual differences
https://www.investopedia.com/retirem...-401k-and-ira/
This is where a financial advise helps because they know in's and outs of all this.
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The SDIRA looks like yet another option. The emphasis in that article seems to be exercising investment options beyond the typical (such as real estate or private companies) hence the "self-directed" part of the title.

Everything I read about the solo 401(k) describes it as having fewer investment options than a typical IRA. In practice, I'm not exactly sure what that means. But it seems like you can't invest it in a savings account and that the ETFs you can invest in are limited to what's offered at the broker you choose.
 
Looking into the QBI deduction... seems like it makes sense to max out a traditional IRA (which is possibly the only retirement savings account that can also take advantage of the QBI deduction) before putting the rest of your savings in a different type of account...
 
Some of the restrictions are there to protect you from yourself. Believe it or not you are often your own enemy. A couple of years ago I wanted to open a crypto IRA that was self directed. I'm glad I didn't because the company offering it went bankrupt. It's tempting to either try to time the market or go up the risk curve but these things often backfire. As a result they restrict what you can invest in for good reason.
 
ahalpert said:
When you say that your sister did exceptionally well, do you mean that she achieved high rates of returns? I think I may be less concerned by that and more interested in low risk and being able to "set it and forget it." I like free money as much as the next person, but I don't particularly want to occupy my mind with my portfolio or risk making a bad bet.
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They have a surprisingly good retirement income. I mean they are really comfortable. How they got there I don't know. But it was all due to using an advisor. So I don't have a good answer for you.

Set and forget is a great strategy. S&P 500 index fund is a good way to go. But.... that is not advice. So don't come to me if your strategy goes bust. :)

There is only one piece of advice I give. Do not put all your money in one brokerage nor one fund. Spread it around as much as you can. Big or small, investment companies go bust and so do funds. You might say "Well, Fidelity or Schwab is rock solid". So was Lehman Brothers. So was Bernie Madoff. So was the local financial guy at (fill in your favorite local, trusted investment guy from church). If you ever watched "American Greed" in the earlier episodes, if there is one thing it taught me..... ANYONE can be a fraud or go bust.
 
Peter C. said:
Some of the restrictions are there to protect you from yourself. Believe it or not you are often your own enemy. A couple of years ago I wanted to open a crypto IRA that was self directed. I'm glad I didn't because the company offering it went bankrupt. It's tempting to either try to time the market or go up the risk curve but these things often backfire. As a result they restrict what you can invest in for good reason.
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Sounds like you dodged a bullet!

yeah I have no problem with these restrictions. I really just want to invest in the s&p 500 etf's and bonds.

Do you happen to know anything about buying i bonds? What I read is confusing. Some places say that since you need an SSN to buy them, you can't purchase them with a retirement investment account. Elsewhere I read that you could do it with a 401(k) if you call it a trust and do things a certain way. But if inflation is coming down now, as I believe it is, then maybe I shouldn't worry about i bonds anyway and just buy regular bonds. Some CD rates look pretty good, too
 
Paul F said:
There is only one piece of advice I give. Do not put all your money in one brokerage nor one fund. Spread it around as much as you can. Big or small, investment companies go bust and so do funds. You might say "Well, Fidelity or Schwab is rock solid". So was Lehman Brothers. So was Bernie Madoff. So was the local financial guy at (fill in your favorite local, trusted investment guy from church). If you ever watched "American Greed" in the earlier episodes, if there is one thing it taught me..... ANYONE can be a fraud or go bust.
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Now you've got me spooked. But it looks like the Securities Investor Protection Act of 1970 provides some reassurances for securities accounts up to $500k. So, not as rock solid as FDIC but at least it's something.
 
ahalpert said:
Now you've got me spooked. But it looks like the Securities Investor Protection Act of 1970 provides some reassurances for securities accounts up to $500k. So, not as rock solid as FDIC but at least it's something.
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Oh good. I like spooking people.

Let me be a bit harsh Abe. You're going to trust your old age on "At least it's something"? Protect yourself. Take steps. Yes, there is some protection. In the case of Lehman Brothers, it took 14 years to make investors whole. Secured investors where made 100% whole while unsecured investors received 46 cents to the dollar. I don't know what secured and unsecured investors are.

But who can afford to wait 14 years? If you are 65 when your brokerage goes broke, you're going to wait until your 79 for your money?

""Lehman's demise taught that "a failure of a large financial institution should be avoided, but history tells us that it is inevitable," the brokerage's trustee James Giddens said in a statement.""
 
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