Solo 401(k) vs. SEP IRA: Which Fits Your 1099 Income

If you earn 1099 income, you can save for retirement through either a Solo 401(k) or a SEP IRA. Both let you contribute far more than a standard IRA, but they work differently: a Solo 401(k) requires paperwork and ongoing administration, while a SEP IRA is simpler to set up and maintain. A Solo 401(k) lets you contribute as both employee and employer, up to a higher total. A SEP IRA lets you contribute a percentage of your net self-employment income, with a lower ceiling. The choice depends on how much you want to save, how much administrative work you're willing to do, and whether you might hire employees later.

Both accounts are tax-deferred, meaning contributions reduce your taxable income in the year you make them, and you pay taxes when you withdraw in retirement. Both have the same early withdrawal penalty: 10% plus income tax if you take money out before age 59½, with narrow exceptions. The real differences are in contribution limits, setup complexity, and what happens if your business grows.

Key Takeaways

  • A Solo 401(k) lets you contribute up to $69,000 in 2024 (or $76,500 if you're 50 or older), while a SEP IRA caps out at roughly 20% of your net self-employment income, with a maximum of $69,000 in 2024.
  • Solo 401(k)s require a written plan document and annual tax filing (Form 5500-N if your balance exceeds $16,000), while SEP IRAs need only a one-page SEP-IRA agreement and no annual filing.
  • If you hire employees, a Solo 401(k) can exclude them if they meet certain rules, but a SEP IRA must cover all may be able to access employees, which can become expensive.
  • Both accounts allow you to borrow against your balance (Solo 401(k) up to $69,000 or 50% of your balance, whichever is less; SEP IRAs do not allow loans), and both impose the same 10% early withdrawal penalty before age 59½.
  • You must open and fund a Solo 401(k) or SEP IRA by December 31 of the tax year you want to claim the contribution, though you can file an extension to April 15 of the following year.

Contribution Limits: How Much You Can Save Each Year

In 2024, a Solo 401(k) allows you to contribute up to $69,000 total (or $76,500 if you're 50 or older). This breaks into two parts: you contribute as an employee (up to $23,500, or $30,500 if 50+), and your business contributes as an employer (up to 20% of your net self-employment income after the self-employment tax deduction). The IRS adjusts these numbers annually for inflation.

A SEP IRA lets you contribute up to 20% of your net self-employment income, with a hard cap of $69,000 in 2024. Because the percentage is lower and there's no employee contribution component, most self-employed people with moderate income will hit a lower ceiling with a SEP IRA than with a Solo 401(k). For example, if you net $100,000 in self-employment income, a SEP IRA caps your contribution at roughly $18,600, while a Solo 401(k) could accept $46,500 or more.

Both limits reset each January 1. If your income varies year to year, you can contribute different amounts each year — a Solo 401(k) and SEP IRA both allow that flexibility. You do not have to contribute the maximum; you can put in less if cash flow is tight.

Setup, Paperwork, and Ongoing Administration

Opening a SEP IRA is the simpler path. You fill out a one-page SEP-IRA agreement (Form 5305-SEP or your provider's version), sign it, and fund the account. No IRS filing is required. You can open a SEP IRA as late as the tax-filing important date (April 15 of the following year, or October 15 if you file an extension) and still claim the contribution on that year's return.

A Solo 401(k) requires a written plan document that spells out the rules for contributions, withdrawals, loans, and what happens if you leave the business. You must adopt the plan by December 31 of the year you want to use it (though you can fund it as late as your tax-filing important date). If your Solo 401(k) balance exceeds $16,000 at the end of any year, you must file Form 5500-N with the IRS annually — a small additional tax form, but one that requires accuracy.

Some providers offer pre-approved plan documents that simplify the process, and some charge annual maintenance fees ($50 to $300 depending on the provider) to handle the filing. A SEP IRA typically has no annual filing requirement and lower or no maintenance fees.

What Happens If You Hire Employees

This is where the two accounts diverge sharply. With a Solo 401(k), you can exclude employees who work fewer than 1,000 hours per year, are under 21, or have been employed for less than one year. This means you can keep saving aggressively in your Solo 401(k) even if you bring on part-time help. However, if an employee meets all three criteria, you must include them in the plan and contribute on their behalf — which can become expensive if you have multiple full-time staff.

A SEP IRA has no exclusion rules. If you hire anyone, you must contribute the same percentage of compensation to their SEP IRA as you contribute to your own. If you net $100,000 and contribute 20% to your SEP ($20,000), and you hire an employee earning $40,000, you must also contribute 20% of their salary ($8,000) to their SEP IRA. This obligation applies to all employees who have earned compensation in at least three of the past five years and earned at least $750 in the current year. For many self-employed people, this makes a SEP IRA impractical once they hire staff.

Loans, Withdrawals, and Early Access

A Solo 401(k) allows you to borrow against your balance. You can borrow up to $69,000 or 50% of your vested balance, whichever is less, and you must repay it within five years (with some exceptions for home purchases). The loan is not a taxable event, and you pay interest to yourself. A SEP IRA does not allow loans under any circumstance.

Both accounts impose a 10% early withdrawal penalty if you take money out before age 59½, plus you owe income tax on the withdrawal. Exceptions exist — substantially equal periodic payments (SEPP), disability, medical expenses over 7.5% of adjusted gross income, and a few others — but they are narrow and require careful calculation. At age 59½, you can withdraw without penalty, though you still owe income tax.

Both accounts require you to begin taking withdrawals (called required minimum distributions, or RMDs) at age 73, based on your life expectancy and account balance. The IRS publishes tables to calculate the minimum each year.

Tax Treatment: Deductions and Withdrawals

Contributions to both a Solo 401(k) and a SEP IRA reduce your taxable income in the year you make them. If you contribute $30,000 to either account in 2024, you deduct $30,000 from your 2024 income, lowering your federal income tax bill. You report the deduction on Schedule C (self-employment income) or Schedule 1 (other income), depending on your business structure.

When you withdraw money in retirement, you pay federal income tax on the full amount at your ordinary income tax rate. If you withdraw $50,000 in a year when you're in the 22% tax bracket, you owe $11,000 in federal tax on that withdrawal (plus any state income tax). Neither account offers a way to withdraw contributions tax-free, unlike a Roth IRA.

If you have both a Solo 401(k) and a SEP IRA, the contribution limits are separate — you can max out both in the same year, though doing so requires significant income. However, if you have a Solo 401(k) and a traditional IRA, the IRA contribution limit ($7,000 in 2024, or $8,000 if 50+) is reduced if your Solo 401(k) is considered an "active participant" plan, which it is.

Choosing Between Them: A Practical Comparison

Choose a Solo 401(k) if you want to save more than 20% of your net self-employment income, plan to hire employees in the future, or want the option to borrow against your retirement savings. The trade-off is annual paperwork and potential fees. Choose a Solo 401(k) also if your income is high enough that the employee contribution component ($23,500 in 2024) makes a meaningful difference.

Choose a SEP IRA if you want simplicity, have no plans to hire employees, and your income is moderate enough that 20% of net self-employment income meets your savings goal. A SEP IRA is faster to open, requires no annual filing, and has lower administrative burden. If you're uncertain whether you'll hire employees, a SEP IRA is riskier because adding staff later forces you to contribute on their behalf, which can be costly.

Some self-employed people open a Solo 401(k) and never use the loan feature or hire employees — they straightforward want the higher contribution limit. Others open a SEP IRA and later regret it when they hire their first employee. The decision should account for your current income, your growth plans, and your tolerance for paperwork.

Frequently Asked Questions

Can I have both a Solo 401(k) and a SEP IRA at the same time?

Yes, you can have both accounts open simultaneously, and the contribution limits are separate. However, this is rare because most people do not have enough income to max out both. If you do contribute to both, you must track each contribution carefully and may support you do not exceed the annual limits for each account type.

What if my 1099 income varies from year to year?

Both accounts allow you to contribute different amounts each year based on your income. In a high-income year, you can contribute the maximum; in a low-income year, you can contribute less or skip a contribution entirely. You do not have to contribute every year, and there is no penalty for contributing zero in a given year.

Can I roll a Solo 401(k) into a SEP IRA or vice versa?

You can roll a Solo 401(k) into a SEP IRA, but the reverse is not allowed. If you switch from a Solo 401(k) to a SEP IRA, you can roll the balance over tax-free. However, if you later hire employees, the SEP IRA will require you to contribute on their behalf, which may be more expensive than the Solo 401(k) was.

Do I have to open the account by December 31 to claim a contribution on this year's taxes?

For a Solo 401(k), yes — you must adopt the plan by December 31 of the tax year, though you can fund it as late as your tax-filing important date (April 15 of the following year, or October 15 with an extension). For a SEP IRA, you can open and fund it as late as your tax-filing important date and still claim the contribution on that year's return.

What happens to my Solo 401(k) or SEP IRA if I stop working?

Both accounts remain yours. You do not have to close them or withdraw the money. You can leave the balance invested and let it grow, and you must begin taking required minimum distributions at age 73 regardless of whether you are still working. If you pass away, the account passes to your beneficiary (or your estate if you named none).