When you own a small business or freelance, paying yourself first for retirement is a solid strategy. But, it’s not always easy. Economic downturns may tempt you to put saving on hold. Even if you only put away a little in the short-term, every dollar adds up and keeps you in the saving habit. As conditions improve, you can jump back into saving mode. Remember tax breaks, like catch-up contributions, for people 50 and over can help make up for leaner saving periods.
Generally, pre-tax or Roth 401(k) contributions are limited to $6,000 a year in 2019. Those older than age 50 can also have $6,000 in catch-up contributions. But with a solo 401(k), you can pile up as much as $62,000 annually for those older than age 50, plus $6,000 in catch-up contributions ($56,000 for those under the age of 50), setting yourself up better for retirement and cutting your taxes — possibly so much that you lower your tax bracket, explains Scott Alan Turner, a personal finance expert and host of the Financial Rock Star podcast.
What is a solo 401(k)? It’s a retirement saving option for anybody who has self-employment income. "You don’t need to be self-employed full-time to take advantage of a solo 401(k), however, you cannot use this account if you have any full-time employees, other than your spouse," says David Weliver, a personal finance expert and editor at MoneyUnder30.com.
The reason a solo 401(k) is so appealing to self-employed people is that in funding it you’re acting as both the employer and the employee, which allows you to contribute much more to the account than most employers will contribute for their employees.
You’ll even have some flexibility as to when you need to come up with your contributions. For the employer portion of your contribution, you must deposit the money by the tax-filing deadline of the business, says Turner. However, the employee contribution depends on the structure of the business. Sole proprietor or single or multimember LLCs must elect to contribute by December 31. "S-Corp and C-Corp contributions are generally done through payroll deductions within 15 days of the period in which you are paying yourself. If the company does not use a payroll company, the employee can make contributions at any time during the year," explains Turner.
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Any information regarding taxation contained herein is based on our understanding of current tax law. The tax and legislative information may be subject to change and different interpretations. We recommend that you seek professional legal advice for applicability to your personal situation.