Are you eligible for a solo 401(k)? How to know if you qualify and what to do next

Just because you left the security of a full-time job does not mean you need to forgo saving up for retirement. 

In fact, there are several options available to entrepreneurs and freelancers looking to continue to save for their future. You may have heard of a SEP IRA, but did you know that there’s also a 401(k) plan for self-employed individuals?

A solo 401(k) (also called an individual 401(k), one-participant 401(k), or Uni-K plan) is a special type of retirement savings account made available to self-employed individuals. This plan can also be available to the spouse of the owner. Not everyone, or every entity, can have one though. In this article, we’ll examine the eligibility requirements and rules for a solo 401(k) account to help you determine if this is the right choice for you.

What is a solo 401(k)?

Like an employer-provided 401(k), a Solo 401(k) plan allows you to save for your retirement, invest, and reduce your taxable income. 

A Solo 401(k) is a retirement plan geared specifically toward the unique needs of self-employed individuals and micro-business owners. One of its most appealing features is that it permits an enrollee to wear two contributor’s hats: one as an employee and another as an employer. Under the right circumstances, even the spouse of a participant can contribute to a Solo 401(k) since the spouse of the owner is also considered an owner.  The main thing to keep the plan under its Solok status is the employer should have no employees that are a nonowner. Another term for that is the employer does not have any rank-and-file employees.  

Solo 401(k)s are one of the best options for solopreneurs and self-employed individuals, but the requirements can be a bit fuzzy for some. Let’s explore them in-depth to see if you qualify.

Who qualifies for a solo 401(k)?

There are two requirements to be eligible for a solo 401(k):

• You must be self-employed, either full-time or part-time, and actively earning income

• You cannot have any full-time employees (with the exception of a spouse and other partners)

Whether you are a sole proprietor, an LLC, or a corporation, if you meet these requirements then you are eligible for a solo 401(k) plan. While these requirements may seem simple on the surface, there is a bit to unpack so let’s explore them further.

What constitutes being self-employed?

If you are earning income from providing a product or service then this counts as self-employment income and (if you meet the requirements), will make you eligible for a solo 401(k). 

This makes a solo 401(k) plan a great option for:

• Sole proprietors

• LLCs

• S corps and C corps

Some examples of entrepreneurs:

• Consultants 

• Freelancers

• Independent real estate agents or flippers

• Attorneys

• Care providers

• And other business owners

As long as you are actively earning income (passive income, such as earnings from a rental property or investments does not count), then this fulfills the requirement of being self-employed. This means the employer has earned income. 

What constitutes full-time employees

The other requirement is that you cannot have full-time employees, though a spouse can be an exception since the spouse by virtue of marriage is considered an owner 

You are allowed to have employees though as long as they do not work more than 1,000 hours per year. Employees under 21 years of age, union members, and non-resident aliens will also not impact your eligibility. An additional provision that the Secure Act 2.0 recently passed is as long as the business does not employ part-time employees who have attained 2 years of service with 500 hours the business can maintain a Solok plan.  

What disqualifies someone from being eligible for a solo 401(k)?

If you fail to meet the above criteria, you will not be eligible for a solo 401(k). One of the features of a Solok plan is since there are no rank-and-file employees, the owners are not limited by nondiscrimination tests typically 401(k) plans are subject to. It’s a bit more nuanced than that though, so let’s break things down a bit. 

If you:

• Only earn passive income

• Have full-time employees who work more than 1,000 hours in a year or part-time employees who work 500 hours for 2 years 

• Are you an owner, or is your spouse an owner, of a separate business with full-time employees

Then you will not be eligible for a solo 401(k). While it can be a bit of a gray area, the rules are simple. If you do not qualify then there are plenty of other options to fund your retirement, though if you do qualify keep reading to see how you can open up a Solo 401(k) account. 

Example scenarios for a Solo 401(k)

If you’re still hazy about whether or not you would qualify for a solo 401(k), here are a few real-world scenarios to illustrate the requirements.

Yes, you would qualify

• John works for a SaaS (software as a service) company as a software engineer and is building a side project on nights and weekends. He hired a part-time marketer who works 10 hours per month. 

• Susan left her job at McKinsey and now works as an independent consultant. She works on her own and has no cofounders.

• James launched a website on Shopify selling environmentally friendly household products. He has several 1099 employees to handle inventory and customer support, while his wife works full-time as a sales executive.

No, you would not qualify

• Sandra launched a vintage shop on Etsy and works on that full-time. Her husband runs a digital marketing agency with five full-time employees. Sandra does not qualify because her husband owns a business with full-time employees.

• Rachel was a software executive and retired early after her company was sold, she now earns money by investing in real estate. Rachel does not qualify because she is making money from passive income, which does not qualify as earned self-employed income.

Can you have a solo 401(k) plan and a full-time job?

Being an employee of another business does not disqualify you from being eligible for a solo 401(k) account. This applies even if you participate in the 401(k) account provided by your employer. 

This can be especially advantageous because of the limits. As of 2023, 401(k) plans have a contribution limit of 22,500 ($30,000 if you are 50+), while a solo 401(k) plan allows you to contribute up to $66,000 and $73,500 if you're aged 50 plusAssuming, of course, your income will support the contribution. 

So if you are bumping up against your contribution limit from your full-time job and have a side hustle, then opening up a solo 401(k) and putting your side hustle income into that is a great way to save more and reduce your taxable income. Keep in mind however that the employee contribution limit is combined for all plans you participate in ($22,500 and $30,00 if your age is 50 or older)

Do you qualify for a solo 401(k)? Here’s what to do next

If you make a living as a one-person business, whether you are a freelancer, LLC, or S corp, a solo 401(k) is an excellent way to reduce your taxable income and save for retirement.

Not only is a solo 401(k) a great way for entrepreneurs to save, but it can also be advantageous to those with full-time jobs who are at risk of hitting the contribution limit for their employer-provided 401(k).

Start saving and build your wealth today. You can open an account in minutes online with the Sepira(k) platform. Browse our plans and start saving for your future today.