The Solo 401(k) is a fantastic retirement plan for self-employed entrepreneurs.
Because a Solo 401(k) is designed for an owner-only business, it provides the savings power of a 401(k) in a simple to operate format. With high contribution limits, the potential for tax-deferral or tax-free Roth savings, and participant loans, there sure is a lot to like.
But what if you have more than one source of self-employment income? Or what if both you and your spouse have separate self-employment? Does that mean you need multiple plans? That sounds complicated.
Actually, a Solo 401(k) can be shared by multiple related employers. For some investors, this can create a really nice package.
Owner-Only 401(k) Plan
Solo 401(k) is one of many marketing names that has been given to what is technically best described as an “owner-only” 401(k). Common names include Individual 401(k), Single 401(k), Uni-K, and the like. The IRS even confuses matters by using One-Participant 401(k) as their primary name.
The bottom line is that this simplified version of a 401(k) is designed for owner-only businesses. The lack of non-owner employees is what brings administrative simplicity to the Solo 401(k).
If a business has any full-time employees working more than 1,000 hours per year, those employees must be provided plan benefits and a Solo 401(k) is no longer available. Similar restrictions apply for a business that has long-term part-time employees working more than 500 hours per year for 3 consecutive years starting in 2021.
There are many configurations where a Solo 401(k) can have more than one participant, as we have discussed elsewhere.
It is also possible that more than one owner-only business can act as a plan sponsor for a Solo 401(k).
No Employees in Related Businesses
If you have a qualifying owner-only business, you still may not be eligible for a Solo 401(k). If you or your spouse have other businesses with eligible employees, that can make your qualifying business ineligible. All businesses within a related service group or control group of shared ownership are looked at as one for purposes of benefits coverage.
Many different business types can sponsor a Solo 401(k), including sole proprietorships, LLCs, partnerships, S-Corporations and C-Corporations.
The key consideration is that there must be a business activity that generates earned income such as a 1099-NEC, schedule C, or W-2.
Passive earnings such as rental income, capital gains, or shareholder dividends on a K-1 do not count as earned income and are not eligible for sponsoring or contributing to a Solo 401(k).
Multiple Employer Examples
If you and/or your spouse have multiple businesses that qualify for a Solo 401(k), they can establish a single plan jointly.
One business acts as the primary employer and takes the lead with respect to plan administration and compliance matters.
One or more additional businesses can act as a “Participating Employer” and sign on to the plan.
This allows a person with more than one business to tap the income from multiple sources for purposes of making plan contributions.
The multi-employer format also allows for spouses to share a single plan even if they each have their own separate business.
Following are a few examples to illustrate the potential:
- Emily is a sole proprietor as a therapist and also has an LLC through which she runs a seasonal craft business at farmer’s markets.
- Eric has a S-Corporation for software development. His wife Jade is a CPA and operates using a professional corporation.
- Linda and Raphael have a partnership as architects. Raphael also referees basketball and has 1099 sole proprietor income.
- Victor has two separate LLCs for different internet storefront ventures.
How Contributions Work
Making plan contributions in a multiple employer plan can be complex. Be sure to consult with your licensed tax counsel to handle this topic properly.
If one person has multiple businesses that all have pass-through tax treatment, the income is essentially lumped together for purposes of making contributions. The resulting amount will need to be allocated to all relevant schedule C forms in proportion to the respective income of each business.
If there are businesses with different income treatment, such as a sole proprietorship and a corporation where compensation is issued on a W-2, care needs to be taken to allocate contributions across the businesses appropriately.
When two individuals have their own separate businesses, they each look to their own income for purposes of making contributions.
Under no circumstances should a single plan participant exceed their salary deferral maximum, which in 2021 is $19,500 for those under age 50 and $26,000 for those age 50 and older. This limit is shared across plans, so if you have a Solo 401(k) and also have a separate 401(k) from an employer other than yourself, you need to stay under this limit in the aggregate.
Employee salary deferrals are elective. Each participating owner can choose to contribute or not, in any allowable amount without consideration for how other participants contribute.
If profit sharing contributions are made, all eligible participants must take the same percentage based on their individual compensation.
Investing In a Plan with Multiple Participants
While it is necessary to independently track the respective savings of each participant in a plan, it is not required that you invest separately.
Any investment is made by the plan, and the transaction counterparty does not see that funds belonging to Michelle or James are being used.
On the back end as plan trustees and administrators, Michelle and James need to document how each investment is funded. They can choose to invest separately into different opportunities, or they can choose to pool their funds into a single deal.
We have explored this topic in detail in a prior article.
The multiple employer Solo 401(k) can help maximize plan benefits for those investors who have more than one form of self-employment.
With the ability to tap more sources of income for plan contributions, and to pool savings with your spouse for purposes of investing, you can get more out of your retirement savings.