When a SIMPLE IRA may be better than a SEP IRA and a Solo 401(k)

In our last post, we reviewed some of the key differences between a SEP IRA and a Solo 401(k) for business owners with no employees (if you have 1099 income from a side gig, this includes you). In some cases, a SIMPLE IRA may be a better option than a SEP IRA and a Solo 401(k), (hint…it depends on how much income you make!).

So, what is a SIMPLE IRA? The Savings Incentive Match Plan for Employees is available to sole proprietors, partnerships, C corporations and S corporations. This article focuses on those of you who have no employees, except for a spouse.

As the employee, the contribution limit for a SIMPLE IRA is 100% of income up to $13,000 if you are under age 50 and $16,000 if you are over age 50 ($13,000 Employee Contribution + $3,000 Catch-up Contribution, click link for latest contribution limits). Additionally, as the employer, you can contribute another 3% of your compensation up to $5,600. This doesn’t come close to the contribution limit of $56,000 ($62,000 if you are over age 50) for a SEP IRA or Solo 401(k). Then, when is a SIMPLE better?

The SEP IRA and Solo 401(k) have a 25% of compensation limit. The SIMPLE IRA does not. If you earn less than $65,000 ($80,000 if you are over age 50), you can contribute more to the SIMPLE, since you are not limited to the 25% of compensation rule.

For example, if you earn $50,000 from your business or 1099 side gig income, here is a comparison of what you can contribute to a SEP IRA and a SIMPLE IRA.

Comparison of eligible contribution at $50,000 of Net Business Profit* 
 Under age 50Over age 50
Employer Contribution$9,294$1,353$9,294$1,353
Employee Contribution$0$13,000$0$13,000
Catch-up Contribution$0$0$0$3,000
Total Contribution$9,294 $14,353 $9,294 $17,353

*Net business profit is the total revenue of the business minus all expenses; form Schedule C, C-EZ or K-1.

What about a Solo 401(k)? If this is income from a side gig and you’ve already maxed out the employee contribution for a 401(k) elsewhere, then you cannot contribute as an employee to your Solo 401(k). The employer contribution calculation is then the same as the SEP IRA with the same 25% of compensation limit. 

If you have not already contributed to another 401(k) elsewhere, then the Solo 401(k) will allow for higher contributions than the SEP IRA and the SIMPLE IRA. 

As always, please seek professional tax advice before opening and funding a retirement account.  If you have additional questions, please call us at Wingate Wealth Advisors at (781) 862-7100.

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