Considering Opening a Self-Directed Solo 401(k) for 2021? The Timing Matters!
Self-Directed Solo 401(k)s are a great way for eligible nonemployer business owners to save on taxes by deferring till retirement. They can also help save for retirement in a self-directed and asset class-diversified way. The timing for adopting this kind of plan matters, however, so that the contribution methods can be fully maximized.
Depending on how the business is taxed and cashflow needs, time is running out for 2021.
Contribution types – the difference matters for timing
The Self-Directed Solo 401(k) allows for pretax contributions to be made two different ways: Salary Deferral and Profit-Sharing. Here is the 2021 contribution limit breakdown for each and how they are calculated.
Salary Deferral - With salary deferral, the account holder can contribute:
- 100% of net earnings from self-employment up to a maximum of $19,500.
- Those who are 50 years old or older qualify for the additional catch-up contribution of $6,500, bringing the salary deferral limit to $26,000.
Profit-Sharing - In addition to salary deferral, the account holder can also make a profit-sharing contribution:
- For those set up as an LLC, Partnership or Sole Proprietor, they can contribute up to 20 percent of their net earnings (**calculation below) from self-employment.
- Those set up as C-Corporations and S-Corporations can contribute up to 25 percent of their salary from self-employment.
Combined Limit - The contribution limit for the salary deferral and profit sharing, combined, cannot exceed $58,000 for those under 50 years old or $64,500 for those 50 years old and over. Again, this is the maximum amount allowed for 2021; the account holder doesn’t have to contribute the full amount.
Plan set-up and contribution deadlines
For 2019 and prior years, the Self-Directed Solo 401k plan had to be established by the end of the tax year. The SECURE Act changed this deadline. Starting with the 2020 tax year, business owners can establish a Self-Directed Solo 401(k) plan up until the tax filing deadline (plus extension) for the preceding year.
Contribution deadlines depend on how the business entity is taxed and the type of contribution being made.
For Sole Proprietor, Partnerships and LLCs, salary deferral and profit-sharing contributions can be made up until the personal tax filing deadline, plus extension. For C-Corporations and S-Corporations, the salary deferral portion must be contributed as the salary to be contributed is earned, within at least seven days, and generally through payroll deductions. Profit-sharing contributions can be made up until the corporate tax filing deadline, plus extension.