Account Types for Self-Employed

Self-employed and freelance workers have three primary retirement account options: Solo 401(k) (highest contribution room, most flexibility), SEP IRA (simplest, moderate room), and SIMPLE IRA (employer match for teams). Each trades complexity against contribution capacity and administration burden.

Key takeaways

• Solo 401(k): Up to ~$69,000 annual contribution (2024), split between employee deferrals and self-employed owner contributions; allows borrowing and Roth options; requires annual filing
• SEP IRA: Up to 20% of net self-employment income (~$69,000 cap); simplest to set up and maintain; good for solo practitioners with variable income
• SIMPLE IRA: For self-employed with employees; 3% match or 2% non-elective contributions; lower limit (~$16,000 employee, ~$3,600 employer match); employee-friendly
• UK SIPP: Self-employed can contribute 20% of net income (up to ~£60,000); tax relief claimed on tax return; no filing requirement beyond tax return
• Canadian Solo 401(k) equivalent: Not available; Canadian self-employed use RRSP with contribution room based on prior-year income

Solo 401(k): maximum flexibility and contribution room

A Solo 401(k) is a self-administered 401(k) plan for self-employed individuals or business owners with no employees (except a spouse). It combines high contribution limits with investment flexibility and borrowing options.

Contribution room (2024):

• Employee deferrals (like a regular 401(k)): Up to $23,500
• Employer contributions: Up to 25% of net self-employment income (roughly 20% of gross profit after deducting half of self-employment tax), with a combined limit of ~$69,000 annually
• Roth option: A Solo 401(k) can include a Roth feature; employee deferrals and employer contributions can each have a Roth variant, allowing tax-free growth on a portion

Example: Self-employed consultant, age 35, with $150,000 net self-employment income.

• Employee deferrals: Contribute $23,500 (pre-tax)
• Employer contributions: 20% of $150,000 = $30,000
• Total: $53,500 annually
• Tax savings (at 25% marginal rate): $13,375
• Net cost out of pocket: $40,125

Over 30 years at 5% real growth: roughly $2,500,000 accumulated, of which the first ~$600,000 is government-funded (via tax deductions).

Advantages:

• Highest contribution room of any retirement account for self-employed
• Roth option allows tax-free growth on a portion
• Borrowing allowed (up to $50,000 or 50% of balance, whichever is less); useful for emergencies
• Investment control: hold stocks, ETFs, bonds, or alternative investments (some custodians allow property, though rare)

Disadvantages:

• Annual filing required: Form 5500-C/R (if plan balance exceeds $250,000 at year-end). Some providers charge extra for filing assistance.
• Complexity: Requires a plan document (often provided by the vendor, e.g., Fidelity, TD Ameritrade, E*TRADE), adoption agreement, and annual administration (though minimal).
• If you hire employees, Solo 401(k) no longer qualifies; you'd need to convert to a standard 401(k), which is more complex.

SEP IRA: simplicity and flexibility

A SEP IRA (Simplified Employee Pension IRA) is the simplest retirement account for self-employed. It's essentially a Traditional IRA that allows higher contributions.

Contribution room (2024):

• Up to 20% of net self-employment income, with an annual cap of ~$69,000
• Calculated as: (net business income − 0.5 × self-employment tax) × 20%
• Example: $100,000 net self-employment income → roughly $20,000 SEP contribution

Advantages:

• Simplest setup: no formal plan document required (though an IRS Form 5305-SEP is advised for documentation). Some practitioners open a SEP with a few form signatures; it takes 30 minutes.
• No annual filing (Form 5500) required, regardless of balance.
• Contributions are made by the employer (i.e., "you" as the business owner); flexible timing. You can contribute after year-end when you've calculated net income.
• Contribution room is recalculated each year; variable income (lean years, profitable years) is naturally accommodated.

Disadvantages:

• No Roth option. SEP IRAs are pre-tax only; all withdrawals are taxed as income.
• Subject to pro-rata rule: if you have a Traditional IRA, conversions to Roth are affected.
• Lower contribution room than Solo 401(k) for the same income (roughly 20% vs. 25% on the employer side, though the math is similar due to the self-employment tax adjustment).
• No borrowing allowed (unlike Solo 401(k)).

When to choose SEP IRA: Solo practitioners with straightforward income, no employees, and preference for simplicity. An accountant or freelancer with stable income can open a SEP IRA and contribute 20% of net income annually with minimal overhead.

SIMPLE IRA: employer match for small teams

A SIMPLE IRA is designed for small employers (up to 100 employees). It's simpler than a regular 401(k) but requires employer matching.

Contribution room (2024):

• Employee deferrals: Up to $16,000 per year
• Employer match: Mandatory matching (3% of salary, or non-elective 2% for all employees) adds ~$3,600–$4,000 annually for a typical $120,000 employee

Example: Self-employed with one part-time employee.

• Self-employed owner: Defers $16,000, receives employer match (3% of own compensation). Total: ~$19,000 annually.
• Employee (part-time, $30,000 salary): Defers $5,000, receives employer 3% match ($900). Total: $5,900 annually.

Advantages:

• Simpler than a Solo 401(k); lower compliance burden than a standard 401(k).
• Automatic employer match or non-elective contribution strengthens employee retention and satisfaction.
• Flexible employer contribution strategy: choose 3% matching or 2% non-elective annually.

Disadvantages:

• Lower employee deferral limit ($16,000 vs. $23,500 in a Solo 401(k)) limits owner savings if the business is very profitable.
• Mandatory employer contributions for all employees; not optional. This increases cost if you have multiple employees.
• No Roth option.
• No borrowing (unlike Solo 401(k)).

When to choose SIMPLE IRA: Self-employed with employees (1–5 typically), wanting simplicity and wanting to provide retirement benefits for staff. The match strengthens employee loyalty and is less expensive than a full 401(k).

UK SIPP for self-employed

In the UK, self-employed individuals use a SIPP (Self-Invested Personal Pension) as their primary pension vehicle.

Contribution room: 20% of net self-employment income, up to the annual limit (~£60,000 in 2024). Unused room carries forward 3 years.

Tax relief: Contributions are claimed on the self-assessment tax return (filing with HMRC). Basic-rate relief is automatic (you contribute, and the relief reduces tax owed); higher-rate earners claim additional relief when filing.

Example: UK sole trader, age 40, with £100,000 net profit.

• SIPP contribution room: 20% × £100,000 = £20,000
• If higher-rate taxpayer (40% band): Contribution costs out-of-pocket £12,000, and tax relief is £8,000
• Total in SIPP: £20,000

No annual filing required (beyond the self-assessment return). A SIPP is simpler in UK terms than a Solo 401(k) filing.

Flexibility: A SIPP allows investment control (stocks, ETFs, bonds, property, though some restrictions apply). At retirement (age 55+), withdrawals via drawdown or UFPLS are flexible, with 25% tax-free lump sum options.

Canadian self-employed and RRSP

Canadian self-employed use an RRSP (Registered Retirement Savings Plan) as their primary retirement account. Room is 18% of prior-year net self-employment income, up to an annual cap (roughly $31,560 in 2024).

Unlike the Solo 401(k), there's no separate "employer contribution" mechanics; the RRSP contribution is calculated as income-based, regardless of whether you're employed or self-employed.

Example: Canadian self-employed, age 45, with $120,000 net income in the prior year.

• RRSP room: 18% × $120,000 = $21,600
• Contribution reduces taxable income; tax savings at 40% rate = $8,640

No separate filing is required; contributions are claimed on the personal tax return (like a US 1040). An RRSP is administratively simple.

Comparison: Solo 401(k) vs. SEP IRA vs. SIMPLE IRA

Feature	Solo 401(k)	SEP IRA	SIMPLE IRA
Max contribution (single)	~$69,000	~$69,000	~$16,000
Roth option	Yes	No	No
Borrowing allowed	Yes	No	No
Annual filing (Form 5500)	Yes (if balance >$250k)	No	No
Setup complexity	Moderate (document req.)	Simple (Form 5305-SEP)	Simple
Flexibility on timing	Pre-tax + employer	Employer only	Employee + employer
Employees allowed	No (disqualifies)	Yes, but cumbersome	Yes, preferred
Best for	Solo practitioners seeking max room	Solo practitioners valuing simplicity	Self-employed with employees

Real-world decision: when to switch plans

A sole practitioner starts with a SEP IRA (simple, no filing). At age 35, income grows to $200,000+, and the practitioner wants to save aggressively and prefers a Roth option. Switching to a Solo 401(k) makes sense: higher contribution room, Roth feature, and the Form 5500 filing (once balance exceeds $250,000) is acceptable overhead.

Later, if the practitioner hires employees (e.g., a virtual assistant or project manager), a Solo 401(k) is no longer eligible; they'd convert to a standard 401(k) or consider a SIMPLE IRA for the team.

Process flow for self-employed account selection

Related concepts

• ./03-traditional-ira-mechanics.md
• ./06-401k-basics-employer-plans.md
• ./15-uk-sipp-pension-basics.md

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