Mutual Funds for the Self-Employed: SEP-IRA and Solo 401(k) Choices

Self-employed individuals and solo business owners can invest in mutual funds for self-employed retirement accounts through two main vehicles: the SEP-IRA, which allows contributions of up to roughly 20–25% of net business income (capped at $69,000 in 2024), and the Solo 401(k), which permits both employer and employee contributions totaling up to $69,000+ annually. Both accounts treat mutual funds as ordinary investments, letting the self-employed build diversified portfolios that compound tax-deferred until withdrawal.

Why Mutual Funds in SEP-IRAs and Solo 401(k)s

A self-employed person working alone or with a spouse has no access to a traditional employer 401(k) plan. A regular IRA allows only $7,000 per year in contributions (as of 2024). For a business owner with significant net income, those limits do not meet retirement-saving needs.

A SEP-IRA or Solo 401(k) removes that ceiling. A freelancer earning $100,000 in net business income can contribute $20,000–$25,000 to a SEP-IRA annually. A Solo 401(k) permits even higher contributions when structured to allow both employee deferrals and employer profit-sharing. Mutual funds inside these accounts become the investment vehicle for most of that capital, because mutual funds offer the diversification, professional management, and low minimum investments that solo business owners need.

The tax deferral is critical. Money invested in a SEP-IRA or Solo 401(k) grows without annual capital-gains or dividend taxation. A $10,000 mutual fund position held for 20 years inside a SEP-IRA avoids annual tax drag; held outside a tax-advantaged account, the same position would pay tax on distributions each year, shrinking cumulative returns.

Setting Up a SEP-IRA with Mutual Funds

A SEP-IRA (Simplified Employee Pension) is the simplest retirement plan for the self-employed. The business owner opens a SEP-IRA account at a brokerage or fund family, designates it as a SEP-IRA, and can then contribute directly into mutual funds offered by that institution.

Setup takes minutes: fill out a form, link the account to the business, and contribute. No annual filing with the IRS is required for a solo SEP-IRA (though businesses with employees must file Form 5498-SEP). The self-employed person contributes what they choose each year, up to the annual limit, with no obligation to contribute in future years.

Contribution mechanics work like this: If net self-employment income is $100,000, the allowable SEP-IRA contribution is roughly $100,000 × 0.20 = $20,000. (The exact percentage accounts for self-employment tax and is typically 18–20% of net business income.) The individual deducts the contribution on Schedule C or the tax return, reducing taxable income.

Once funded, the SEP-IRA behaves like any IRA. The account holder selects mutual funds from the brokerage’s menu—index funds, actively managed funds, bond ETFs, money-market funds—and builds a diversified portfolio. Mutual funds inside a SEP-IRA are not subject to annual expense-ratio taxation; the fund’s expense ratio reduces returns, but no capital-gains distribution is taxable inside the account.

Solo 401(k): Higher Contributions, More Complexity

A Solo 401(k) (also called an Individual 401(k)) allows both employee and employer contributions, resulting in higher total limits than a SEP-IRA. In 2024, an individual can defer up to $23,500 as an “employee” and then contribute up to 20–25% of net business income as an “employer” contribution, for a combined limit around $69,000 or more.

The trade-off: Solo 401(k)s require annual reporting. Even a solo owner with no employees must file Form 5500-C/R (or the simpler 5500-N for small accounts) with the Department of Labor. Some Solo 401(k) providers handle this; others do not. The compliance burden is modest compared to a corporate 401(k), but it is real.

A Solo 401(k) also permits loans: the account owner can borrow up to 50% of the account balance (up to $50,000) and repay it with interest over five years. That borrowing option makes a Solo 401(k) more flexible for an owner facing a short-term cash crunch, though it carries the risk of forcing the outstanding loan amount to be declared a taxable withdrawal if the owner leaves the plan.

Inside a Solo 401(k), mutual funds operate identically to a SEP-IRA. The account holder selects funds, builds a portfolio, and all growth is tax-deferred. The higher contribution ceiling makes the Solo 401(k) preferable for high-income self-employed individuals, while the simpler SEP-IRA suits those prioritizing administrative ease.

Choosing Fund Types for Retirement Time Horizons

A self-employed person funding a SEP-IRA or Solo 401(k) should choose mutual funds aligned with their time to retirement. A 30-year-old with 35 years until retirement can afford equity funds with high volatility, because time smooths out short-term losses. A 55-year-old nearing retirement should emphasize more conservative bond funds and dividend-paying equity funds, sacrificing growth for stability.

Many self-employed investors choose index funds. An index fund tracking the S&P 500 costs 0.03–0.05% in annual fees, far below the 0.5–1.5% cost of an actively managed fund. Over 30 years, that fee savings compounds into tens of thousands of dollars. A simple three-fund portfolio—a U.S. equity index, an international equity index, and a bond index—is a passive, low-cost core for many SEP-IRAs.

Others use target-date funds, which automatically shift from equity-heavy to bond-heavy as a target retirement year approaches. A target-date 2055 fund in a 25-year-old’s account is mostly equities; by the time the owner is 50, the fund has already rebalanced to hold more bonds, easing the investor out of growth and into stability without requiring annual rebalancing decisions.

Growth funds, dividend-yield funds, and thematic funds (technology, healthcare, international) are all permissible inside a SEP-IRA or Solo 401(k). The choice depends on the owner’s conviction and time horizon, not the retirement plan itself.

Contribution Deadlines and Tax Planning

SEP-IRA contributions must be made by the business’s tax-filing deadline, including extensions. If a self-employed person files taxes on April 15, 2025, but requests an extension to October 15, 2025, they can fund the SEP-IRA for the prior year up until October 15. This flexibility makes a SEP-IRA a powerful last-minute tax-planning tool for high-income business owners.

Solo 401(k) contributions also follow the tax-filing deadline. Employee deferrals must be made by December 31 of the tax year (cannot be made retroactively after year-end), but employer contributions can be made up to the tax-filing deadline.

A self-employed person earning $150,000 net in 2024 might discover in September 2025 that they owe significant income tax. A $30,000 contribution to a SEP-IRA before the October 2025 extension deadline would reduce that tax bill. Mutual funds purchased inside the SEP-IRA would then begin compounding tax-deferred.

Withdrawals and Early-Withdrawal Penalties

Distributions from a SEP-IRA or Solo 401(k) are taxed as ordinary income in the year they are withdrawn. A withdrawal of $50,000 in 2026 is added to the account owner’s 2026 taxable income and taxed at the individual’s marginal tax bracket.

Early withdrawal—before age 59½—triggers a 10% federal penalty plus ordinary income tax. A withdrawal of $50,000 at age 50 would incur $5,000 in penalty plus income tax on the full $50,000. There are narrow exceptions (disability, medical expenses exceeding a threshold) but they are rarely available to the self-employed.

Required minimum distributions (RMDs) begin at age 73 (as of 2024, following SECURE 2.0 changes). The account owner must begin withdrawing a calculated minimum each year or face a 25% penalty on the shortfall. Planning withdrawals and RMDs is essential for high-balance SEP-IRAs and Solo 401(k)s.

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