Quick comparison

  • Who it’s for: Both plans target self-employed individuals and business owners with no full-time employees (other than a spouse). However, a SEP IRA can be used by employers who have eligible employees and must make proportional employer contributions for them; a Solo 401(k) is designed for one-participant plans (owner ± spouse).
  • Contribution structure: SEP contributions are employer-only. Solo 401(k) allows employee deferrals plus employer contributions, which often produces a higher total possible annual contribution for the owner.
  • Administration: SEP IRAs are very simple. Solo 401(k)s give more options (Roth, loans), but require more recordkeeping and potential Form 5500 filing once plan assets exceed the IRS threshold.

(For definitions and detailed rules on each plan, see our SEP IRA and Solo 401(k) glossary pages: SEP IRA and Solo 401(k).)

How contributions and limits differ (practical view)

Rather than focusing on a particular dollar figure — which the IRS updates annually — focus on the mechanics you must understand:

  • SEP IRA: Employer contributes a flat percentage of compensation for each eligible employee (including the owner). The plan document sets the percentage and the employer must apply it uniformly to all eligible employees. The IRS caps the total employer contribution by an annual limit (indexed each year). Typically, for wage-earners the statutory cap is a percentage of compensation (commonly referred to as “up to 25%”), but for sole proprietors the effective percentage is lower once you account for the way self-employment tax adjustments work. See IRS Publication 560 for current caps and calculation specifics (IRS Pub. 560).

  • Solo 401(k): The owner may contribute as an employee (elective deferral) and as an employer (profit-sharing). Elective deferrals are subject to the annual employee deferral limit (which is indexed annually and may include a higher “catch-up” limit for savers age 50+). The employer profit-sharing portion follows the same percentage rules used for other employer plans, with an overall cap on total annual additions to a participant’s account. This two-part structure frequently allows a higher total contribution in years when the owner can both defer income and allocate employer profit-sharing.

Because limits change every year, confirm current figures before planning contributions. The IRS is the authoritative source for current limits (see 401(k) plan resources and Publication 560 on the IRS website).

Eligibility and who must be covered

  • SEP IRA: Any employer (including sole proprietors, partnerships, and corporations) can establish a SEP. If you make contributions for yourself, you must also make the same percentage contribution for eligible employees. “Eligible employee” definitions typically include age and service thresholds, and plans can set reasonable eligibility rules, but the key is the employer must apply the formula uniformly. (IRS Pub. 560)

  • Solo 401(k): Available only to business owners with no employees other than a spouse who is also eligible to participate. If your business hires employees who are eligible under the plan, you generally can no longer operate a one-participant Solo 401(k) and must convert to a regular 401(k) with broader coverage requirements. (IRS 401(k) resources)

Roth contributions, loans, and distribution flexibility

  • Roth options: Solo 401(k) plans commonly permit Roth (after-tax) employee deferrals if the plan document allows. SEP IRAs do not have a Roth option — employer contributions to a SEP are pre-tax.

  • Loans: Solo 401(k)s frequently include a loan feature (subject to plan rules and IRS limits — generally up to 50% of plan balance or $50,000, whichever is less). SEP IRAs do not permit participant loans.

These differences can matter if you want tax diversification (Roth vs. traditional) or liquidity access through a loan.

Administrative burden and compliance

  • SEP IRA: Easy to set up (a signed employer adoption agreement and individual IRA accounts for participants). Contributions can usually be made up to the employer’s tax filing deadline, including extensions. There is minimal ongoing paperwork and no annual Form 5500 for SEP IRAs.

  • Solo 401(k): Slightly more complex: you must adopt a written plan document, set up a plan trust and separate plan accounts, and follow rules for elective deferrals and employer contributions. After plan assets exceed the IRS filing threshold (commonly when plan assets exceed $250,000), you must file Form 5500-EZ (or Form 5500-SF in some cases). Also, the timing and deposit rules for elective deferrals are strict — you should treat employee deferrals like payroll withholding. (IRS 401(k) guidance)

Common calculation pitfalls for self-employed owners

One of the biggest mistakes I see working with small-business clients is applying the “25% of compensation” rule for employer contributions to self-employed income without adjustment. For a W-2 employee, a 25% employer contribution of W-2 wages is straightforward. For sole proprietors or partners, the IRS requires that employer contributions be calculated on net earnings from self-employment after subtracting the employer portion of self-employment tax and the employer contribution itself, which makes the effective employer contribution rate lower (commonly approximated as 20% for a sole proprietor who wants to end up with the equivalent of a 25% of wages contribution). Because the math is circular, many owners benefit from running numbers with tax software or an accountant.

If you’re self-employed, run a contribution worksheet, or consult a tax professional before allocating the employer share.

Practical decision rules — when to choose which plan

  • Choose a SEP IRA if:

  • You want the simplest setup and minimal annual administration.

  • You employ others and want a straightforward employer-only contribution that applies uniformly.

  • You don’t need Roth options or plan loans.

  • Choose a Solo 401(k) if:

  • You have no employees other than a spouse and want to maximize your total annual retirement savings.

  • You want the flexibility to make employee deferrals (including Roth, if offered) and employer profit-sharing contributions.

  • You may want to borrow from your plan or need more flexible distribution options later.

In many cases, high-earning self-employed owners choose a Solo 401(k) for the larger potential combined deferrals and access to Roth or loan features. Owners with employees typically prefer SEP IRAs for simplicity and a predictable employer contribution formula.

Setup and tax-deadline considerations

  • SEP IRA: You can establish and make contributions for a tax year up to your business’s tax filing deadline, including extensions — a helpful planning tool if your income varies.
  • Solo 401(k): Elective deferrals generally must be handled in payroll during the year and according to plan rules; employer profit-sharing contributions can usually be made by the tax filing deadline (with extensions). If you want to treat a contribution as Roth, that election must follow plan procedures and timing rules.

Always confirm timing with your plan provider and tax advisor.

Real-world examples (hypothetical, for illustration)

  • Freelancer with fluctuating income: They may prefer a SEP IRA because they can skip employer contributions in lean years without penalties and avoid year-round payroll administrative work.

  • One-person consulting firm with steady, high income: They may prefer a Solo 401(k) to combine employee deferrals with employer profit-sharing and, if eligible, make Roth deferrals for tax diversification.

  • Business owner with a handful of eligible employees: The owner might prefer a SEP IRA because it’s easier to apply the same percentage to employees than to adopt a full 401(k) with nondiscrimination testing and matching formulas.

Compliance risks and common mistakes

  • Treating elective deferrals as employer contributions. Elective deferrals are withheld from pay and have their own limits and deposit timing rules. Misclassifying them can create plan and tax problems.
  • Failing to make required contributions for eligible employees in a SEP. Employer contributions to a SEP must be made for all eligible employees under the plan formula.
  • Overlooking Form 5500 filing for Solo 401(k) when plan assets exceed the filing threshold.
  • Miscomputing employer contribution percentages for self-employed owners — use professional tax software or an accountant.

Where to find authoritative rules and current limits

  • IRS Publication 560, Retirement Plans for Small Business (contains rules for SEPs and other small-business plans). (IRS Pub. 560)
  • IRS 401(k) plan resources (covers 401(k) plan rules, including one-participant plans). (IRS 401(k) resources)

Also review the IRS pages for annual contribution limits before firming up numbers for the current tax year. These pages are updated each year and are the final authority.

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Frequently asked questions

  • Can I have both a SEP IRA and a Solo 401(k)?
    Yes. You can have both plans, but combined contributions must respect the IRS limits on annual additions and elective deferrals. Practical use cases for having both are limited; usually you’ll pick one primary plan for a given tax year. Check current-year limits and coordinate with your tax advisor.

  • Are contributions to either plan deductible?
    Employer contributions to a SEP and employer or employee contributions to a Solo 401(k) generally reduce your taxable income. Roth deferrals (if available in a Solo 401(k)) do not reduce current-year taxable income. Confirm deductibility with your tax advisor and the IRS guidance.

  • What if I hire an eligible employee mid-year?
    For a SEP, you must follow the plan’s eligibility rules and apply employer contributions consistently. If you add employees you may no longer be eligible to maintain a Solo 401(k). Consult counsel before hiring if your retirement-plan choice depends on being a one-participant plan.

Final recommendation

Start with a clear list of priorities: do you need the highest possible combined contribution, Roth/loan features, or the simplest administration? For many solo owners who want to maximize tax-deferred savings and prefer flexibility, a Solo 401(k) wins. For owners who prefer simplicity or employ eligible staff, a SEP IRA often fits better.

Because contribution calculations for self-employed owners are nuanced and annual limits change, I recommend running scenarios with your accountant or a retirement-plan specialist before committing. In my practice, running three-year projections (conservative, expected, upside) helps clients pick the plan that minimizes taxes and maximizes retirement outcomes.

Disclaimer: This article is educational and not individualized tax or investment advice. Consult a qualified tax professional or ERISA attorney for advice specific to your situation.

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