Can 1099 employees contribute to a 401(k)?

Independent contractors or 1099 employees have to do without a steady paycheck, health insurance, or retirement programs with corporate matching from employers. Since people who are self-employed are on their own, saving for retirement is even more crucial than for W-2, or full-time, employees. Can 1099 employees contribute to a 401(k)? Here’s some more information about the available types of 1099 retirement plans.

Traditional and Roth IRAs

Business owners provide 401(k)s, but any individual can choose to invest in an IRA. With an IRA, you can save up to $7,000 per year if you’re 50 or less. If you’re over 50, you can save $7,500 per year. When you leave your job, you can rollover your old 401(k) and transfer the money into an IRA. With a traditional IRA, you can deduct the amount you invest when you file your taxes, but you’ll need to pay taxes when you make withdrawals.

You’re allowed to contribute to a Roth IRA if you are a single person making less than $124,000 or a couple who earns below $196,000. Contributions aren’t tax-deductible, but you won’t have to pay taxes for withdrawals. You can open either type of IRA at an online brokerage firm in just a few minutes.

Savings Incentive Match Plan for Employees or SIMPLE IRA

SIMPLE IRAs are for business owners with 100 employees or less, and they’re inexpensive and easy to set up and maintain. In 2024, Individuals can contribute up to $16,000, and anyone who is 50 or older can make an additional $3,500 in catch-up contributions. If you invest in a plan as an employer as well, the total from both contributions can’t exceed $20,500.

When you file your taxes, you can deduct the money you place in your SIMPLE IRA. You can also deduct contributions to employee accounts of 1% to 3% as business expenses. Like traditional IRAs and 401(k)s, you’ll still need to pay taxes on withdrawals, and people who start using their funds before they turn 59 1/2 will have to pay an additional tax penalty.

Simplified Employee Pension or SEP IRA

With a SEP IRA, you can contribute up to 25% of your net earnings or $66,000 per year, whichever amount is lower. Like traditional IRAs, contributions are tax-deductible and withdrawals are taxed. People who are self-employed and make less than $285,000 per year are eligible.

These accounts are easy to establish and administer, and you won’t need to file annual statements. They work best for people who don’t have employees. If you have workers, you’ll need to contribute the same percentage to their accounts as you put in your own account. For example, if you place 10% of your annual compensation in a SEP IRA per year, you’ll have to give each employee 10% of their earnings as well. Many online brokers offer SEP IRAs.

401(k) Plan

A one-participant 401(k) is also called an individual 401(k) plan or 401(k), a 1099 401(k), or an independent contractor 401(k). It’s particularly attractive for people who want to save a lot for retirement or freelancers who wish to contribute more in years when business is good. You won’t have to form an LLC or a corporation, and your spouse can participate if you hire them.

Since you’re self-employed, these plans let you make a $23,000 employee contribution along with an employer contribution of 25% of your net income. For people who are 50 or more, the maximum employee contribution rises to $30,500. Employee and employer contributions should total less than $69,000.

If you hire your spouse, you can invest up to $57,000 each per year. There’s no annual paperwork until your account balance reaches $250,000, and the money you save is tax-deductible. Like 401(k)s from large companies, you’ll need to pay taxes on withdrawals. If you use your funds before you turn 59 1/2, you’ll need to pay a 10% penalty or take a hardship loan and repay it.

If you or your spouse also have a 401(k) from another employer, these contribution limits will cover both plans. Many mutual fund or brokerage companies offer one-participant 401(k)s. You’ll need an Employee Identification Number from the IRS, but it’s free and it only takes a few minutes online. However, if you have employees other than your spouse, you won’t be eligible for this type of account.

You can also select an individual Roth 401(k) that’s similar to a Roth IRA. You’ll make post-tax contributions, but you won’t owe taxes on withdrawals. These accounts are best if you expect to earn more in retirement than you do now. They let you avoid paying a higher tax rate after retirement.

Defined Benefit Plan or Cash Balance Plan

A personal defined benefit or cash balance plan is similar to a pension. Since annual actuarial calculations are required, it has higher expenses than a one-participant 401(k). Contribution limits are often very high, and it’s a good way for people who are close to retirement to save a lot quickly. The ceiling is calculated based on your age, the annual benefit you expect to receive after retirement, and your expected investment returns. The maximum annual benefit is $230,000.

People with employees usually offer them the same defined benefit plan and contribute for their employees. You’ll need to fund the plan with a certain amount every year, and changing that amount will create additional fees. Contributions are usually tax-deductible, but distributions are taxed. An actuary must calculate your deduction limit, and your investment options are more limited than with other types of accounts.

Human Interest makes starting a 401(k) and offering it to employees easy for small businesses. We provide automated administration, skilled investment advising, and advanced security and encryption to protect your funds and your personal information. It’s an affordable way for companies to help employees plan for their futures. People can check their balances, decide how much they want to contribute, initiate rollovers, and more. Contact us to get started on a 401(k) for your business.