Comparison

Plan Best for 2026 signal Watchout
SEP IRA Solo, variable profit Employer 25% to limit No Roth, no loan
Solo 401k Owner + spouse, steady wages Employee + employer, Roth Form 5500-EZ at threshold
SIMPLE 2-10 staff, simple Lower limits, mandates Early/withdrawal rules

Confirm limits with IRS notice for 2026 COLA; numbers index annually.

Pair with S-Corp Election, Tax Deductions, Year-End Tax Planning, and Payroll.

Decision Rules

  • No staff, $100k+ wages: Solo 401k usually wins.
  • Variable profit, simplicity: SEP.
  • Small staff, low admin: SIMPLE, accept lower caps.
  • S-corp: set W-2 first — distributions do not fund 401k — see Multi-State if remote.

Coordinate funding with Cash-Flow Analysis and close calendar — see Year-End Close.

Worked Example: $140k Profit, Three Outcomes

Plan Contribution Tax saving at 32% marginal Note
SEP (25% of ~$120k comp base) ~$30,000 ~$9,600 Simple, no Roth, no loan
Solo 401k ($23,500 employee + ~$30,000 employer, within limits) ~$53,500 ~$17,120 Plus Roth option on employee leg
SIMPLE ($16,000 + 3% match ~$4,200) ~$20,200 ~$6,460 Lower caps, mandatory match

Same profit, $10k+ annual difference between best and worst choice — compounding yearly. The Solo 401k’s employee leg is the entire edge at modest income: SEP’s employer-only formula can’t reach it. Confirm current-year IRS limits (COLA-indexed) before finalizing — see Filing Deadlines.

Hiring Your First Employee: What Breaks

Solo plans assume owner (and spouse) only. The first non-spouse hire triggers coverage testing:

  • SEP: must cover eligible employees on the same formula — a 25% contribution suddenly applies to payroll, not just you. Cost shock is common; model before hiring — see Payroll.
  • Solo 401k: no longer “solo” — convert to full 401k with testing, safe-harbor decisions, and administration. Calendar 12+ months ahead; mid-year conversions are messy.
  • SIMPLE: built for 2–10 staff, but mandatory employer match/nonelective plus lower limits and a 2-year withdrawal penalty trap (25% early-distribution penalty in first two years vs 10%).

Plan choice is hiring-contingent. If headcount is coming within 12 months, choose the post-hire vehicle now rather than converting under deadline.

S-Corp Interaction (Wages Drive Everything)

Solo 401k and SEP funding keys off W-2 wages — not distributions, not K-1 income. A $200k-profit S-corp paying $70k salary funds retirement on $70k; raising salary to $120k costs ~$7,650 in payroll tax but unlocks ~$12,500+ in additional deductible contributions plus QBI interplay — see S-Corp and Reasonable Salary analysis. Model salary, QBI, and retirement jointly in Q4 — optimizing any one in isolation misfires. Coordinate the funding transfer with Cash-Flow timing and the Year-End Close calendar.

Pitfalls

  • Missing setup deadline while funding on time.
  • Exceeding compensation base or 25% employer cap.
  • Forgetting state deduction decoupling.

Retain setup, payroll, and funding packet per Audit Procedures.

FAQ

Can we have SEP and Solo 401k together?

Generally choose one for the year for the same business; overlapping plans create deduction and 415(c) issues — get advice.

Does this reduce QBI?

Pre-tax employer funding generally reduces QBI base; Roth does not. Model jointly.

Next Steps

  1. Model three plans on 2026 wages/profit this month.
  2. Set up before year-end; calendar funding to extension.
  3. Tie payroll codes to GL for audit trail.