At a glance
- A solo 401(k) is a SEP plus your salary deferral. The employer side of both plans is the same arithmetic. The solo 401(k) adds up to $24,500 on top of it in 2026.
- The gap is widest at modest income. On $60,000 of profit, a SEP allows about $11,150 and a solo 401(k) about $35,650. On $150,000, it is roughly $27,900 against $52,400.
- The SEP’s 25% is really 20% for anyone self-employed, and the reason is that the contribution reduces the compensation it is calculated on.
- A SEP balance breaks a backdoor Roth. Every IRA you own is treated as one contract for the pro-rata calculation. A solo 401(k) sits outside it entirely.
Two plans, one owner, no employees — and one answer that holds most of the time. Both are simple to open, both deduct against ordinary income, and one of them almost always lets you put in more. The choice is usually decided by two things: how much profit the business makes, and whether you care about the tax treatment of Roth conversions.
Here is the whole comparison first, because that is what most people came for. The arithmetic behind it, and the cases where the SEP is genuinely the better answer, follow underneath.
SEP IRA and solo 401(k), side by side
| 2026 | SEP IRA | Solo 401(k) |
|---|---|---|
| Who can use it | Any employer, with or without staff | Owner, and a spouse on the payroll. No other eligible employees |
| Your own salary deferral | None. Employer money only | Up to $24,500 |
| Employer contribution | Up to 25% of compensation 20% of net earnings if self-employed |
Same |
| Total cap, section 415(c) | $72,000 | $72,000, with catch-up on top |
| Catch-up at 50 and over | Not available | $8,000 |
| Catch-up at 60 through 63 | Not available | $11,250 |
| Roth money inside the plan | Employer contributions, pre-tax | Designated Roth deferrals |
| Loans from the plan | Not permitted | Permitted |
| Effect on a backdoor Roth | Counts against you in the pro-rata calculation | No effect |
| Annual filing | None | Form 5500-EZ once assets reach $250,000 |
| Opening it after year-end | Yes, through the return due date with extensions | Yes, but the deferral deadline is tighter |
| Who it suits | Simplicity, or staff to cover | Almost everyone else |
The row that decides most cases is the second one. A SEP is funded entirely by the employer. A solo 401(k) is funded by the employer and by you, and the employer side of both is calculated identically. That is the whole comparison in one sentence, and everything below is a consequence of it.
What you can actually put in
If you read nothing else, read this. Same business, same profit, two plans.
A sole proprietor under 50, no employees, filing Schedule C. Figures are illustrative and rounded, and they follow the order the calculation is actually performed in: self-employment tax first, then the plan.
| The calculation | $60,000 of profit | $150,000 of profit |
|---|---|---|
| Schedule C net profit | $60,000 | $150,000 |
| Less one-half of self-employment tax | ($4,239) | ($10,597) |
| Net earnings the plan is based on | $55,761 | $139,403 |
| Employer contribution at 20% | $11,152 | $27,881 |
| Salary deferral, solo 401(k) only | $24,500 | $24,500 |
| SEP IRA total | $11,152 | $27,881 |
| Solo 401(k) total | $35,652 | $52,381 |
The solo 401(k) allows $24,500 more at both income levels, because the difference is the deferral and the deferral does not depend on profit. What changes is how much that matters — a great deal at the bottom, very little at the top. At $60,000 the solo 401(k) allows more than three times the SEP. At $150,000 it is not quite double. At high enough profit both plans reach the same $72,000 ceiling and the difference disappears.
The one-line version. A solo 401(k) is a SEP with your own deferral added on top. Below roughly $360,000 of profit, that is free contribution room the SEP simply does not have. Figures are illustrative.
Why 25% is really 20%
Every summary of a SEP says 25% of compensation. Almost no self-employed person can contribute 25% of their profit, and the reason is circular rather than mysterious.
For a self-employed individual, the compensation the plan uses is “earned income,” which the IRS defines as “net earnings from self-employment after deducting both: one-half of your self-employment tax, and contributions for yourself.” The contribution reduces the number the contribution is calculated on — that is the whole of it.
Solve it and the 25% plan rate becomes 25% divided by 125%, which is exactly 20%. A 15% plan rate becomes 13.04%, and a 10% rate becomes 9.09%. Publication 560 carries the full rate table and the worksheet in chapter 5.
The same 20% applies to the employer side of a solo 401(k), which is why both plans share that line in the table above. What it does not apply to is your deferral, which comes off the top and is not a percentage of anything. An owner of an S corporation is in a different position again: there the 25% is a genuine 25%, calculated on W-2 wages, because the corporation pays the contribution and the wage figure does not move.
Where the solo 401(k) wins
- Low and moderate profit. The deferral is a flat amount, so the lower your profit the larger a share of it you can shelter. A consultant with $50,000 of profit can put most of it away in a solo 401(k) and roughly a tenth of it in a SEP.
- Age 50 and over. A SEP has no catch-up at all. A solo 401(k) adds $8,000, or $11,250 in the four years you are 60 through 63. The 2026 limits hold that higher figure flat while the ordinary catch-up rose, so the premium narrowed to $3,250, but it is still room a SEP does not offer.
- You want Roth money. Designated Roth deferrals are standard in a solo 401(k) and the natural home for them when a deduction is worth less to you than tax-free growth.
- You do backdoor Roth conversions. This is the one people discover too late — see below.
- You may need the money back. A solo 401(k) can permit a loan. A SEP cannot, and its assets cannot be pledged as collateral.
- The Roth catch-up mandate misses you. Section 414(v)(7) forces catch-up contributions to be Roth for anyone whose prior-year FICA wages from that employer exceeded $150,000. A sole proprietor has self-employment earnings and no FICA wages, so the requirement does not reach them. The final regulations say an individual with no FICA wages from the sponsoring employer “would not be subject to the Roth catch-up requirement under the plan in the current year.”
The backdoor Roth problem with a SEP
A backdoor Roth conversion is only tax-free if you have no pre-tax money in any IRA. Section 408(d)(2) is blunt about it: for this calculation “all individual retirement plans shall be treated as 1 contract.”
A SEP-IRA is an individual retirement account. So is a rollover IRA from an old job. If you hold $200,000 across them and convert a $7,500 nondeductible contribution, roughly 96% of that conversion is taxable, and the untaxed basis is spread across the whole balance rather than sitting neatly in the converted dollars.
A solo 401(k) is not an IRA and is not counted. For a high earner who is phased out of direct Roth contributions and wants to keep the backdoor open, that alone can settle the question. It also runs the other way: a solo 401(k) that accepts rollovers can take in an existing SEP or rollover IRA balance and clear the pro-rata problem, which is a planning step worth taking before December rather than in April.
Where the SEP is genuinely better
- You have employees. A solo 401(k) is for an owner and a spouse. Once anyone else meets the plan’s eligibility conditions it stops being a one-participant plan and becomes a 401(k) with all that entails. A SEP simply covers them — on the same percentage you give yourself.
- You want no administration. No plan document to maintain, no Form 5500-EZ ever, no provider to choose. For a side business contributing a few thousand dollars a year, that is a real argument.
- It is already April. A SEP can be opened and funded after year-end, right up to the return due date including extensions, and the deduction still lands in the prior year. Nothing else moves that fast — and in April that is the whole argument.
- Your profit is high enough that it does not matter. Above roughly $360,000 of net earnings, the 20% employer contribution alone reaches the $72,000 ceiling and the deferral has nowhere to go. Section 401(a)(17) caps countable compensation at $360,000 for 2026 in any case.
If you have employees
A SEP’s coverage rule is set by section 408(k)(2). You must contribute for every employee who has reached age 21, has worked for you in at least three of the immediately preceding five years, and earned at least $800 in 2026. Three of five is a low bar over time, and it catches part-time and seasonal people.
The percentage must be uniform. Contributing 20% for yourself means 20% for each of them, which is what turns a generous-looking plan into an expensive one the year you hire. A 401(k) with employees costs more to run and offers far more control over that cost, through eligibility conditions, vesting and a safe harbor design. If you are near that point, the plan decision and the entity and compensation decisions belong in the same conversation.
Deadlines, which are not the same
| Step | SEP IRA | Solo 401(k) |
|---|---|---|
| Open the plan | Return due date, with extensions | Return due date, with extensions |
| Elect your deferral | Not applicable | By the return due date without extensions, for a sole proprietor’s first plan year |
| Fund the employer contribution | Return due date, with extensions | Return due date, with extensions |
The middle row is the one that catches people — and it catches them late. Section 317 of the SECURE 2.0 Act lets a sole proprietor adopt a solo 401(k) after the year has ended and still make deferrals for that year, but the IRS position is that those “deferrals must be made before filing due date of individual return (without regard to extensions).” Extending your return does not extend that — the two dates are unrelated.
In practice: decide by December if you can. A solo 401(k) opened in the year it covers has no deadline questions attached to it at all.
What to do about it
- Start with the deferral. If $24,500 of extra room is worth having, the solo 401(k) is the answer and the rest is detail.
- Check your IRA balances before you open a SEP. If you do backdoor Roth conversions, or expect to, the SEP has a cost that does not show up in any contribution table.
- Count who might become eligible. Three of the last five years is a longer memory than most owners expect. If a part-time helper is approaching it, plan for a 401(k) rather than discovering the SEP’s uniform percentage in the same year.
- Run the number on your actual profit rather than on 25% of it. The 20% figure is the one that governs, and it is calculated after self-employment tax.
- If the business is a side business, look at how far it stretches. A small amount of self-employment profit supports a surprisingly large deferral.
Frequently asked questions
Is a SEP IRA or a solo 401(k) better?
For an owner with no employees, the solo 401(k) is better in almost every case, because it allows everything a SEP allows plus a salary deferral of up to $24,500 in 2026. On $150,000 of self-employment profit that is roughly $52,400 against $27,900. The SEP wins on three specific facts: you have employees you would rather cover simply, you want no administration at all, or the year has already ended and you need something you can open in April.
How much can I contribute to each in 2026?
Both are capped at $72,000 in total under section 415(c). A SEP allows 25% of compensation, which works out to 20% of net earnings for someone self-employed. A solo 401(k) allows the same employer contribution plus a deferral of up to $24,500, plus a catch-up of $8,000 at age 50 or $11,250 at ages 60 through 63, and the catch-up sits on top of the $72,000 rather than inside it. Compensation above $360,000 cannot be counted in either plan.
Why is my SEP limit 20% and not 25%?
Because for a self-employed person the contribution itself reduces the compensation the contribution is based on. Earned income for plan purposes is net profit minus half of self-employment tax minus the contribution. Solving that circle turns a 25% plan rate into 25 divided by 125, which is 20%. A 15% plan rate becomes 13.04%. An S corporation owner is not affected: there the 25% is applied to W-2 wages and stays 25%.
Can I have both a SEP IRA and a solo 401(k)?
You can hold both accounts, but for one business the section 415(c) limit of $72,000 applies to the combined contributions, so there is rarely a point. Where it can make sense is genuinely unrelated businesses with no common control, which is a determination that depends on ownership percentages rather than on how separate the businesses feel. Get that tested before relying on two sets of limits.
Does a SEP IRA interfere with a backdoor Roth?
Yes, and it is the most expensive thing on this page. Section 408(d)(2) treats all your individual retirement plans as one contract when figuring the taxable part of a conversion, and a SEP-IRA is one of them. With a meaningful SEP balance, converting a nondeductible contribution is mostly taxable rather than free. A solo 401(k) is not an IRA and is ignored in that calculation, and rolling an existing SEP into one is the usual way to clear the problem.
Can I still open one for last year?
A SEP can be established and funded as late as the due date of the business return including extensions, and the deduction lands in the prior year. A solo 401(k) can also be adopted after year-end, but a sole proprietor’s first-year salary deferral has to be made by the individual return due date determined without regard to extensions. Extending the return does not extend the deferral deadline, which is the detail that turns a planned solo 401(k) into a SEP in April.
Do I have to file anything with the IRS?
A SEP has no annual return. A one-participant 401(k) is generally required to file Form 5500-EZ once plan assets reach $250,000 at the end of the year, and a final return is required in the year the plan terminates whatever the balance. It is a short form, but it is a deadline, and missing it carries penalties that are out of proportion to the work involved.
What happens if I hire someone?
A SEP must cover every employee who is 21, has worked for you in three of the immediately preceding five years and earned at least $800 in 2026, at the same percentage you contribute for yourself. A solo 401(k) stops being a one-participant plan once a non-spouse employee becomes eligible, and has to be operated as a regular 401(k) with testing and a Form 5500. Neither outcome is a problem if you see it coming. Both are expensive if you do not.
Related reading
- 2026 contribution limits. Every figure, and the Roth catch-up rule.
- Reducing self-employment tax. The number that comes off before the plan.
- S corp salary and distributions. Why the 25% stays 25% there.
- LLC or S corporation. The decision underneath this one.
- High-income W-2 earners. Where a side business fits.
Schedule a call
A short conversation about your situation, our read on it, and whether it is a mutual fit. We can run your actual profit through both plans and tell you what each one allows before you open anything.
General information, not advice for your situation. Figures apply to the 2026 tax year and are illustrative. Sources: Notice 2025-67, IRS one-participant 401(k) plans, IRS simplified employee pension, IRS Publication 560, IRC section 408, section 415 and the final catch-up regulations.
