SEP-IRA vs Solo 401(k) (2026)

Why 25% really means 20%

Both plans allow an employer contribution of "25% of compensation", and both trip up the self-employed in the same way. For someone with a salary, compensation is a fixed number. For a sole proprietor it is not, because the contribution itself is deductible and therefore reduces the compensation it is calculated from. Unwinding that circularity turns 25% into 20% of net earnings — 25 divided by 1.25. The base is your business profit minus the deductible half of self-employment tax, not your revenue and not your gross profit.

This single detail is why so many freelancers over-contribute in their first year. Excess contributions attract a 6% penalty for every year they remain in the account, so the correction is worth getting right before the money goes in rather than after.

Where the Solo 401(k) pulls ahead

A SEP-IRA offers only the employer contribution: 20% of net earnings, up to $72,000 for 2026. A Solo 401(k) adds an employee salary deferral of up to $24,500 on top of that same 20%, which means it reaches the ceiling at a much lower profit level. At $120,000 of profit a SEP-IRA allows roughly $22,000 while a Solo 401(k) allows roughly $46,500 — more than double, from identical earnings.

The gap closes at higher incomes because both plans stop at the same $72,000 overall limit. Somewhere around $360,000 of profit the 20% employer contribution alone reaches the cap, and the deferral no longer adds anything. Below that threshold — where most freelancers operate — the Solo 401(k) wins, usually decisively.

Catch-up contributions after 50

From age 50 a Solo 401(k) allows an extra $8,000 on top of every other limit, and between ages 60 and 63 that rises to $11,250 under the enhanced catch-up rules. At 64 it returns to $8,000. A SEP-IRA has no catch-up provision at all, so the gap between the two widens further for older freelancers — which matters, since that is exactly when most people have both the income and the urgency to save aggressively.

What the SEP-IRA is still good for

Simplicity and timing. A SEP-IRA can be opened and funded right up to your filing deadline including extensions, so it can rescue a tax bill you only discover in April. A Solo 401(k) generally has to exist before the end of the tax year to accept an employee deferral for it, which means the decision has to be made in advance. SEPs also have no annual filing requirement, whereas a Solo 401(k) requires Form 5500-EZ once assets pass $250,000.

One constraint applies to both: neither works if you have eligible employees other than a spouse. A SEP requires you to contribute the same percentage for every eligible employee, which becomes expensive quickly, and a Solo 401(k) simply stops qualifying. If you are about to hire, the plan choice changes entirely and is worth a conversation with a CPA.

What this is worth

Contributions to either plan reduce taxable income, so a $46,500 contribution in the 24% bracket cuts this year's federal tax by more than $11,000 while the money remains yours. That is the rare case where the tax saving and the wealth-building point in the same direction — and it is why our quarterly tax calculator is worth re-running after you decide how much to contribute.

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