Vanguard’s New Self-Employed 401(k) Plan – Roth Option Included

Vanguard has recently announced the details of their Individual 401(k) plan – otherwise known as Solo 401k or Self-Employed 401k. Although you can’t apply yet it seems, many of us passive investors have been waiting for Vanguard to offer this for a long time.

The Vanguard® Individual 401(k) plan is a retirement plan for self-employed individuals. This plan is available only to sole proprietors or partners in business who have no common-law employees. The only other participant allowed in this plan would be a spouse of the business owner if he or she works for the business. Business owners should not establish this plan if they have common-law employees, including their children.

There is some confusion as to whether this includes the sole owners of an S-Corporation, but I’m betting it does as it is a passthrough entity and we are essentially self-employed. Here are some more Vanguard-specific details, along with some comparison with the Fidelity Self-Employed 401(k) which I currently have:

  • Seems like you can buy any Vanguard fund with no commissions, and there is “no minimum initial investment required to open most funds” (emphasis mine). It doesn’t seem like you have the option to buy ETFs through their brokerage service. At Fidelity, the Fidelity funds are also free, but I am subject to minimum initial investments. However, I do have the ability to buy any ETF with a $12-$20 commission, as well as buy individual bonds.
  • The Vanguard Individual 401(k) will accept three types of employer and employee contribution sources: individual employee salary deferral contributions (pre-tax money), traditional employer contributions (pre-tax money), and Roth salary deferral contributions (post-tax money). Roth is available! Fidelity does not have this.
  • Employees can move money between different Vanguard funds by phone or in writing only. This is kind of a pain. I can manage my Fidelity Self-Employed 401(k) online like a regular brokerage account, with limit trades and everything.
  • There are no set-up fees charged to the employer for a Vanguard Individual 401(k) plan. Vanguard charges employees a $20 annual account service fee for each mutual fund held in an account within the Vanguard Individual 401(k). If you like to own multipole funds, that can add up quickly! (Note: If at least one participant in a Vanguard Individual 401(k) plan qualifies for Flagship™, Voyager Select™, or Voyager™ Services, the account service fee will be waived for all participants in the plan.) Fidelity has no setup fees, and no annual account fees at all.
  • Rollovers are permitted out of the Vanguard Individual 401(k), but not into it. Not sure why this is the case.

This is only a superficial review, but so far I’m not planning to try and open one. It turns out that I am quite happy with my Fidelity Solo 401k, as it provides a lot of flexibility, great customer service, and reasonable costs. Vanguard has a wider array of index funds, but I can also buy the equivalent Vanguard ETFs at Fidelity. If I buy in large enough chunks, the commission is balanced out by the lower annual expense ratios. Besides, if you are at not at least Voyager ($50k in assets), the $20 fee per fund from Vanguard costs as much as two trades anyway.

The main thing going for Vanguard is the Roth option, which I must admit should be very attractive for most people. But for us, our current tax bracket is high enough that I prefer pre-tax contributions.

Via Guzzo the Contrarian and Bogleheads.

Comments

  1. Wow! I have been waiting for this news for some time now since I’m a recent “Boglehead” AND self-employed but haven’t yet set up a Solo 401k. I was about to set one up with Fidelity based on your fine review, but maybe I’ll wait just a bit longer to see when Vanguard is an option. Did you at least get an *idea* about when Vanguard would begin accepting new Solo 401k clients? Once again, Jonathan, you have enriched my financial life through your wonderful web site. Thank you!

  2. For every other Vanguard account that I can think of, the 20$ fee per fund is also waived if you sign up for electronic statements, no matter how much money you have in there. I’d honestly be kind of surprised if this isn’t the case with this 401k thing, but maybe that’s the gotcha for waiving the minimum investment. Alternately it could just be the case that they don’t have their small print page totally finished yet.

  3. ThePessimist says:

    That’s funny that they only allow self-employed individuals. Fidelity allows company owners who are the sole employees to have “self-employed” 401(k)s as well. The wording makes it sound like they won’t let you in if you’re organized as a corporation, whether it’s S-Corp or C-Corp.

    As an S-Corp owner, your allowable 401(k) contributions are based on your salary, not your business profits. So, for the purpose of 401(k)s, it’s not like being self-employed at all.

  4. I’ve been following this since it hit the Bogleheads discussion boards. I believe the reason they aren’t taking rollovers is that they don’t want the tax mess. You could put in a traditional IRA that was not deductible, and they have no way of knowing that it isn’t the right kind of fund. Just a guess.

  5. What are the benefits of these “Solo 401k” plans versus regular funds, like index funds?

  6. So, heres my situation. I run an SCORP and this year pay myself $1,000 per month or $12,000 per year for a salary. I had planned to contribute $10,500 to a SIMPLE IRA, however missed the deadline of OCTOBER 1st. So now I am looking into other tax deductions and retirement accounts. With the SEP IRA i believe i can only contribute $3000 which is 25% of my income. But sounds like with the 401k, I can contribute all $12,000????

  7. David,

    A solo 401K is a type of account. Accounts are typically broken into taxable accounts like 401K, IRAs, Roth IRAS etc. and non-taxable accounts like checking and saving accounts.

    An index fund is a type of investment. Specifically, an index fund is a mutual fund that invests in a large number of stocks based on some pre-determined criteria. (For example you could buy an index fund of just Large stocks or Small stocks.) Other types of investments are CDs, Bonds, Mutual Funds and individual stocks.

    Within an account, you can put different types of investments. So in your 401k, you can often buy mutual funds or stocks. What is allowed depends on who you have your account with.

    The benefit of a Solo 401K plan is they allow the owner to put away a LOT more tax-deferred money. For example, someone making $60K a year could put over half that into a retirement account and not be taxed on it. This helps keep your money away from Uncle Sam.

  8. I had read about Jonathan’s experience here with Fidelity but I opted to go with Schwab for my Solo 401K instead. I don’t think Schwab had one when he set his up at Fidelity, so it is another one that is worth a look.

    Put simply, there were ZERO fees and it was really easy to set up. I think I filled out a two page form and mailed it in. I just mail them a check each month and have it automatically put in the Schwab fund of my choice. (For simplicity sake, I put all my money in their Market Track All Equity Index. SWEGX)

    A solo 401K is great if you want to sock away a lot of money in tax deferred accounts.

    I typically use the standard 401K and not the Roth though. The reason being is I get the tax deduction now, while my income is good. Some day when I move on to try another business, I’ll take some time off and roll over my IRA to a ROTH and have to pay very little in taxes on it..

  9. Hey Maury – Thanks for the recommendation to Schwab. I looked around and talked to a rep and it is very easy to get started with them. I’m going to contribute my max for 2008 and maybe make a contribution as the employer too.

  10. And just so I understand the contribution of Employee Salary Deferral: The total contribution is up to 15,500. So if I made 12,000 this year less 15.3% for FICA, I can contribute $10,164 as the emplyee salary deferral and then 25% of this as the Employer Profit Sharing contribution?

    I think I got it eh?

  11. I have Individual 401(k) plan with T Rowe Price, I also have my IRAs with them. I don’t have an employer. I am 100% self-employed. Although, my plans with T Rowe Price consider to be self-directed, because I don’t have an employer, I am still limited in what I can invest.

    I am considering moving my money to a self-directed provider where I can invest my retirement funds not only into stocks, bonds and funds, but also into real estate and businesses.

    One company I am considering is: http://www.theentrustgroup.com
    I would be interested to know if anyone has an experience with investing their self-directed retirement funds into real estate and businesses.

  12. After speaking with a rep at Fidelity. It is clear that I can not make a profit sharing contribution as you cannot contribute more than you make. So for 2008, I can contribute the full 12,000 and then next year if I pay myself more, I can consider the 25% contribution.

  13. Michael,

    I can’t remember if FICA plays into the amount you can contribute or not… I don’t think it does, but don’t quote me on it…

    One thing you may want to be careful of… If your biz makes considerably more than the $12K a year that you are paying yourself, the IRS may see that low salary as a way to dodge paying Social Security and Medicare taxes… While somewhat avoiding these taxes is definitely a benefit of being an S-corp, you’ll want to make sure your overall biz income and salary aren’t too far apart or you will raise red flags with our friends at the IRS.

    As far as trading costs at Fidelity vs. Schwab, I so far have only invested in Schwabs no load mutual funds. Because of that there have been no transaction costs.

    So yeah, Schwab was free to set up, no transaction costs, reasonable management fees on their indexes and easy to implement. I’ve been really happy so far. I have nothing else to compare Schwab too, but I can’t see a way anyone else could really improve on my experience.

    (That said, I’d like a way to electronically deposit my 401K contribution… There is probably a way, but for now I mail in a check each month.)

  14. Thanks for your reply. Up until this year, my business income and salary income has been fine, but for next year I am doubling it and will adjust accordingly per my income…

    For those wondering, I found out that the contribution is based on your FULL wages, not after FICA.

  15. I plan to setup my online banking to send out the check each month for my 401k contribution starting 1/2009.

  16. I’ve been lookinging into the Solo 401k while building my business up to profitability .
    I spoke to Fidelity and Schwab and decided on Schwab for an investment holding account to use as a base for my investments.

    I’m tired of geting ripped off by the investment community and losing thousands every 5-6 years because of shennigans of the thieves at Corporatons. I will be making my own alternate investments. like gold, real estate and private invstments
    I rolled over my IRA’s and prior Corporate 401k accounts to Schwab but I set up the Solo 401k with the Solo-k Retirement Group as they routinely handle alternate investments. Their Trust Agreement lets me invest almost anywhere, I can take out a loan if necessary and they charge a flat fee. They do the financials for the plan and will keep track of my Roth contributions so my investment profits are tax free when I take them out .

  17. surekhabhat says:

    wanted to invest in SEP 401k .Can I get some information regarding it.My husband is self employed .

    thanks

  18. looking for a 401 k plan solo to be deducted from my account monthly or bi weekly

  19. Is there a set or qualifying requirements to get enrolled?
    And Rich, thank you for the input, very informative.

  20. I set up what I thought was a solo 401K with fidelity.
    When I logged into the account, I noticed they had set up a Keogh plan. When I called Fidelity they said thats how they set up their solo 401K’s.
    Now Solo 401K’s have a few advantages over Keogh’s. The one that I really care about, is you can take a loan upto 50K from your solo 401K towards a first home purchase. Not so from the Keogh. Any thoughts on this?

  21. @PD – Yes, my Solo 401k with Fidelity is also classified as a Keogh in their system. They don’t allow 401k loans, but that’s not specific to a Keogh as loans are just an option that any 401k provider can choose to provide or not.

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  1. [...] Vanguard’s New Self-Employed 401(k) Plan – Roth Option Included. Here is a superficial review of this new offering from Vanguard. If I ever give up new contributions to my company 401(k) by leaving the corporate workforce, I’ll be taking advantage of this offering. This is worth more research when the time is right. [...]

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