Solo 401(k) vs SEP IRA for S-Corp Owners: A Real-Numbers Tax Breakdown

Guides · Updated October 2026

If you run your business as an S-corp, the Solo 401(k) vs SEP IRA question is not close. It is a blowout. That is not my opinion talking, it is arithmetic, and it comes down to one structural fact: a SEP IRA only lets you contribute as the employer, capped at 25 percent of your W-2 wages. A Solo 401(k) lets you contribute as the employer and the employee, adding a $24,500 deferral for 2026 on top of the same employer piece.

Why does that matter so much for S-corp owners specifically? Because S-corp owners live with a constant tension: every extra dollar of W-2 salary costs 15.3 percent in payroll taxes, but a bigger salary is also what creates SEP IRA room. The Solo 401(k) breaks that tension. You can keep your salary lean for payroll tax purposes and still stuff the retirement account using the employee deferral, which does not require any particular salary level.

Example 1: $70,000 in W-2 wages

Meet Thomas. His S-corp pays him $70,000 in W-2 wages and the rest flows through as distributions. Here is what each plan allows in 2026:

Thomas, age 45, $70,000 W-2 wages

	Solo 401(k)	SEP IRA
Employee deferral	$24,500	not available
Employer profit sharing (25% of wages)	$17,500	$17,500
Total 2026 contribution	$42,000	$17,500

The Solo 401(k) allows $42,000. The SEP allows $17,500. That is more than double, from the same payroll, in the same year. If Thomas is in the 24 percent federal bracket, the extra $24,500 deduction saves him about $5,880 in federal income tax alone, every single year, plus state tax savings. This is why I tell S-corp owners the plan choice is a five figure annual decision, not a paperwork preference.

Example 2: $120,000 in W-2 wages

S-corp owner, age 45, $120,000 W-2 wages

	Solo 401(k)	SEP IRA
Employee deferral	$24,500	not available
Employer profit sharing (25% of wages)	$30,000	$30,000
Total 2026 contribution	$54,500	$30,000

Same story at a higher income: the Solo 401(k) leads by exactly the $24,500 deferral. The gap is a constant, which means it matters most at moderate salaries, precisely where S-corp owners are trying to keep payroll taxes down.

The payroll tax trap SEP IRAs create

Now flip the question around. Suppose you want to contribute $35,000 this year. With a SEP IRA, the only lever you have is salary, because the contribution is 25 percent of wages. To get $35,000 into a SEP, you need a $140,000 W-2 salary. With a Solo 401(k), you can contribute $24,500 as the employee plus 25 percent of wages as the employer, so a $46,000 salary gets you to roughly $36,000 total ($24,500 plus $11,500).

Think about what that $94,000 salary difference costs. Payroll taxes run 15.3 percent on wages (you pay both halves as the S-corp owner). On $94,000 of extra salary, that is roughly $14,400 in additional payroll tax, year after year, just to unlock SEP contribution room you could have gotten with a Solo 401(k) anyway. The SEP effectively punishes you for the reasonable salary strategy that S-corps are famous for. The Solo 401(k) rewards it.

The takeaway: a SEP IRA forces your salary and your retirement contributions to move together. A Solo 401(k) decouples them. For S-corp owners, that decoupling is worth real money.

Three more Solo 401(k) edges that matter for S-corps

Roth deferrals. The $24,500 employee piece can go in as Roth, growing tax free. SEP contributions are always pre-tax. If you are in a lower bracket year, that Roth option is genuinely valuable.
Catch-up contributions at 50+. An extra $8,000 in 2026, available only in the 401(k). SEPs have no catch-up mechanism at all. For owners in their peak earning fifties, this widens the gap further.
Participant loans. Many Solo 401(k) plans let you borrow up to 50 percent of the balance (capped at $50,000). A SEP IRA offers no loan feature. I would not plan around borrowing, but it is a real flexibility difference.

When the SEP IRA still makes sense

I will be straight with you: the Solo 401(k) is not better in every situation. The SEP wins on simplicity. No Form 5500 filing even as assets grow, no plan documents to maintain, and you can open and fund it up to your extended tax filing deadline. If you hired employees beyond your spouse, you cannot have a Solo 401(k) at all, and the SEP becomes the obvious answer. And if you think you might add staff in the next year or two, starting with a SEP avoids a plan conversion later.

But if you are an owner-only S-corp with no plans to hire, the SEP's simplicity is costing you roughly $24,500 a year in contribution room. That is an expensive convenience.

See your exact numbers.

Enter your W-2 wages and age for a side by side comparison under 2026 IRS rules.

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Frequently asked questions

What salary should I set as an S-corp owner with a Solo 401(k)?

Your salary still needs to be "reasonable" under IRS rules for the work you do, so do not set it artificially low just to dodge payroll tax. But with a Solo 401(k), you do not need to inflate your salary to create retirement contribution room, because the $24,500 employee deferral does not depend on salary level. Many owners find the Solo 401(k) lets them set the salary the business actually justifies, not the salary the retirement plan demands.

Can an S-corp owner do a mega backdoor Roth with a Solo 401(k)?

Yes, if the plan document allows voluntary after-tax contributions and in-plan Roth conversions. After the $24,500 deferral and the 25 percent employer piece, after-tax contributions can fill the remaining space up to the $72,000 total cap for 2026, and then be converted to Roth. A SEP IRA cannot do this at all. Not all Solo 401(k) providers support it, so confirm with your provider before counting on it.

Does the employer contribution reduce my S-corp's payroll taxes?

No. Employer retirement contributions are deductible as a business expense for income tax, but they do not reduce the payroll tax base. That is exactly why keeping salary reasonable matters: the retirement deduction shelters income tax, while the salary level drives payroll tax. The Solo 401(k) lets you optimize both independently.