Individual(k)


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The Math - Sole Proprietors

For sole proprietors, the figures needed to calculate a maximum contribution under an Individual(k) plan are the sole proprietor's net profits from IRS Form 1040, Schedule C and his or her self-employment (SE) taxes as determined on IRS Form 1040, Schedule SE. Recall that two components comprise the maximum Individual(k) plan contribution: employers profit sharing contribution and an employee salary deferral contribution. Determining eligible compensation for the proposer of the contribution to an Individual(k) applies regardless of the contribution type.

Once the net profit and SE tax figures are determined (or estimated in the case of advance planning), the maximum Individual(k) plan contribution may be determined as follows.

Step 1: Determine Modified Net Profit.*

Modified Net Profit = Net Profits - ½ SE Tax

Step 2: Determine Maximum Salary Deferral

Maximum Salary Deferral = Lesser of Annual Maximum Deferral Limit, plus Catch-Up Contributions, if eligible** or Modified Net Profit

Step 3: Determine Maximum Profit Sharing Contribution.

Maximum Profit Sharing Contribution = .25 x (Modified Net Profit / 1.25)

Step 4: Calculate Maximum Individual(k) Contribution

Maximum Individual(k) Contribution = Maximum Salary Deferral + Maximum Profit Sharing Contribution
Note: The maximum Individual(k) plan contribution cannot exceed 100% of the business owner's Adjusted Net Business Income (ANBI), ANBI = Modified Net Profit - Profit Sharing Contribution.

*For 2010, the maximum amount of Modified Net Profit that may be used for determining plan contributions is $245,000.
**Individuals who are age 50 or older during the year are eligible for an additional catch-up contribution. For 2010, the annual maximum deferral limit is $16,500, and the catch-up contribution limit is $5,500.

Example:

India Kay is a sole proprietor under age 50, who estimates that she will have approximately $100,000 in net profits from her business during 2010. India estimates that her self-employment taxes for 2010 will be approximately $14,130. Based on this information, India calculates her estimated maximum Individual(k) plan contribution for 2010 as follows:

Step 1: Determine Modified Net Profit

Modified Net Profit = $100,000 - .5($14,130)

Modified Net Profit = $100,000 - $7,065

Modified Net Profit = $92,935

Step 2: Determine Maximum Salary Deferral

Maximum Salary Deferral Contribution = Lesser of $16,500 (plus catch-up contributions, if eligible) or $92,935

Maximum Salary Deferral Contribution = $16,500

Step 3: Determine Maximum Profit Sharing Contribution

Maximum Profit Sharing Contribution = .25 x ($92,935 / 1.25)

Maximum Profit Sharing Contribution = $18,587

Step 4: Calculate Maximum Individual(k) Plan Contribution

Max. Individual(k) Plan Contribution = Maximum Salary Deferral + Maximum Profit Sharing Contribution

Max. Individual(k) Plan Contribution = $16,500 + $18,587

Max. Individual(k) Plan Contribution = $35,087

Based on estimated net profits for 2010 of $100,000, India could contribute up to $35,087 to an Individual(k) plan for 2010. In addition, if India were age 50 or older in 2010, she would be eligible for an additional "catch-up" contribution of $5,500 in the form of a salary deferral contribution, bringing her maximum contribution amount up to $40,587 (close to 41% of net profits).