Can I contribute to a Individual 401K if my income is only from W2?

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schrute
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Can I contribute to a Individual 401K if my income is only from W2?

Post by schrute » Sun Apr 08, 2018 6:25 pm

Can I contribute to an Individual or Solo 401K if my income is from my employer? What about if I have income from day trading stocks? I imagine there will be scrutiny from the IRS to consider that "earned income"?

mhalley
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by mhalley » Sun Apr 08, 2018 6:48 pm

My understanding is that day trading profits are not earned Income. Employee (w2) income does not qualify you for a solo 401k

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GKSD
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by GKSD » Sun Apr 08, 2018 7:18 pm

Day trading profits would be short term capital gains that would go on Schedule D - and don't think these would qualify for individual-401K contributions.

schrute
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by schrute » Sat Apr 14, 2018 1:08 pm

GKSD wrote:
Sun Apr 08, 2018 7:18 pm
Day trading profits would be short term capital gains that would go on Schedule D - and don't think these would qualify for individual-401K contributions.
What if I just use my W2 income? Can I create a solo 401K, pay the double tax on the income and put the remaining amount via backdoor? If I misunderstood, my thought is I can only put 20% of my "business income" in. But if I could put 100% of my "business income" into a megabackdoor (which would be $10,000 or so) that would be ideal.

I'm contemplating if pay $2K-$3K in extra taxes (I see it as a tax upon a tax to put it into Roth) to put it into an IRA. I can't imagine the government would care since I'm just paying more in taxes.

Thoughts here?

ShadowRegent
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by ShadowRegent » Sat Apr 14, 2018 2:08 pm

You can't open or fund a solo 401k if you don't have a business/self-employment income.

schrute
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by schrute » Sat Apr 14, 2018 4:31 pm

ShadowRegent wrote:
Sat Apr 14, 2018 2:08 pm
You can't open or fund a solo 401k if you don't have a business/self-employment income.
What if I have only $10K in income from said business, all cash and no 1099? Can I put 10,000 in?

MoneyMarathon
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by MoneyMarathon » Sat Apr 14, 2018 4:58 pm

schrute wrote:
Sun Apr 08, 2018 6:25 pm
Can I contribute to an Individual or Solo 401K if my income is from my employer?
You should talk to an accountant and/or tax lawyer on how to get some business income going, legally.
schrute wrote:
Sun Apr 08, 2018 6:25 pm
pay the double tax on the income
It's a murky area where you might be able to do something.
I'm contemplating if pay $2K-$3K in extra taxes (I see it as a tax upon a tax to put it into Roth) to put it into an IRA. I can't imagine the government would care since I'm just paying more in taxes.

Thoughts here?
Pay $300 to $700 more to an accountant the first year you do this, and avoid (as much as possible) paying penalties in an audit.
I can't imagine the government would care since I'm just paying more in taxes.
Overall, your instincts are not bad. If you merely start declaring schedule C income in small amounts, that's not really a red flag. Still, you should talk to an accountant and/or lawyer because there may be right ways and wrong ways of doing this.

Spirit Rider
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by Spirit Rider » Sat Apr 14, 2018 10:51 pm

schrute wrote:
Sat Apr 14, 2018 4:31 pm
ShadowRegent wrote:
Sat Apr 14, 2018 2:08 pm
You can't open or fund a solo 401k if you don't have a business/self-employment income.
What if I have only $10K in income from said business, all cash and no 1099? Can I put 10,000 in?
You must report all income regardless whether it is reported on a Form 1099-MISC or not.

If it is income from a trade or business then you are a self-employed individual eligible to adopt a one-participant 401k.

schrute
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by schrute » Mon Apr 16, 2018 10:06 pm

Spirit Rider wrote:
Sat Apr 14, 2018 10:51 pm
schrute wrote:
Sat Apr 14, 2018 4:31 pm
ShadowRegent wrote:
Sat Apr 14, 2018 2:08 pm
You can't open or fund a solo 401k if you don't have a business/self-employment income.
What if I have only $10K in income from said business, all cash and no 1099? Can I put 10,000 in?
You must report all income regardless whether it is reported on a Form 1099-MISC or not.

If it is income from a trade or business then you are a self-employed individual eligible to adopt a one-participant 401k.
If that's a case, are there any restrictions on after tax dollars? Like if I have $10,000 in side income from cash for 2018, can I put $10,000 all in after tax dollar contributions with my solo 401K?

MoneyMarathon
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by MoneyMarathon » Mon Apr 16, 2018 11:06 pm

schrute wrote:
Mon Apr 16, 2018 10:06 pm
If that's a case, are there any restrictions on after tax dollars? Like if I have $10,000 in side income from cash for 2018, can I put $10,000 all in after tax dollar contributions with my solo 401K?
There is a limit on the i-401k plan -- it's $55k or your net earnings, whichever is less.

There is a limit on profit-sharing contributions -- do the worksheet on the 1040 -- but it's supposed to be 20% on a Schedule C's net.

There is a limit on employee contributions -- it's shared with all other 401k-type (qualified) plans -- it's $18.5k.

You must meet all the limitations, after figuring out what is employee and what is profit sharing.

If you're looking to sock away money in a solo 401k and you have no other things that compete with the 401k, you could do:

$18.5k + 20% of net income

If you made $23,000, then you could contribute:

$18.5k (employee) + $4.5k (profit sharing) = $23k

If you made $24k, you wouldn't be able to contribute the whole earnings, since the profit sharing is limited.

There is a different limit on profit sharing for different entities, other than sole proprietor.

Keep in mind:
(a) You want to make sure you're actually saving taxes this way.
(b) You want to make sure that you couldn't save even more taxes, if you avoided some of the double tax.
(c) You want to make sure you avoid any problems with having insufficient records for your business.

At a minimum, you need a separate bank account for the business and a record of receipts, including any cash.

schrute
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by schrute » Mon Apr 16, 2018 11:26 pm

MoneyMarathon wrote:
Mon Apr 16, 2018 11:06 pm
schrute wrote:
Mon Apr 16, 2018 10:06 pm
If that's a case, are there any restrictions on after tax dollars? Like if I have $10,000 in side income from cash for 2018, can I put $10,000 all in after tax dollar contributions with my solo 401K?
There is a limit on the i-401k plan -- it's $55k or your net earnings, whichever is less.

There is a limit on profit-sharing contributions -- do the worksheet on the 1040 -- but it's supposed to be 20% on a Schedule C's net.

There is a limit on employee contributions -- it's shared with all other 401k-type (qualified) plans -- it's $18.5k.

You must meet all the limitations, after figuring out what is employee and what is profit sharing.

If you're looking to sock away money in a solo 401k and you have no other things that compete with the 401k, you could do:

$18.5k + 20% of net income

If you made $23,000, then you could contribute:

$18.5k (employee) + $4.5k (profit sharing) = $23k

If you made $24k, you wouldn't be able to contribute the whole earnings, since the profit sharing is limited.

There is a different limit on profit sharing for different entities, other than sole proprietor.

Keep in mind:
(a) You want to make sure you're actually saving taxes this way.
(b) You want to make sure that you couldn't save even more taxes, if you avoided some of the double tax.
(c) You want to make sure you avoid any problems with having insufficient records for your business.

At a minimum, you need a separate bank account for the business and a record of receipts, including any cash.
Thanks. My current employer, I'm maxed out on $18.5K pre-tax requirement. I'm doing after tax, but can only put in 6%, that leaves about $44,000 in both pre-tax/post-tax going into my work retirement account. $55K (IRS limit) - $44,000 = $11,000 left.

Since I have $10,000 in side earnings, I was wondering if I could put it directly into a 401K as after tax contributions only. If I understand your explanation above, I couldn't, right? It would be 20% x $10,000 = $2,000 at most.

MoneyMarathon
Posts: 161
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by MoneyMarathon » Mon Apr 16, 2018 11:53 pm

schrute wrote:
Mon Apr 16, 2018 11:26 pm
Thanks. My current employer, I'm maxed out on $18.5K pre-tax requirement. I'm doing after tax, but can only put in 6%, that leaves about $44,000 in both pre-tax/post-tax going into my work retirement account. $55K (IRS limit) - $44,000 = $11,000 left.

Since I have $10,000 in side earnings, I was wondering if I could put it directly into a 401K as after tax contributions only. If I understand your explanation above, I couldn't, right? It would be 20% x $10,000 = $2,000 at most.
This gets tricky. Two questions:

(1) Are you really saving money?

I'm estimating that you'll end up paying maybe $500 to $1k in expenses to set up an i-401k that is capable of after-tax contributions, on top of the taxes you'll pay on income at the marginal rate, as well as any self-employment tax.

Are you sure you're not better off with the tax advantages of a normal brokerage account? Compare to your long-term capital gains rate and qualified dividends rate. If you don't pay taxes now, understand that you could contribute more.

(2) Do you want to do all this work?

It's quite a lot of forms and effort between the business, the taxes, and the retirement plan.

If you still want to go forward, you can sometimes cobble together an individual 401k that allows after-tax contributions. It's possible that these could be per plan and could offer more than $11k of space. I don't completely understand the tax law here and can't really advise you. (The same may be true of a lot of accountants, but you can probably get good answers by talking to some of the boutiques that set up i 401k accounts.)

A regular brokerage is definitely underestimated here, IMO. Especially when you consider all the possibilities for completely tax-free growth from an estate planning perspective, such as the donation of shares and the step up in basis for heirs. And even without that, it still probably wins, saving you more on taxes.
Last edited by MoneyMarathon on Tue Apr 17, 2018 12:09 am, edited 3 times in total.

Spirit Rider
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by Spirit Rider » Mon Apr 16, 2018 11:54 pm

MoneyMarathon wrote:
Mon Apr 16, 2018 11:06 pm
If you made $23,000, then you could contribute:

$18.5k (employee) + $4.5k (profit sharing) = $23k
This is not correct. First, the maximum calculated employer contribution = 20% of net self-employment earnings (business profit from Schedule C - 1/2 SE tax from Schedule SE), not just business profit.

For sake of this example, let us assume the net self-employment earnings = $23K, the maximum calculated employer contribution = $4.6K. However, the employer contribution is further limited to (net self-employment earnings - employee elective contributions) / 2, or ($23K - $18.5K = $4.5K) / 2 = $2.25K

Maximum total contribution = $18.5K + $2.25K = $20.75K.

See IRS Publication 560 Retirement Plans for Small Business (SEP, SIMPLE, and Qualified Plans, Chapter 5, steps 9 - 13 in the Deduction Worksheet for Self-Employed.

MoneyMarathon
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by MoneyMarathon » Mon Apr 16, 2018 11:56 pm

Spirit Rider wrote:
Mon Apr 16, 2018 11:54 pm
MoneyMarathon wrote:
Mon Apr 16, 2018 11:06 pm
If you made $23,000, then you could contribute:

$18.5k (employee) + $4.5k (profit sharing) = $23k
This is not correct. First, the maximum calculated employer contribution = 20% of net self-employment earnings (business profit from Schedule C - 1/2 SE tax from Schedule SE), not just business profit.

For sake of this example, let us assume the net self-employment earnings = $23K, the maximum calculated employer contribution = $4.6K. However, the employer contribution is further limited to (net self-employment earnings - employee elective contributions) / 2, or ($23K - $18.5K = $4.5K) / 2 = $2.25K

Maximum total contribution = $18.5K + $2.25K = $20.75K.

See IRS Publication 560 Retirement Plans for Small Business (SEP, SIMPLE, and Qualified Plans, Chapter 5, steps 9 - 13 in the Deduction Worksheet for Self-Employed.
Thank you. The worksheet does add that wrinkle.

It gets further complicated when considering the way that W-2 income reduces the self-employment tax owed.

For example, if W-2 income exceeds $128.7k in 2018, then self-employment tax is based on the 2.9% medicare portion.
However, the employer contribution is further limited to (net self-employment earnings - employee elective contributions) / 2
Good to remember. I forgot this entirely.

feehater
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by feehater » Tue Apr 17, 2018 8:17 am

schrute wrote:
Sat Apr 14, 2018 1:08 pm
GKSD wrote:
Sun Apr 08, 2018 7:18 pm
Day trading profits would be short term capital gains that would go on Schedule D - and don't think these would qualify for individual-401K contributions.
What if I just use my W2 income? Can I create a solo 401K, pay the double tax on the income and put the remaining amount via backdoor? If I misunderstood, my thought is I can only put 20% of my "business income" in. But if I could put 100% of my "business income" into a megabackdoor (which would be $10,000 or so) that would be ideal.

I'm contemplating if pay $2K-$3K in extra taxes (I see it as a tax upon a tax to put it into Roth) to put it into an IRA. I can't imagine the government would care since I'm just paying more in taxes.

Thoughts here?

So to be clear here, you don't actually have a side business or any legitimate business income? I think some of the posters here skimmed over that part and are giving you good faith advice based on thinking you have a real business. You are proposing taking 14k of your w2 income, paying taxes on it, and then putting the remaining 10k on your schedule C and declaring it as income again? How many lies are you going to have to tell on the schedule C in order to do this? Type of business? Accounting method?! To me this is well beyond the acceptable line of legal tax maneuvers.

Or did I miss something here?

avoidingdumbmistakes
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by avoidingdumbmistakes » Tue Apr 17, 2018 8:59 am

MoneyMarathon wrote:
Mon Apr 16, 2018 11:06 pm
schrute wrote:
Mon Apr 16, 2018 10:06 pm
If that's a case, are there any restrictions on after tax dollars? Like if I have $10,000 in side income from cash for 2018, can I put $10,000 all in after tax dollar contributions with my solo 401K?
There is a limit on the i-401k plan -- it's $55k or your net earnings, whichever is less.

There is a limit on profit-sharing contributions -- do the worksheet on the 1040 -- but it's supposed to be 20% on a Schedule C's net.

There is a limit on employee contributions -- it's shared with all other 401k-type (qualified) plans -- it's $18.5k.

You must meet all the limitations, after figuring out what is employee and what is profit sharing.

If you're looking to sock away money in a solo 401k and you have no other things that compete with the 401k, you could do:

$18.5k + 20% of net income

If you made $23,000, then you could contribute:

$18.5k (employee) + $4.5k (profit sharing) = $23k

If you made $24k, you wouldn't be able to contribute the whole earnings, since the profit sharing is limited.

There is a different limit on profit sharing for different entities, other than sole proprietor.

Keep in mind:
(a) You want to make sure you're actually saving taxes this way.
(b) You want to make sure that you couldn't save even more taxes, if you avoided some of the double tax.
(c) You want to make sure you avoid any problems with having insufficient records for your business.

At a minimum, you need a separate bank account for the business and a record of receipts, including any cash.
Instead of making my own thread about this topic, I'm going to hijack here for just a couple questions....

My wife is a schedule C 1099 insurance agent. She's been building her book slowly over the last 8 years but has been doing pretty well the last 2 years. I probably should have got going with a i401k 2 years ago but better late than never. We have been doing $5,500 in her tIRA so we're not totally ignoring retirement with her income. However, after expenses she did net $43k last year. Based on your above calcs, would I have been able to put $18.5k + $8,600 (20% of net) into a i401k for her?

I've been doing fairly well with W-2 lately so her income is not needed for monthly expenses. We could put away as much as we want of her income now and it would have no impact on our ability to meet monthly obligations. Is a i401k the best bang for the buck with retirement savings for a 1099 insurance agent?

nolesrule
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by nolesrule » Tue Apr 17, 2018 9:10 am

avoidingdumbmistakes wrote:
Tue Apr 17, 2018 8:59 am


Instead of making my own thread about this topic, I'm going to hijack here for just a couple questions....

My wife is a schedule C 1099 insurance agent. She's been building her book slowly over the last 8 years but has been doing pretty well the last 2 years. I probably should have got going with a i401k 2 years ago but better late than never. We have been doing $5,500 in her tIRA so we're not totally ignoring retirement with her income. However, after expenses she did net $43k last year. Based on your above calcs, would I have been able to put $18.5k + $8,600 (20% of net) into a i401k for her?

I've been doing fairly well with W-2 lately so her income is not needed for monthly expenses. We could put away as much as we want of her income now and it would have no impact on our ability to meet monthly obligations. Is a i401k the best bang for the buck with retirement savings for a 1099 insurance agent?
The exact amount requires using the Publication 560 worksheet for self employed retirement plans.

If 43k is the net income, you would also need to figure the self employment taxes on Schedule SE and subtract half that amount from the net income before calculating the 20%

avoidingdumbmistakes
Posts: 101
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Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by avoidingdumbmistakes » Tue Apr 17, 2018 9:29 am

nolesrule wrote:
Tue Apr 17, 2018 9:10 am
avoidingdumbmistakes wrote:
Tue Apr 17, 2018 8:59 am


Instead of making my own thread about this topic, I'm going to hijack here for just a couple questions....

My wife is a schedule C 1099 insurance agent. She's been building her book slowly over the last 8 years but has been doing pretty well the last 2 years. I probably should have got going with a i401k 2 years ago but better late than never. We have been doing $5,500 in her tIRA so we're not totally ignoring retirement with her income. However, after expenses she did net $43k last year. Based on your above calcs, would I have been able to put $18.5k + $8,600 (20% of net) into a i401k for her?

I've been doing fairly well with W-2 lately so her income is not needed for monthly expenses. We could put away as much as we want of her income now and it would have no impact on our ability to meet monthly obligations. Is a i401k the best bang for the buck with retirement savings for a 1099 insurance agent?
The exact amount requires using the Publication 560 worksheet for self employed retirement plans.

If 43k is the net income, you would also need to figure the self employment taxes on Schedule SE and subtract half that amount from the net income before calculating the 20%
Perfect. Thank you. I have a really good accountant this year so I'm going to defer with IRS pubs. I did self prepare for 2017 and it was quite a chore. Things are getting too complicated for me so I'm going to knock off trying to be a hero and just sucking it up and paying a pro. lol

schrute
Posts: 243
Joined: Wed Nov 05, 2014 2:27 pm

Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by schrute » Tue Apr 17, 2018 9:33 am

Spirit Rider wrote:
Mon Apr 16, 2018 11:54 pm
MoneyMarathon wrote:
Mon Apr 16, 2018 11:06 pm
If you made $23,000, then you could contribute:

$18.5k (employee) + $4.5k (profit sharing) = $23k
This is not correct. First, the maximum calculated employer contribution = 20% of net self-employment earnings (business profit from Schedule C - 1/2 SE tax from Schedule SE), not just business profit.

For sake of this example, let us assume the net self-employment earnings = $23K, the maximum calculated employer contribution = $4.6K. However, the employer contribution is further limited to (net self-employment earnings - employee elective contributions) / 2, or ($23K - $18.5K = $4.5K) / 2 = $2.25K

Maximum total contribution = $18.5K + $2.25K = $20.75K.

See IRS Publication 560 Retirement Plans for Small Business (SEP, SIMPLE, and Qualified Plans, Chapter 5, steps 9 - 13 in the Deduction Worksheet for Self-Employed.
If I already have money with my full time employer for my $18,500 and they match another $10,000 ontop of it. It's $28,500. $55 - $28.5K = $26.5K.

If in my side business, I have $10,000 in income, and already took care of my $18,500. It means I can only use $10,000 for after tax purposes. In the above example, it means 10,000 / 2 = $5K? Or does it hold true that I already have pre-tax contributions elsewhere, so it's your example above?

Spirit Rider
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Joined: Fri Mar 02, 2007 2:39 pm

Re: Can I contribute to a Individual 401K if my income is only from W2?

Post by Spirit Rider » Tue Apr 17, 2018 10:09 am

schrute wrote:
Tue Apr 17, 2018 9:33 am
If in my side business, I have $10,000 in income, and already took care of my $18,500. It means I can only use $10,000 for after tax purposes. In the above example, it means 10,000 / 2 = $5K? Or does it hold true that I already have pre-tax contributions elsewhere, so it's your example above?
With $10K in net self-employment earnings (business profit - 1/2 SE tax). You can make a $10K in employee after-tax contribution to a custom one-participant 401k plan that supports employee after-tax contributions.

Your primary employer's annual additions, $18.5K employee and $10K employer contributions have no affect on your one-participant 401k contributions. There is a separate $55K annual addition limit for each unaffiliated employer.

The reason for the "/ 2" in the above formula is that employer contributions reduce the compensation available for contributions. The second part of the annual addition limit is 100% of compensation.

The only time this would apply is if you were to make employer contributions in addition to your after-tax contributions. The formula for maximum after-tax contributions = net self-employment earnings - employee elective contributions - (employer contributions * 2). E.g. $10K - $0 - ($2K * 2 = 4) = $6K.

This is because the $2K employer contribution reduces compensation to $10K - $2K = $8K and also reduces the available annual additions to $8K - $2K = $6K.

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