Tax implications of marriage for Self employed (1099) marrying an employee (W2)

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jaypee
Posts: 13
Joined: Mon Dec 07, 2015 3:37 pm

Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby jaypee » Wed Jan 11, 2017 3:38 pm

Dear Bogleheads,

I am currently self employed (1099 status). I am considering getting married to someone who is employed (W2 status).
I currently contribute to a Solo 401K and to a Roth IRA every year. My fiancee contributes to a pension plan, and to a regular 401K through her job.

Are there other Bogleheads in the same situation? If so, would you mind sharing your experience?

The questions that come to mind:

1/ What would be the tax implications for us if we get married? We are both high income earners, and from looking at the IRS tax brackets for married individuals, it seems that getting married will increase our taxes significantly. Is there a way to avoid this?
2/ Once married, may I still be able to contribute to my solo 401K the same way I currently do?
3/ Once married, it seems that filing tax separately is the way to go since I am self employed. Is that correct?
From the income limits, it looks like I won't be able to contribute to a Roth IRA though (ineligible for Roth IRA if income > $10,000) :(

Thanks a lot,

Jaypee

livesoft
Posts: 53735
Joined: Thu Mar 01, 2007 8:00 pm

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby livesoft » Wed Jan 11, 2017 3:43 pm

1/ No. There is no way to avoid this.
2/ Yes.
3/ No. If one files married filing separately, lots of normal things go away, so you don't get the benefit you perceive. But you can work out your taxes both ways and see the difference for yourself.


Learn about backdoor Roth IRAs.
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jaypee
Posts: 13
Joined: Mon Dec 07, 2015 3:37 pm

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby jaypee » Thu Jan 12, 2017 3:29 pm

Thanks a lot Livesoft for your answers.

It is surprising to see that two people have to pay more taxes once they're married than when they were single...

I know little about about backdoor Roth IRAs but my understanding is that it is mostly interesting when one is in a lower tax bracket, which is not our case.

If any other Boglehead had the same Tax dilemma while considering getting married, feel free to share your experience!

DSInvestor
Posts: 10372
Joined: Sat Oct 04, 2008 11:42 am

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby DSInvestor » Thu Jan 12, 2017 3:33 pm

jaypee wrote:I know little about about backdoor Roth IRAs but my understanding is that it is mostly interesting when one is in a lower tax bracket, which is not our case.


This is not correct. The backdoor into Roth IRA is used by folks with higher income (higher tax brackets) whose income is too high to allow for direct contribution to Roth IRA. For these folks, the backdoor into Roth IRA allows them to divert a little money into Roth IRA that would have otherwise been invested in taxable accounts or spent elsewhere. If you're in a lower tax bracket and have an income that allows direct contribution to Roth IRA, you'd just use the front door.

jaypee
Posts: 13
Joined: Mon Dec 07, 2015 3:37 pm

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby jaypee » Thu Jan 12, 2017 4:04 pm

DSInvestor wrote:
jaypee wrote:I know little about about backdoor Roth IRAs but my understanding is that it is mostly interesting when one is in a lower tax bracket, which is not our case.


This is not correct. The backdoor into Roth IRA is used by folks with higher income (higher tax brackets) whose income is too high to allow for direct contribution to Roth IRA. For these folks, the backdoor into Roth IRA allows them to divert a little money into Roth IRA that would have otherwise been invested in taxable accounts or spent elsewhere. If you're in a lower tax bracket and have an income that allows direct contribution to Roth IRA, you'd just use the front door.


My understanding of the Backdoor Roth in my situation is the following:

- We cannot contribute to a regular ROTH IRA once married so we contribute to a traditional IRA after taxes ($5,500x2 = $11,000 after tax money)
- We convert that traditional IRA money to a ROTH IRA by doing a BACKDOOR ROTH IRA conversation. Our tIRA money ($11,000) becomes $7,260 after paying 33% during the conversion

Is my understanding correct?

If so, I don't think it is very interesting for us, considering we lose 33% of the amount in the process and our tax bracket once retired will be probably go down significantly. Am I missing something?

Thank you for your help,

Jaypee

DSInvestor
Posts: 10372
Joined: Sat Oct 04, 2008 11:42 am

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby DSInvestor » Thu Jan 12, 2017 4:11 pm

jaypee wrote:
My understanding of the Backdoor Roth in my situation is the following:

- We cannot contribute to a regular ROTH IRA once married so we contribute to a traditional IRA after taxes ($5,500x2 = $11,000 after tax money)
- We convert that traditional IRA money to a ROTH IRA by doing a BACKDOOR ROTH IRA conversation. Our tIRA money ($11,000) becomes $7,260 after paying 33% during the conversion

Is my understanding correct?

If so, I don't think it is very interesting for us, considering we lose 33% of the amount in the process and our tax bracket once retired will be probably go down significantly. Am I missing something?

Thank you for your help,

Jaypee


Hi Jaypee, you're missing the tax treatment of IRA basis when you do a Roth conversion.

If your combined income is too high to contribute directly to Roth IRA, then your income is too high to take the Traditional IRA tax deduction given that you're both covered by employer plans (SOlo 401k for you and pension/401k for your spouse). You have this part right. The non-deductible TIRA contributions are IRA basis. IRA basis is money that has already been taxed and will not be taxed again on conversion.

So if you have $5500 IRA basis and do a full conversion (leaving zero balance in TIRA, Rollover IRA, SEP-IRA, SIMPLE-IRA on 12/31), your conversion of $5500 is non-taxable. If your TIRA had some growth between the time of contribution and conversion and is $5600 at the time of conversion, $5500 is non-taxable and $100 is taxable. The amount of conversion in excess of your IRA basis is taxable.

You may be married but the IRAs are by individual and your IRA assets are considered separately from your spouse's. If your spouse has a huge Rollover IRA, that impact's his/her conversion but not yours.

Here's a link to IRS form 8606. Run through lines 1-15 to see how it works.
https://www.irs.gov/pub/irs-pdf/f8606.pdf
Last edited by DSInvestor on Thu Jan 12, 2017 4:16 pm, edited 1 time in total.

Globalviewer58
Posts: 357
Joined: Fri Jul 18, 2008 3:26 pm

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby Globalviewer58 » Thu Jan 12, 2017 4:15 pm

Two high earners filing MFJ pay higher Federal rate than two single high earners. To avoid the marriage tax penalty you would currently need to remain single.

DSInvestor
Posts: 10372
Joined: Sat Oct 04, 2008 11:42 am

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby DSInvestor » Thu Jan 12, 2017 4:21 pm

You can contribute to your Solo 401k after you're married just like before. If your spouse helps you with your business, that opens up the possibility for your spouse to contribute to Solo 401k as well. If spouse has maxed out 401k at main job, that leaves no room for employee salary deferral but it would allow employer profit share contributions.

Not sure how much you're paying for health insurance as a self employed person but perhaps you can jump on to the health plan offered by your spouse's employer and get a better plan at lower cost.

As livesoft suggested, you'd have to run the numbers for MFJ vs MFS to see if one works out better. I don't think this applies to you but I know that MFS automatically disqualifies one getting the ACA premium subsidy. If married, Married Filing Jointly is required to get premium credit. You've noted the low MAGI limit for Roth IRA for MFS.
Last edited by DSInvestor on Thu Jan 12, 2017 8:25 pm, edited 1 time in total.

spth
Posts: 111
Joined: Fri Aug 09, 2013 8:31 am

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby spth » Thu Jan 12, 2017 7:43 pm

One spouse is self employed, other is employed. We do solo 401k, 401k, and two Roth conversions. I'm pretty sure that we are able to deduct some self employment tax from W2 earnings, so this might be a benefit. Double check that, though.

Spirit Rider
Posts: 5243
Joined: Fri Mar 02, 2007 2:39 pm

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby Spirit Rider » Thu Jan 12, 2017 8:31 pm

spth wrote:One spouse is self employed, other is employed. We do solo 401k, 401k, and two Roth conversions. I'm pretty sure that we are able to deduct some self employment tax from W2 earnings, so this might be a benefit. Double check that, though.

W-2 Social Security earnings are combined with net self-employment income to apply the SS max wage base limit for the same person. There is a deduction for 1/2 the SE tax to reduce the self-employed person's income tax liability to not include taxes on the employer half of the tax. This normalizes it to the same as a W-2 employee.

There is no applicability of the deductible part of SE tax to W-2 earnings. There is only the fact that in a MFJ return, it affects the bottom line.

jaypee
Posts: 13
Joined: Mon Dec 07, 2015 3:37 pm

Re: Tax implications of marriage for Self employed (1099) marrying an employee (W2)

Postby jaypee » Tue Jan 17, 2017 5:47 pm

Thank you all for your answers and your help on this!


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