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Individual 401(k) tax question.

Posted: Thu Mar 16, 2017 10:46 am
by plannerman
This question has been asked here before, but to the best of my knowledge, never answered.

When calculating the maximum elective deferrals and employer nonelective contribution amounts to an Individual 401(k) for a self employed individual, does making a Roth IRA contribution effect either of those amounts? FWIW, neither TurboTax nor the professional tax preparation software used by the tax preparer for my son's business, reduces the deferral amounts because of Roth contributions. And, as a result, one can end up deferring more than their earned income. This appears to be a free lunch from the IRS, which doesn't sound likely to me.

Anybody care to weigh-in with a documented answer?

plannerman

Re: Individual 401(k) tax question.

Posted: Thu Mar 16, 2017 11:16 am
by Ren
You aren't deferring anything in a Roth IRA, so it wouldn't affect your i401k deferrals/contributions. Taxes are already paid on your Roth contributions.

Re: Individual 401(k) tax question.

Posted: Thu Mar 16, 2017 11:21 am
by livesoft
I think the answer is Yes, one can double dip.

For instance: One earns $8,000. One puts at much as possible in their Roth 401(k) or $7434.

Then one puts $5,500 into their Roth IRA.

One uses money from elsewhere (a taxable account?) to pay taxes and make contributions.

It's not really double-dipping if one (or one's spouse) has enough income to cover the Roth IRA contribution, too.

Re: Individual 401(k) tax question.

Posted: Thu Mar 16, 2017 12:07 pm
by plannerman
livesoft wrote:I think the answer is Yes, one can double dip.
It's not really double-dipping if one (or one's spouse) has enough income to cover the Roth IRA contribution, too.
No spouse, no other earned income.

planerman

Re: Individual 401(k) tax question.

Posted: Thu Mar 16, 2017 9:25 pm
by Spirit Rider
You missed livesoft's first point by focusing on his second point.

IRA contributions require compensation. Roth 401k deferrals do not reduce compensation. Therefore, you can still use the compensation used for Roth 401k deferrals to make IRA contributions.

This is not just true for the self-employed. A regular employee's W-2 Box 1 wages is not reduced by Roth 401k deferrals. W-2 Box 1 is a safe harbor for IRA contributions. See IRS publication 590-A, the description of compensation for both traditional IRA and Roth IRA contributions. Only pre-tax deferrals reduce compensation available for IRA contributions.

Re: Individual 401(k) tax question.

Posted: Thu Mar 16, 2017 9:37 pm
by plannerman
Spirit Rider wrote:You missed livesoft's first point by focusing on his second point.

IRA contributions require compensation. Roth 401k deferrals do not reduce compensation. Therefore, you can still use the compensation used for Roth 401k deferrals to make IRA contributions.

This is not just true for the self-employed. A regular employee's W-2 Box 1 wages is not reduced by Roth 401k deferrals. W-2 Box 1 is a safe harbor for IRA contributions. See IRS publication 590-A, the description of compensation for both traditional IRA and Roth IRA contributions. Only pre-tax deferrals reduce compensation available for IRA contributions.
Is the converse true? That is, can you use the compensation (earned income in the case of a self employed individual) used for a traditional Individual 401(k) deferral for a Roth IRA contribution? That is really my question. Thanks

plannerman

Re: Individual 401(k) tax question.

Posted: Thu Mar 16, 2017 9:46 pm
by Spirit Rider
plannerman wrote:Is the converse true? That is, can you use the compensation (earned income in the case of a self employed individual) used for a traditional Individual 401(k) deferral for a Roth IRA contribution? That is really my question.
No, as I explained. A traditional pre-tax deferral whether by a self-employed individual or a W-2 employee reduces the compensation available to make an IRA contribution.

Re: Individual 401(k) tax question.

Posted: Fri Mar 17, 2017 5:20 am
by plannerman
Spirit Rider wrote:
plannerman wrote:Is the converse true? That is, can you use the compensation (earned income in the case of a self employed individual) used for a traditional Individual 401(k) deferral for a Roth IRA contribution? That is really my question.
No, as I explained. A traditional pre-tax deferral whether by a self-employed individual or a W-2 employee reduces the compensation available to make an IRA contribution.
Thanks Spirit Rider that is what I suspected all along but couldn't confirm in my reading of the IRS instructions. I'm not sure why TurboTax doesn't seen to work that way, I probably just entered something wrong. Now that you have confirmed how it should work, I will try and sort that out today.

plannerman