Solo 401(k)-Contributing ALL net income?

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Elizabelle
Posts: 11
Joined: Sun Nov 12, 2017 12:23 pm

Solo 401(k)-Contributing ALL net income?

Post by Elizabelle » Sat Jan 13, 2018 2:16 pm

I know solo 401(k) contribution questions have been asked many times on this forum, but I have not yet found one that relates close enough to my question and I have ended up more confused after reading other posts on the topic. :confused

I opened a solo 401(k) in December with Vanguard (and now I realize it should have been with Fidelity to due Vanguard limit to Investor Class shares only in solo 401(k), but will have to deal with that later). I have not written myself a pay check from my S-Corp for 2017 yet. I typically only write myself a check once a year in December. I am trying to figure out how much I can/should contribute for 2017. My husband received a large severance this year, so I would like to contribute most/all of my net business income this year to my solo 401(k) to avoid paying even more in taxes in 2017.

Here is the breakdown:
-net business income for 2017 is $15,783
-I also paid for our medical premiums for 2017 > $2,263 (this has already been deducted from business income above)
-This is MY only source of income, so I have not made any other contributions this year. I am also not able to make Roth IRA contributions this year as our income will be too high due to the severance payment.

Is this a huge red flag for the IRS...not taking ANY income or at least tax deferring all of it from my S-Corp? (I've been paying myself @ $10,000/year for the last 10 years). If not a red flag, should I contribute all of the net income as an employee contribution OR should I split it up and make the 20% company profit sharing contribution and the remainder an employee contribution? Does the 20% profit sharing count as business expense in 2017 therefore lowering my 2017 net income?

Also, how do the medical premium payments play into the equation?

I have my accountant do my W-2, but I want to understand the process without having to pay my accountant to explain it to me.
Thanks!

aristotelian
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Joined: Wed Jan 11, 2017 8:05 pm

Re: Solo 401(k)-Contributing ALL net income?

Post by aristotelian » Sat Jan 13, 2018 2:22 pm

I don't know if it's a red flag or not in terms of increasing chance of audit, but it is allowed.

Spirit Rider
Posts: 8560
Joined: Fri Mar 02, 2007 2:39 pm

Re: Solo 401(k)-Contributing ALL net income?

Post by Spirit Rider » Sat Jan 13, 2018 4:18 pm

Let's take these is a different order.

You absolutely can make an employee elective deferral in a one-participant 401k of up to 100% of compensation. This present no red flag to the IRS, because you are claiming the compensation, just deferring it. I and many others have done so. It is perfectly legitimate for a sole proprietor.

However, a W-2 employee can never defer 100%. This is because an employee elective deferral must be deducted from payroll not already received and mandatory deductions must occur first. These are income tax withholding, FICA, benefits, etc...

In order to make elective employee deferrals you must make an employee deferral election. You have done that right? A W-2 employee paid by payroll must usually have their employee deferrals deducted on a payroll with a pay date on or before 12/31 to apply to that year.

I have seen CPAs take the aggressive position that they can deduct a deferral from a year-end pay period paid after the end of the year and count it for the previous 12/31 provided it is deposited by 01/15. I have not seen anything justifying it, but then again I can't say 100% it is prohibited. Personally, I always say get it done before the end of the year.

Finally, health insurance premiums that are paid for by the S-Corp or paid for by a > 2% shareholder-employee and reimbursed by the S-Corp are deducted on line 7 as officer's compensation. They are included in the shareholder-employee's W-2 Box 1 Wages, but not Box 3 Medicare Wages or Box 5 Social Security Wages. As long as the shareholder-employee was not eligible to receive coverage under a spouse's employer plan the health insurance premiums can be deducted on your personal Form 1040 Line 29 Self-employed health insurance deduction. Since they are included in compensation, they may be included in the net compensation available for one-participant 401k contributions.

Elizabelle
Posts: 11
Joined: Sun Nov 12, 2017 12:23 pm

Re: Solo 401(k)-Contributing ALL net income?

Post by Elizabelle » Sat Jan 13, 2018 5:20 pm

Thanks, Spirit Rider. It is at times like these that I really wish I had taken accounting classes in college. Trying to catch up now since I am my own bookkeeper. It's been working out fine for the past decade, but with this solo 401k option, it may be too complicated for me to do it correctly.

No I have not made an employee deferral election. I haven't even written myself a paycheck for 2017 yet. So it seems I should reach out to my CPA today and let him know what I would like to do and see if it's not too late. Otherwise, I will just have to do as I have done in the past and write a check (dated Dec 31, 2017 at this point) for my 2017 salary.

Lessons learned in procrastination :|

John Laurens
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Joined: Mon Nov 14, 2016 7:31 pm

Re: Solo 401(k)-Contributing ALL net income?

Post by John Laurens » Sat Jan 13, 2018 6:45 pm

Nothing wrong with Vanguard i401k. You are right that Vanguard’s i401k only allows investor shares. I recommend a Life Strategy or Target Retirement Fund if you use Vanguard’s i401k. There is no admiral share class anyway for those and you get free rebalancing built in.

Disclosure. My solo 401k is with Fidelity.

Regards,
John

Elizabelle
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Joined: Sun Nov 12, 2017 12:23 pm

Re: Solo 401(k)-Contributing ALL net income?

Post by Elizabelle » Sat Jan 13, 2018 6:47 pm

Good to know, thanks, John.

sercorpo
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Joined: Sat Jan 13, 2018 9:28 pm

Re: Solo 401(k)-Contributing ALL net income?

Post by sercorpo » Sat Jan 13, 2018 11:15 pm

Spirit Rider wrote:
Sat Jan 13, 2018 4:18 pm
However, a W-2 employee can never defer 100%. This is because an employee elective deferral must be deducted from payroll not already received and mandatory deductions must occur first. These are income tax withholding, FICA, benefits, etc...
Did you mean to include "income tax withholding" as a deduction that must occur before determining the employee elective deferral? Certainly not federal income tax withholding, right? :confused

I'm trying to figure out exactly what parts of the wage the employee deferral can apply to, vs. what taxes/deductions must first reduce the base wage before the remaining money is eligible for deferral. Your above sentence confused me a bit. Thank you for any clarification!

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

Re: Solo 401(k)-Contributing ALL net income?

Post by Spirit Rider » Sun Jan 14, 2018 1:18 am

If your employee deferral is pre-tax, then the amount not deferred is unlikely to trigger withholding.

However, if the employee deferral is Roth then your entire compensation is taxable. Depending on the amount of the deferral, there quite likely to be withholding required.

Also, state/local income tax withholding rules can be different than the IRS rules.

SGM
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Re: Solo 401(k)-Contributing ALL net income?

Post by SGM » Sun Jan 14, 2018 5:39 am

There were some years when my spouse contributed all of her earned income to the solo 401k/profit sharing plan. It didn't seem to raise any red flags at the IRS. At the time a salary of about $29k per year allowed for the maximum combination of employee and employer contribution as a percentage of her salary. I kept a copy of the calculations that I used in case there were any questions. It was never questioned.

sercorpo
Posts: 3
Joined: Sat Jan 13, 2018 9:28 pm

How to compute max employee deferral from wage

Post by sercorpo » Sun Jan 14, 2018 1:12 pm

Aha, Roth. Mine isn't that.

So, I'm just trying to understand how I compute my employee deferral. S-corp, non-Roth i401k. Let's say a $6000 wage (plus $600 fringe benefit), so $6600 would've been subject to fed income tax, $6000 to FICA. Let's say employee portion of FICA is $460. There would've been $500 fed withholding, some state withholding, and then on the employer side, FICA and fed/state unemployment.

Without a deferral, the corp would pay the employee $6000 wage - $460 employee FICA (=$5540), - $500 fed withholding - $200 state withholding (=$4840), so the employee gets $4840.

Is my understanding correct that if the employee wants to defer the max amount, that would be $5540? And then there's no fed withholding or state withholding necessary on the $6000 wage either; only the $600 fringe is subject to fed income tax now. So, the corp pays the $5540 into the 401k and nothing to the employee, and makes employee+employer FICA, FUTA etc as usual, and lower fed/state withholding.

And then, what's reported on W-2? Is it:
Box 1: $6000 wage+$600 fringe-$5540 deferral=$1060?
Box 3: $6000 wage
Box 4+6: $460 FICA
Box 12: $5540 deferral

Box 1 seems funny, adds up to fringe+FICA.

Thanks if you can help clear this up for me, and apologies if this is a slight shift from the topic (although this is ultimately about me contributing my max to my solo 401k).

nolesrule
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Joined: Thu Feb 26, 2015 10:59 am

Re: How to compute max employee deferral from wage

Post by nolesrule » Sun Jan 14, 2018 1:58 pm

sercorpo wrote:
Sun Jan 14, 2018 1:12 pm
Aha, Roth. Mine isn't that.

So, I'm just trying to understand how I compute my employee deferral. S-corp, non-Roth i401k. Let's say a $6000 wage (plus $600 fringe benefit), so $6600 would've been subject to fed income tax, $6000 to FICA. Let's say employee portion of FICA is $460. There would've been $500 fed withholding, some state withholding, and then on the employer side, FICA and fed/state unemployment.

Without a deferral, the corp would pay the employee $6000 wage - $460 employee FICA (=$5540), - $500 fed withholding - $200 state withholding (=$4840), so the employee gets $4840.

Is my understanding correct that if the employee wants to defer the max amount, that would be $5540? And then there's no fed withholding or state withholding necessary on the $6000 wage either; only the $600 fringe is subject to fed income tax now. So, the corp pays the $5540 into the 401k and nothing to the employee, and makes employee+employer FICA, FUTA etc as usual, and lower fed/state withholding.

And then, what's reported on W-2? Is it:
Box 1: $6000 wage+$600 fringe-$5540 deferral=$1060?
Box 3: $6000 wage
Box 4+6: $460 FICA
Box 12: $5540 deferral

Box 1 seems funny, adds up to fringe+FICA.

Thanks if you can help clear this up for me, and apologies if this is a slight shift from the topic (although this is ultimately about me contributing my max to my solo 401k).
Since you can't defer the income used to pay FICA taxes that income is also taxable.

sercorpo
Posts: 3
Joined: Sat Jan 13, 2018 9:28 pm

Re: Solo 401(k)-Contributing ALL net income?

Post by sercorpo » Sun Jan 14, 2018 7:58 pm

Thanks, nolesrule. It sounds like you're letting me know that the box 1 calc makes sense...and hopefully that the rest of my attempt to understand how to max contribute to my 401k makes sense, too!

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