Solo 401k Question - Low Self Employment Income

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JiminyCricket
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Solo 401k Question - Low Self Employment Income

Post by JiminyCricket » Sun Oct 29, 2017 2:25 pm

Hi All,

I could use some help. A potential tax advisor I interviewed last week reviewed our 2016 tax returns and indicated I should consider setting up a Solo 401k in my wife's name related to her self-employment income of around $3,600.00 annually (part-time work she does while watching our kids full time at home). Given my income is several hundred thousand dollars, the tax advisor indicated the effective tax rate on her small income is pretty darn high (in excess of 50%). I did some research into Solo 401ks and have the following questions:

1. Is a Solo 401k the same as an individual 401k?
2. If my wife earns $3600 in 2017, what is the maximum she can contribute (I am seeing calculations of $3,345.67)?
3. What provider(s) would you recommend (Vanguard, TD Ameritrade, Fidelity, etc.)? I would expect to invest in low cost index funds.
4. Can we roll over her 401k from a past employer? Should we?
5. Any other facts that we should consider?
6. Do you agree we should do this?

Thank you to any one who takes the time to respond. I appreciate it.

aristotelian
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Re: Solo 401k Question - Low Self Employment Income

Post by aristotelian » Sun Oct 29, 2017 2:40 pm

Yes, solo 401k and individual 401k are one and the same. We do the same thing for my wife's side gig.

fabdog
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Re: Solo 401k Question - Low Self Employment Income

Post by fabdog » Sun Oct 29, 2017 3:06 pm

to answer a few more of your questions

On the contributions, amount seems about right. At low earnings, you can put in everything except half the self employment tax

I used Schwab for mine, the setup was easy, and since I had about the same annual amount as your wife coming in irregular intervals, their low cost low minimum funds were great

Not clear there is an advantage to roll over her old 401(k) to this vehicle. IF she has poor/high expense funds in her old 401K, you could rollover to the solo, or into an IRA.

If you don't need the money to spend (sounds like you don't) then I would go for it

account needs to be open by Dec 31st of this year

Mike

Spirit Rider
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Re: Solo 401k Question - Low Self Employment Income

Post by Spirit Rider » Sun Oct 29, 2017 4:02 pm

  • The IRS refers to these as one-participant 401k plans. All the other names are marketing terms. Vanguard & Scwab = Individual 401k, TD Ameritrade = Solo 401k, Fidelity = Self-Employed 401k.
  • $3,345.67 is correct if her Schedule C net business profit (income - expenses) = $3600.
  • Schwab is better for low dollar amounts.
  • Rollovers to Vanguard's Individual 401k are not allowed, but are allowed by the others. fabdog covered the pros and cons. Also, her past employer's 401k may have better asset protection depending on your state.
  • As fabdog stated; She must adopt a one-participant 401k by 12/31. She must also make a written employee deferral election by then (100% of compensation). But she has until your tax filing date including extensions to make the contributions.
  • Every little bit helps when it comes to taxes and increasing her retirement plan contributions. This also makes sense in thee interest of fairness. You may treat it as one family portfolio, but they are still individual accounts. Happy wife -> happy life

JiminyCricket
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Re: Solo 401k Question - Low Self Employment Income

Post by JiminyCricket » Sun Oct 29, 2017 9:59 pm

Thanks everyone. Question for Spirit Rider: what do you mean by "her past employer's 401k may have better asset protection depending on your state"?

Spirit Rider
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Re: Solo 401k Question - Low Self Employment Income

Post by Spirit Rider » Sun Oct 29, 2017 11:10 pm

An employer retirement plan that only includes the owner(s) and optionally their spouse(s) is not protected under ERISA's anti-alienation provisions. This means that while a one-participant 401k receives unlimited federal bankruptcy protection, it receives no federal creditor asset protection.

Therefore, creditor asset protection is subject to state laws. While most state laws provide creditor asset protection, some don't. You need to check your specific state's laws.

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djpeteski
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Re: Solo 401k Question - Low Self Employment Income

Post by djpeteski » Mon Oct 30, 2017 7:12 am

Despite being on this site, I am a Fidelity guy. They offer a solo 401K free of charge.

I believe Vanguard does the same, so which every one of those that you like is awesome.

Many other providers will charge you 400-1000 per year to administer the same thing. Quite a nice savings going with Vanguard or Fidelity.

avalpert
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Re: Solo 401k Question - Low Self Employment Income

Post by avalpert » Mon Oct 30, 2017 7:35 am

djpeteski wrote:
Mon Oct 30, 2017 7:12 am
Despite being on this site, I am a Fidelity guy. They offer a solo 401K free of charge.

I believe Vanguard does the same, so which every one of those that you like is awesome.

Many other providers will charge you 400-1000 per year to administer the same thing. Quite a nice savings going with Vanguard or Fidelity.
All the big brokerages offer a free plan - some are better fits for different people. Vanguard's doesn't allow rollovers and you have to use investor share funds, Fidelity's doesn't allow Roth accounts or loans.

If those still fit your needs great, if not look at other options at TDA, Etrade or Schwab. Vanguard and Fidelity are far from special in this space.

JiminyCricket
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Re: Solo 401k Question - Low Self Employment Income

Post by JiminyCricket » Mon Feb 12, 2018 4:07 pm

Hi all,
One quick follow up question here: according to the online calculators I’ve found, we are able to contribute $3,345.67 to her solo 401k out of $3,600 in self-employed 1099 income. When we contribute to the Schwab account, it asks us to specify whether this is an employer or employee contribution. She is a sole-proprietor. Please advise whether we should specify this as an employer or employee (does it even matter?). Thanks in advance.

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Eric
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Re: Solo 401k Question - Low Self Employment Income

Post by Eric » Mon Feb 12, 2018 4:29 pm

This is moot for the original poster, since he has already opened a solo 401(k), but for others: At very low earnings levels you may instead want to consider a SIMPLE IRA. It's a bit less involved.

https://investor.vanguard.com/what-we-o ... simple-ira

TwstdSista
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Re: Solo 401k Question - Low Self Employment Income

Post by TwstdSista » Mon Feb 12, 2018 4:43 pm

Employee. The employer contribution would be limited to a percentage of earnings, and you're contributing more than that.

I believe the employee contribution should have been determined by 12-31-2017 in writing.

ETA: for a 2017 contribution, the solo 401k must have been opened in 2017.
Last edited by TwstdSista on Mon Feb 12, 2018 5:18 pm, edited 1 time in total.

terran
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Re: Solo 401k Question - Low Self Employment Income

Post by terran » Mon Feb 12, 2018 4:57 pm

Something else to consider is that if your wife starts a solo 401k she will then be covered by a retirement plan at work. This may or may not matter depending on what your income is (if your MAGI is over $189k it won't matter), but there are implications of that for the deductibility of traditional IRA contributions ($5500 vs ~$3400). See https://www.irs.gov/retirement-plans/pl ... an-at-work

Spirit Rider
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Re: Solo 401k Question - Low Self Employment Income

Post by Spirit Rider » Tue Feb 13, 2018 1:48 am

terran wrote:
Mon Feb 12, 2018 4:57 pm
Something else to consider is that if your wife starts a solo 401k she will then be covered by a retirement plan at work.
Your comment was probably meant in the context of actually making the contribution, but for clarity "covered" is an inexact term. Unfortunately even the IRS uses this in places.

The correct term is "active participant". You are only considered an active participant in a 401k for tax years contributions are made by the participant or on their behalf. Only an active participant is subject to the more stringent traditional IRA deduction income limits.

terran
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Re: Solo 401k Question - Low Self Employment Income

Post by terran » Tue Feb 13, 2018 1:58 am

Spirit Rider wrote:
Tue Feb 13, 2018 1:48 am
terran wrote:
Mon Feb 12, 2018 4:57 pm
Something else to consider is that if your wife starts a solo 401k she will then be covered by a retirement plan at work.
Your comment was probably meant in the context of actually making the contribution, but for clarity "covered" is an inexact term. Unfortunately even the IRS uses this in places.

The correct term is "active participant". You are only considered an active participant in a 401k for tax years contributions are made by the participant or on their behalf. Only an active participant is subject to the more stringent traditional IRA deduction income limits.
Interesting. I didn't know that. What I've always seen is the table I linked to that uses the term covered.

For future reference, do you happen to know where the active participant requirement is laid out?

Spirit Rider
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Re: Solo 401k Question - Low Self Employment Income

Post by Spirit Rider » Tue Feb 13, 2018 2:12 am

Its late I'll look for it tomorrow.

Spirit Rider
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Re: Solo 401k Question - Low Self Employment Income

Post by Spirit Rider » Tue Feb 13, 2018 3:49 pm

terran wrote:
Tue Feb 13, 2018 1:58 am
For future reference, do you happen to know where the active participant requirement is laid out?
The IRA deduction income limitation is stated in 26 U.S. Code § 219 - Retirement savings, (g) Limitation on deduction for active participants in certain pension plans.

Active participant is defined in IRS regulations in 26 CFR 1.219-2 - Definition of active participant.

For a Defined Benefit (DB) plan, you are an "active participant" if you meet the eligibility requirements. This is probably where the term "covered" comes from.

However, for a Defined Contribution (DC) plan, you are only an "active participant" if you make employee contributions or receive employer contributions and/or forfeitures.

terran
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Re: Solo 401k Question - Low Self Employment Income

Post by terran » Tue Feb 13, 2018 4:05 pm

Interesting. Thanks for that. I suppose for most people it wouldn't be a factor since it would mean giving up a match, but definitely something good to know for those with a solo 401k and low income.

Spirit Rider
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Re: Solo 401k Question - Low Self Employment Income

Post by Spirit Rider » Wed Feb 14, 2018 1:39 pm

terran wrote:
Tue Feb 13, 2018 4:05 pm
Interesting. Thanks for that. I suppose for most people it wouldn't be a factor since it would mean giving up a match, but definitely something good to know for those with a solo 401k and low income.
P.S. I found a concise reference in plain English.

2017 General Instructions for Forms W-2 and W-3, Specific Instructions for Form W-2, Box 13—Checkboxes, Retirement plan, page 20.

Generally, an employee is an active participant if covered by (a) a defined benefit plan for any tax year that he or she is eligible to participate in or (b) a defined contribution plan (for example, a section 401(k) plan) for any tax year that employer or employee contributions (or forfeitures) are added to his or her account.

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