May have overinvested in Solo 401(k) + Roth IRA

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Topic Author
Tese
Posts: 9
Joined: Thu Dec 01, 2016 1:01 pm

May have overinvested in Solo 401(k) + Roth IRA

Post by Tese » Mon Dec 02, 2019 9:06 am

As the title says--

I made a healthy contribution to my solo 401(k) this year, and maxed out my Roth IRA at $6,000. As someone suggested in another thread, I withdrew some cash from a taxable investment account to cover living expenses in order to put as much as possible away in the tax-advantaged accounts, and I'm happy with how it worked out.

Except, unfortunately, when I made the 401(k) contributions earlier in the year I assumed earnings from my consulting business would be just a few thousand dollars higher than they've turned out to be. My total earnings are still higher than 401(k) contrib--they are not, however, higher than those contributions + the $6,000 I put in Roth.

So, between the two accounts, I've probably invested about $4,000 more than I've earned this year. Is this a problem? I know you can't put more in a given retirement account than you've earned in a year, but is that limit only for a given retirement account, or both accounts total? And if this is a problem, how should I fix it in the next month? (I assume I contact the brokerage and ask them to withdraw an excess contribution, but what should I consider in terms of taking out the excess from the 401(k) vs the Roth account?)

lakpr
Posts: 3064
Joined: Fri Mar 18, 2011 9:59 am

Re: May have overinvested in Solo 401(k) + Roth IRA

Post by lakpr » Mon Dec 02, 2019 9:12 am

Did you earn at least the amount of money you invested in Solo 401(k), and that money is more than $6000?

Contributions to tax-deferred accounts reduce your income, but as long as that reduced income is more than $6000, you can rest easy. Roth IRA contribution is completely legitimate in this case. Yes, this is a case where the total contributions are more than earned income.

Conceivably, one can earn $6000 in earned income for the entire year, put $6000 in Roth 401k and another $6000 in Roth IRA, and that's perfectly fine.

Edit: based on the line below, you are perfectly fine. But based on the line below, it sounds like you might be in the 12% bracket, and if your Solo 401k plan allows Roth contributions, I suggest contacting the plan provider and ask if your contributions can be re-characterized to Roth contributions as well. The 12% bracket is not going to be around beyond 2025.
Tese wrote:
Mon Dec 02, 2019 9:06 am
My total earnings are still higher than 401(k) contrib--they are not, however, higher than those contributions + the $6,000 I put in Roth.

Topic Author
Tese
Posts: 9
Joined: Thu Dec 01, 2016 1:01 pm

Re: May have overinvested in Solo 401(k) + Roth IRA

Post by Tese » Mon Dec 02, 2019 9:23 am

Did you earn at least the amount of money you invested in Solo 401(k), and that money is more than $6000?
Yes.
Conceivably, one can earn $6000 in earned income for the entire year, put $6000 in Roth 401k and another $6000 in Roth IRA, and that's perfectly fine.
Nifty! That said, my Solo 401(k) is not Roth--I don't think Schwab offers a Roth option for Solo 401(k)s at this time, though I can look into it as you suggest.
I'm also hoping to be in a higher tax bracket in coming years due to upping my earnings. I'm not living off cheese sandwiches, but the rush of business I had last November didn't materialize this year for whatever reason, and I need to adjust my business plan. Another topic for another day...

Thank you for your insight!

HomeStretch
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Joined: Thu Dec 27, 2018 3:06 pm

Re: May have overinvested in Solo 401(k) + Roth IRA

Post by HomeStretch » Mon Dec 02, 2019 9:32 am

Tese wrote:
Mon Dec 02, 2019 9:23 am
That said, my Solo 401(k) is not Roth--I don't think Schwab offers a Roth option for Solo 401(k)s at this time, though I can look into it as you suggest.
Schwab does not offer a Roth option for its prototype Solo 401k. Your options to amend your plan to a prototype plan that allows Roth include E*Trade and TDA (not sure of any others). Vanguard’s plan allows Roth but it’s not an option for you as it won’t accept rollovers in.

lakpr
Posts: 3064
Joined: Fri Mar 18, 2011 9:59 am

Re: May have overinvested in Solo 401(k) + Roth IRA

Post by lakpr » Mon Dec 02, 2019 9:33 am

Tese wrote:
Mon Dec 02, 2019 9:23 am
Nifty! That said, my Solo 401(k) is not Roth--I don't think Schwab offers a Roth option for Solo 401(k)s at this time, though I can look into it as you suggest.
I'm also hoping to be in a higher tax bracket in coming years due to upping my earnings. I'm not living off cheese sandwiches, but the rush of business I had last November didn't materialize this year for whatever reason, and I need to adjust my business plan. Another topic for another day...
I don't know if you have the stomach to see this to its logical conclusion -- BUT, E*Trade does offer in-plan Roth conversions, and also allows roll over from the prototype Solo 401k plans from other providers. Yes Schwab does not allow Roth contributions, but if you can get your Solo 401k amended for E*Trade to be the plan provider, and you can get this done by December 31, 2019 ... then I think you can re-characterize the already made contributions to Roth contributions convert past pre-tax contributions to Roth. With only 30 days left, that may be a bit of tall order, but just food for thought.

Edit - HomeStretch got to it earlier than me :D
edit-2: The strike-through text and blue text, based on correction below from Spirit Rider
Last edited by lakpr on Mon Dec 02, 2019 11:34 am, edited 2 times in total.

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

Re: May have overinvested in Solo 401(k) + Roth IRA

Post by Spirit Rider » Mon Dec 02, 2019 11:29 am

You can not recharacterize pre-tax 401k contributions to Roth and vice versa. Yes, you can do an in-plan Roth rollover (IRR) at E-Trade, but that does not change the deductions for self-employed retirement plan contributions. IRA compensation for self-employed only individuals = business profit - 1/2 SE tax - pre-tax retirement plan contributions.

However, the OP should most definitely amend and do a trustee -> trustee transfer of their one-participant 401k plan to a provider that offers designated Roth accounts for next year. E-Trade is likely the best option.

There are three tax reasons to make Roth 401k contributions in the OP's circumstances. Unlike pre-tax contributions, designated Roth contributions do not:
  1. Reduce qualified business income (QBI) and thus the 20% QBI deduction.
  2. Reduce compensation available for the self-employed health insurance deduction.
  3. Reduce compensation available for IRA contributions.
With $6K in self-employed earned income, one can make/take a $6K; Roth 401k contribution, QBI deduction, self-employed health insurance deduction AND an IRA contribution.

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