Business Management

5 Steps You Can Take Now to Ensure Solo 401k Compliance

Expertise: Landlording & Rental Properties, Business Management, Personal Finance, Real Estate News & Commentary, Real Estate Investing Basics
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Investors love the solo 401k because it’s designed for businesses with sole owners. They offer serious benefits. These are like self-directed IRAs made just for investors and the self-employed.

This may seem like a dream come true, but when you’re busy investing or running a business, the management of a 401k can get overlooked. Mistakes can be costly. Making sure your plan is compliant comes down to five easy steps.

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1. Keep Your 401k Current with the IRS

Uncle Sam requires you to update your 401k at least every six years. Failure to make appropriate and timely updates can lead to avoidable fines—and in some cases, cancellation of your plan.

Think about it like your electric bill. It’s highly unlikely you’re paying the same bill now that you were five years ago. Even if you are, discrepancies add up. And what happens when you don’t pay the bill? Lights out.

On the bright side (pun intended), keeping your plan up-to-date is a simple process. Simple steps like scheduling the plan update in your phone or online calendar can help you stay on top of things.

Related: Growing Your 401k vs. Liquidating it to Invest in Real Estate: What’s More Profitable?

2. Accurately Account for Your Funds

You must keep track of any and all types of income. You’ll also need to document their sources. Let’s look at a brief example.

Sampson and Delilah are a married couple. Sampson was making his basic contributions to his retirement account, but came down with muscular atrophy. Whether this had to do with a recent haircut is besides the point. Delilah decided to make contributions to the account in the meantime. Fortunately, even though he was feeling pretty weak, Sampson is a bookkeeping shark. He has mad Excel skills and keeps an eye on everything so the taxman can’t kick him while he’s down.

So, be like Sampson. Make a simple spreadsheet. Our clients like Google Sheets because they’re free, easy to use, and similar to Excel. There are even free templates for tracking income. Get hip.

3. Separate Your Funds by Plan and Participant

Just like the Sampson and Delilah example in the above question, there are some complications when two people contribute to a single account.

You’ll want to isolate Roth accounts from traditional plans as well, in their own space separate from traditional funds. If you’ve followed all of these steps so far, give yourself a pat on the back. You’re more organized than a Container Store manager with OCD, and that’s actually a good thing. If you’re struggling to keep track of everything, get some help from a CPA.

4. File a 5500 with the Department of Labor

Time for some super fun paperwork. Are you wishing you’d become a basket weaver instead of an investor yet? True, basket weavers have fewer forms to tackle—but they’ve also got less money to show for it. Unfortunately, money and paperwork are married in the investing world.  

There are two circumstances where you must fill out a 5500 form for your individual 401k:

  1. When you have over a quarter million in plan assets.
  2. If you intend to close your plan. This is true no matter what you’re rocking in terms of assets. The paperwork is mandatory.

Be aware that this is an annual requirement. Savvy investors like you will ensure they have enough funds within the plan to make this filing worth the trouble.

Some folks are allowed to file a 5500-EZ instead. As the name implies, this is a simplified version of the traditional 5500. When you file this, you’ll need to bust out traditional stamps. You have to submit it by good-old-fashioned snail mail.

The Department of Labor’s website does allow you to file online in the event that you are filing a 5500-SF. Some people prefer this option for convenience alone. As an added bonus, you’re able to track forms filed online in real-time. The SF skips portions of the 5500 like an EZ. If you qualify for the EZ filing, you also most likely qualify for the SF version. When you file a 5500-SF, you can enjoy the simplified format of the EZ form and the luxury of online filing.

Related: Real Estate Notes vs. 401k: Which Investment Wins Out Over 30 Years?

5. Document Contributions and Rollovers

If you make contributions or roll over funds from an IRA or 401k into your individual 401k, you need to state that the rollover is coming from another retirement account. The company rolling over the funds will issue a 1099-R to you. It states that the source of the roll over so you don’t get taxed on it. Unless you like paying tax. If that’s the case, you’re on the wrong website.

If you are making new contributions to an individual 410k, track them on personal and business tax returns. If you’re an S-corp, employee contributions show up on your W-2, and your employer contributions will show up on your 1120S S-corp return, unless you are the sole proprietor, in which case your contributions show up on your personal 1040 on line 28.

Is your head spinning yet? Yes, this portion of tax law in confusing. You may be better off with a professional, but if you can make sense of it, you will save yourself a lot of money.

In short, be updated and organized to keep your enemies at the IRS from sticking you with non-compliance. If you suspect you are out of compliance, meet with your attorney or CPA and get that treated before it is malignant.

Something as seemingly minor as an error on a return can jeopardize your entire retirement plan. So, while these details are tedious, staying on top of them is critical. Uncle Sam loves his paperwork, and the consequences for failure to accurately file are significant. For just the 5500 form, you can expect to shell out anywhere from $25 daily up to a grand total of $15,000. So the lesson here is simple: Maintain accurate records or pay the price. Literally.

Fortunately, you aren’t totally on your own if you’re experiencing challenges with filing—or any matters related to 401ks. A solid CPA and real estate attorney can do wonders for any real estate investor. Their services aren’t cheap, but they are well worth the investment in the interest of protecting your other investments. These professionals exist for a reason, so make use of them if necessary.

Any questions about solo 401k compliance?

Leave them below!

Scott Royal Smith is an asset protection attorney and long-time real estate investor. His law firm, Royal Legal Solutions, helps thousands of real est...
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    Pradeepan Venukanthan from San Jose, CA
    Replied over 2 years ago
    Great information Scott. Love it. I recently opened up a Solo 401k account With my solo 401k folks. I even opened the fidelity non prototype brokerage account to manage my funds. This way I can track what comes in and goes out. I am not sure if opening a bank account makes sense they seem to charge lot of money to maintain the account. What investments do you do with your Solo 401k? Any advice here? I am planning to invest portion of it in Lending club, real estate and low cost mutual funds/ETFs etc.
    Scott Smith Attorney from Austin, TX
    Replied over 2 years ago
    One of the things I like most about the SoloK is the freedom to invest in what you understand and diversify at the same time. Some of my investments include real estate and cryptocurrency. I have some other information on investing in real estate with retirement funds that I can send you. While I can’t speak to your exact situation, my general advice from one investor to another is to go with what you know. Some people like to keep a majority of funds in traditional investments and then maybe 20% to “play” with. Really, it will depend on you and your goals. A financial adviser or attorney you trust could be really helpful for recommendations in your exact situation.
    Brad Polvorosa Developer from Oakland, CA
    Replied over 2 years ago
    Scott, thanks for the info. I am researching the various options of “rolling-over” my active SEP-IRA into a solo 401K to invest in RE projects. I am in CA, and likely investing locally. Do you have any recommendations on companies that offer the services? I just looked online at Pradeepan’s provider MySolo401K and they sound good. Any others info on BP we should read. Thank you.
    Scott Smith Attorney from Austin, TX
    Replied over 2 years ago
    Hi Brad, You may find this article on SEp IRA rollovers helpful. It’s mostly about transferring to a Self-Directed IRA LLC, but there’s some information in there that you may be able to use: It’s great that you’re doing your homework before committing to any company. That’s a good habit to be in!
    Darien Sloan Wilson from Littleton, Colorado
    Replied over 2 years ago
    Thank you so much for this article! The Bigger Pockets e-mail arrived in my inbox, I saw this article, and I thought, “I’m sure we’re fine, but I’ll skim this to be sure.” Guess what? I had no idea I was supposed to be filing the 5500s! Thankfully, my 2017 filing will not be late, but I had to pay a $1,000 fee for not filing in 2015 and 2016. I just dropped them in the mail. Reminders to file next year are on my calendar, but I’m sure I won’t forget again. My husband kept saying, “What if you hadn’t read that article?!” Sometimes you don’t know what you don’t know. I’m frustrated with Fidelity for not flagging this to me when we crested $250k in our SEP 401ks in 2015, but I’m so thankful for your article so I didn’t fall even further behind.
    Scott Smith Attorney from Austin, TX
    Replied over 2 years ago
    Hi Darien! I’m so happy that this was helpful to you. Sorry to hear about your fee, but very glad that you were able to turn this information into a practical solution to avoid it in the future. Custodians don’t always tell you the things you need to know about compliance, and I knew this information because it was my job to know. You’re definitely not the only one to be unsure about 401k compliance issues. In my experience, what we don’t know we don’t know can cause a lot of life’s problems. What a great coincidence that you read this in time. Very cool!
    Christopher Burton
    Replied 10 months ago
    Hi Scott, I run my own S-Corp and have made maximum contributions to my 401K plan (which I administer myself) for the last two years, and I accidentally made an auto pay contribution from my salary in January. During the COVID-19 Pandemic I've watched the balance drop nearly 40% against the initial investment. Unfortunately, the plan is limited in investment options, so I decided to roll the 401k into a SEP-IRA in order to give me more control over the investments. As the administrator of the plan the only way to approve the roll-over distribution was to terminate employment of myself within the plan, although I remain employed by my S-Corp. I understand I will need to file form 5500 for ending the 401k plan, but in researching my options I'm concerned termination of employment within the plan may not be compliant with IRS requirements, when I am still actively employed by my s-corp? Also, as I have already made a 401K contribution this year, it seems I may not be permitted to make an SEP-IRA contribution in the same calendar year? There is very little information about my circumstances online. I still have time to reverse the roll-over process if needs be, so any advice on the above and any additional compliance requirements would be greatly appreciated. Thanks and stay well!