Posted almost 7 years ago

Advantages of a Self-Directed Solo 401k

A self-directed Solo 401k plan is perfect for sole proprietors, small businesses owners and independent contractors. A Solo 401k Plan (also known as Owner-Only 401k or Individual 401k) can be adopted by any business with no employees other than the owner and his or her spouse. The business can be established as a sole proprietorship, LLC, corporation, or partnership. A Solo 401k plan offers the same advantages as a Self-Directed IRA LLC (also known as Checkbook IRA), but without having to hire a custodian or create an LLC.

Related: The Biggest Misconception About Solo 401k Eligibility

The Solo 401k plan is unique because it is designed specifically for small, owner-only business. It’s a tax efficient and cost effective plan that offers all the benefits of a Self Directed IRA, but also comes with a bunch of additional benefits. There are many features of the Solo 401k Plan that make it so appealing and popular among small business owners.

Checkbook Control without Custodian Fees

In a Solo 401k Plan, after the plan is set up, there is a trust that is also created to hold assets of the plan. Usually, plan participant is designated as trustee of the plan, which gives him or her “checkbook control” over the Plan’s assets.  Making an investment with a Solo 401k Plan is as easy as writing a check. 

Another significant benefit of the Solo 401k is that unlike with SD IRA it does not require the participant to hire a trust company to serve as trustee or custodian. This means that all assets of the 401k trust are under the sole authority of the Solo 401k participant. A Solo 401k plan allows you to eliminate the expense and delays associated with an IRA custodian, enabling you to act quickly when the right investment opportunity presents itself.  And because trust account for Solo 401k Plan may be opened at any local bank, you won’t be required to pay custodian fees for the account as you would in the case of an IRA.

High Contribution Limits

While an IRA only allows a $5,500 contribution limit (for the year 2017) plus additional $1,000 “catch up” contribution for those over age 50, the Solo 401k annual contribution limits are significantly higher: $54,000 plus $6,000 in "catch up" contributions with combined maximum of $60,000 per participant for the year 2017. Also, if your spouse receives compensation from the business, he or she can also participate in the plan which would effectively double the contributions limit.

Under the 2017 new 401k contribution rules, a plan participant under the age of 50 can make a maximum employee deferral contribution in the amount of $18,000.  That amount can be made in pre-tax or after-tax (Roth) dollars. On the profit sharing side, the business can make a 25% (20% in the case of a sole proprietorship or single member LLC) profit sharing contribution up to a combined maximum, including the employee deferral, of $54,000.

Plan participants who are over the age of 50 can make a maximum employee deferral contribution in the amount of $24,000. That amount can be made in pre-tax or after-tax (Roth) dollars. On the profit sharing side, the business can make a 25% (20% in the case of a sole proprietorship or single member LLC) profit sharing contribution up to a combined maximum, including the employee deferral, of $60,000.

While you have the option to shelter large portion of your income, contributions to a solo 401k plan are completely discretionary. You always have the option to try to contribute as much as legally possible, but you always have the option of reducing or even suspending plan contributions if necessary. In other words, you have the ability to make contributions to your Solo 401k Plan, but are not required to do so.

Unlimited Investment Options

With a truly self-directed Solo 401k Plan, you will be able to invest in almost any type of investment opportunity you discover, including: real estate (residential rentals, commercial, tax deeds, tax liens, foreclosures, raw land, multi-family, etc.), private businesses, precious metals and hard money lending as well as stock and mutual funds. Your only limit is your imagination. The income and gains from these investments will flow back into your Solo 401k Plan tax-deferred  or tax-free in the case of Roth. Making an investment with your Solo 401k Plan is as simple as writing a check. As trustee of the Solo 401K Plan, you will have total control over your retirement assets to make real estate and other investments without custodian approval.

The only investments that are not allowed are collectables and subchapter S-corporations. Plan is also restricted from conducting any transactions with a 'disqualified person' which is defined as account owner and his/her  spouse, lineal ascendants/descendants and their spouses and any fiduciary to the plan. 

Tax-Free Investing

With an IRA, those who earn high incomes are disallowed from contributing to a Roth IRA. The Solo 401k plan contains a built-in Roth sub-account which can be contributed to without any income restrictions. With a Roth Solo 401k sub-account, you can make Roth type contributions while having the ability to make significantly greater contributions than with an IRA.

The awesome benefits of a Roth is that not only investments grow tax-deferred, but the distributions come out tax-free after retirement. Also, keep in mind that since contributions to a Roth have been taxed already - they can come out tax-free and penalty-free before retirement. 

Related: Roth IRA, Roth 401(k), Roth Solo 401(k) — What’s the Difference?

Participant Loan Feature

If you have an IRA and ever need to access those funds for personal needs before retirement - you will be taxed and penalized on both the state and federal levels. Solo 401k Plan on the other hand has participant loan feature, which allows plan participants to borrow up to $50,000 or 50% of their account value (whichever is less) for any purpose at a low interest rate of Prime plus 1%. This offers Plan participants the ability to access up to $50,000 for use for any purpose, including paying personal debt or funding a business.

Exempt from UDFI

When an IRA buys real estate that is leveraged with mortgage financing, it creates Unrelated Debt Financed Income (“UDFI”) – a type of Unrelated Business Taxable Income (also known as “UBTI”) on which taxes must be paid. The UBTI tax is approximately 39%. Whereas, with a Solo 401k plan, you can use leverage without being subject to the UDFI rules and UBTI tax. This exemption provides significant tax advantages for using a Solo 401k Plan versus an IRA to purchase leveraged real estate.

Pull Multiple Accounts Together

A Solo 401k plan can accept rollovers of funds from another retirement savings vehicles, such as Traditional IRA, SEP IRA, or a previous employer’s 401k, 457 or 403B. Thus, you can directly rollover your IRA or qualified plan funds to your new Solo 401k Plan. Please note: Roth IRA funds cannot be rolled into a Solo 401k Plan.

Cost Effective and Easy to Administer

Solo 401k plans are easy to operate. There is no annual filing requirement unless 401k plan exceeds $250,000 in assets, in which case you will need to file a short information return with the IRS (Form 5500-EZ). And because there is no Custodian or Third Party Administrator you will also benefit from reduced cost to operate the plan.

Who is Eligible for a Solo 401k?

You should also be aware that not everyone will qualify for a Solo 401k (although most people can). Solo 401k can be established by anyone who has legitimate self-employment activity (part time is OK) and who does not have full time employees working for them. Independent contractor are not considered employees. It can be any type of legal business structure: LLC, corporation, partnership, sole-proprietorship, etc. (yes, you don't need to be incorporated to do it, just sole-proprietorship who files schedule C on his tax return is sufficient). It can be a side business in addition to the full time job you have working for your employer. Here are some examples of legitimate business activity:

  • Doctor
  • Attorney
  • Property Manager
  • Network Marketing Business
  • IT consultant
  • Registered Nurse receiving 1099 income
  • Flipper
  • Wholesaler
  • Day Trader
  • Contractor
  • Independent consultant
  • Reselling items on ebay
  • etc, etc, etc...

Many real estate investors are utilizing self-directed Solo 401k plan to grow their wealth in a tax-deferred environment. It can be a powerful wealth-building tool for you too! 

Related: Self-Directed Solo 401k - Q & A (forum discussion)

Leave your comment below and let's talk!


Comments (85)

  1. Dmitriy,

    Reading through your post and several responses that you have provided and I am not sure if I am understanding my options.  I had heard that I can create an LLC (for the business) and a separate self directed 401K.  The SD 401K can loan to the LLC since it is a separate legal entity and is not a prohibited person.  So if I wanted to loan from my 401K to the LLC with a Mortgage and Note agreement between the two entities, is this permissible for a real estate deal?  Thanks for all your posts that I have been reading, sorry for probably such a basic question, but most of this is new to me.  I haven't set up an LLC yet, but looking at all the components I need to put in place for my business.


  2. so I am a bit confused - the "benefits" include almost any type of investment, real estate, flipping, land, etc... How can I open a Solo K and not violate the prohibited transactions rules if what I want to do is exactly what the claimed benefits are? Or, is there a way I can work with buddy that does the purchasing to keep it at arms length?

    if I open a brokerage account for my roth and trade stocks - the profits stay in the account and remain tax free.  Why can't I do this with raw land in a Solo k?  or how can a person do this in a Solo k?  I want to fund the account with income from my business, but then buy raw land and flip it inside the Solo K.  thanks for any help


  3. Hi Dmitriy, I have a Rollover IRA with TD Ameritrade and am currently self-employed as a part-time Lyft driver. Can I roll over the TD Ameritrade Rollover IRA into a self-directed Solo 401K to invest primarily in real estate flips (purchase property, fix it up, sell it for a profit)? Thanks!


  4. Dmitriy thanks for writing this excellent article. 

    My goal is to start investing in real-estate and open a Solo Roth (401)k.  My plan is to open two LLCs. One for holding properties and one for management. Conceptually, I purchase property in my name, then move the property into the holding company. Then, rents from the holding company pay "wages" to the management company. Basically my holding company would be paying for management. Would this count as "earned income?"Is there a simpler way to do this?


  5. Hi Dmitriy, thanks for this insightful article. 

    What is the advantage in investing in real estate with funds in a Solo 401k, vs. with funds outside of a retirement account (for example, as its own entity in an LLC)?

    My understanding is that real estate is already a tax-advantaged investing vehicle, so putting real estate investments inside of a retirement account seems a bit overkill. On the other hand, there is a tradeoff in that investing in real estate with funds in a Solo 401k would restrict you from using that money until retirement age, which is counterproductive if your goal with real estate investing is early retirement.

    My thinking based on my research so far is that it would be best to grow assets in a Solo 401k with traditional assets such as stocks, bonds, and REITs (which would have tax benefits on your ordinary income from your annual contribution); and to invest in real estate for diversification and higher returns, outside of a retirement account.

    Am I missing anything in my thinking here? I greatly appreciate your perspective.


  6. Mr. Fomichenko, My wife and I are making our plans to start investing in real estate in 2018. I just discovered your company today while doing research on how to use retirement accounts to invest in real estate. What a gold mine! I truly appreciate your clear and concise explanations. Perfect for newbies like us. Thanks for this blog post. So far most of my initial question are getting answered. A bit of information overload though. My main take away thus far is that a Solo 401K is a superior vehicle over a SD IRA to give the most flexibility for those engaged in real estate investing. We will be in touch soon. Thank you again.


    1. Rommel, thanks for reading my article and I'm glad you found it useful. I understand how you might feel information overload, it might be too much to take all at once. Feel free to contact me directly and I would be glad to help you navigate through any questions you might have.


  7. Can you contribute more than 100% of income derived from said business?  For example, if i make $5,000 from my side business, but $100,000 from my regular job, can I contribue $10,000 to the solo 401k or am I maxed out at $5,000?


    1. Guy, contributions can never be more than your earned income. If your self-employment income is $5,000 - you have to subtract half of the SE tax from $5K and the rest you can contribute. Your income from a job has no affect on your ability to contribute to a Solo 401k. 


  8. Can more than one loan be taken at a time from the solo(k)? 


    1. Scott, if plan documents allow for multiple loans then more than one loan can be taken from the Solo 401k.


  9. Dmitriy, thank you for your response.


    1. You are welcome Katia, happy to help!


  10. I manage 3 rental properties and don't work for any employer. The properties are jointly owned by my husband and I. My husband has a full time job. Is being a landlord make me eligible for solo 401k plan? Can I open solo 401k plan with the funds from rent during 2016 and 2017?


    1. Katia, being a landlord does not make you eligible for a Solo 401k plan. You are investor rather than business owner or self-employed. When you are self-employed you generate "earned" income, but the income from rentals are "passive".


  11. Hi, I am looking to open a self-directed 401k, in addition to my W-2 day job 401k. Could I use income from a 50/50 partnership LLC to fund the solo self-directed 401k? 

    Also, assuming I max my W-2 401k, how much can I contribute to the solo SD 401k? (For sake of example, assume LLC makes $30,000, I split the profit 50/50, and my partner is not partaking in my solo SD 401k)


    1. Andy, you didn't describe what the partnership is doing, that would make a difference. Solo 401k contributions consist of two parts: 

      1) Employee elective deferrals, the limit on that is per individual and is $18,000 therefore if you already max out your contributions at the 401k at work you can't put anymore as an employee

      2) Profit Sharing contributions: this contribution is made by the business and is 20% of your compensation. 

      Please feel free to reach out to me directly so we can set up a call and discuss the details of your situation. 


      1. Thanks for your post Dmitriy.

        I am just getting started investing. My father (who is retired) and I (working full time in accounting), are planning to begin a RE Investment business, primarily focusing on Fix & Flips, with some rentals as well.

        Can the Solo 401K apply if this is set up as a partnership and there are 2 owners? 

        How would this apply, and are there any work arounds for my father to distribute earnings to me with a tax advantage, or can other investment properties be purchased through the S401K, and sold to me with a new LLC?


      2. Bryan, if you and your father own a business together and there are no other employees - your business can adopt a Solo 401k plan and you both can participate in it. 

        Your ability to contribute to your Solo 401k will depend on your share of income you derive from your business (the same for your father). 

        You can buy investment property in your Solo 401k, but it must be "arms length" transaction, meaning than neither you nor another disqualified person (or entity) can not be part of the transaction. 


  12. Dmitriy, amazing post first of all! My wife and I are both self-employed in health care and I would like to set up two self-directed 401(k) plans, one for her and one for me. 

    If I understand self-directed 401(k) plans correctly, to set up this plan, go into our bank, set up the trust account that will control the plan. From that, fund the accounts, have checks printed for each and we can then write checks to invest in anything. This could be to buy a property or to fund a brokerage account. And this brokerage account would be controlled by the 401(k) trust account. Am I right here?

    Thanks!


    1. Hello Gordy, thanks for reading my blog and I'm glad that you found this article helpful!

      I need to get a little better understanding of your situation, but typically you just need one plan with two participants. This way you can keep things simple and the cost down. Please contact my office and request a complimentary consultation so that we can discuss your situation. 

      Regarding the plan setup: bank will not be able to help you setup a self-directed Solo 401k plan, but after the plan and trust is established you can open account for a trust at the bank. To get a better understanding of the entire process I would suggest that you watch this video which has a diagram and flow chart of what takes place during the setup and maintenance of the plan:

      http://www.sensefinancial.com/solo401k-webinar-rec...

      Let me know if you have any other questions. 


  13. Hi Dmitriy,

    My Solo 401(k) owns 93% of a home. The other 7% is owned by my wife as a member in the LLC that holds title to the home. The Solo is also a LLC member. Can the tenants of the home sue the LLC? 

    If the LLC can be legally sued, but not the Solo portion, should any court award or settlement be used to reduce my wife's partnership interest in the home?

    Thanks!


    1. Ed, first of all, if you are being sued or are about to be sued you must consult a legal counsel. I am not an attorney and can not provide you with the legal advice.

      I can try to provide you with some guidance, but I need you to clarify your situation. Is the home you are talking about owned 100% by the LLC, which has two members - your Solo 401k 93% and your wife 7%. Or is it owned as TIC with two owners - your 401k and your wife?


  14. Dmitriy,

    Could you please give a guide normally where to open a solo? I talked to Bank of American and I was told the SOLO will not let me invest on Real Estate.

    Thanks.


    1. @Huiping Sheng,

      Bank of America (nor any other major financial institutions) does not establish self-directed Solo 401k plans. You need to contact service provider specializing in this kind of retirement plans such as our company Sense Financial, after we create the plan for you then you can open the account for it at the bank using the instructions we provide. 


  15. Hi Dmitriy, long time no talk.  On a non recourse debt financed property in a solo K, can it be raw land?  Or home on acreage?  Does the IRC spell that out?


    1. Hi Jon, you can finance any property, the only thing is that it will not be easy to find a lender who would finance raw land. Probably have to find some private lender. Most lenders specializing in non-recourse financing will not be willing to lend on that.


      1. in the case I'm thinking of, the seller may finance.  Thanks!


  16. Dimitry,

    what happens if you close the company used as the basis for the solo 401K trust?


    1. We would have to amend your plan documents. Please contact your Account Manager with details and we will assist you. 


  17. Dmitriy,

    Can a solo 401k be a member of a single member LLC and have checkbook control the same way the IRA LLC does?


    1. @Casey Barry

      First, Solo 401k does not have to be a member of a single member LLC in order to have a checkbook control. You are correct, that LLC is required with an IRA in order to obtain checkbook control. But because custodian is not required with a Solo 401k plan, all plan assets can be held in the trust created for this reason and you can be designated trustee of this trust, which give you ability to open up a checking account in the name of your Solo 401k trust.

      The LLC can be added to the Solo 401k plan for the liability protection reasons, but again, it is not required to obtain a checkbook control. 

      Let me also add that if you are working with a custodian to set up your Solo 401k plan and they are acting as TPA, in this case the LLC will provide checkbook control (keep in mind that LLC comes with additional cost which is really unnecessary for the Solo 401k). 


  18. Dmitriy, 

    Can a current self-directed IRA be converted to a solo 401?


    1. @Larry Fried

      Yes, the self-directed IRA, as well as any other qualified retirement account can be rolled over into Solo 401k. There is one exception: Roth IRA. 

      Also, if you have employer-sponsored plan such as 401k, 403b, 457, etc. and are currently working for the company - the chances are they will not allow you to do the rollover (there are few exceptions). But if you old, employer-sponsored plan they can be rolled over into Solo K.


      1. Great article @Dmitriy Fomichenko to clarify:

        I can rollover an existing T401k from a past employer into a S501k, can I also rollover and convert it for a SR401k? 

        If I have both part time self employment and traditional FT employment, do I have to contribute to the R401k from self-employment income or can that come from post-tax W2 income as well? 


        1. Cliff, if you have an old 401k from the past employer - it can be rolled over into Solo 401k and then converted into Roth 401k if you wish to do so. This will be a taxable event, be sure to understand the tax implication if you decide to move in this direction.

          Contributions to a Solo 401k can only be made from your earned self-employment income, regardless if you make pre-tax or post-tax (Roth) contributions. Your W2 earnings can never be used to contribute to a Solo 401k. 


    2. Dmitriy. I have few questions

      -With checkbook control, what is the maximum check I can write from the solo 401k? Is it a set amount or a percentage of the total balance?

      - Is there a restriction on what I can and cannot write checks for?

      -How hands on can I be in terms of property management with a property purchased with funds from the solo 401k?


      1. Casey, let me handle one question at the time for you. If you qualify for a Solo 401k and establish the plan, you become plan administrator and trustee of the Solo 401k trust. This means that you are in total control of plan assets. And there is no limit on how much you can invest. Your responsibility is to invest plan assets in prudent manner, therefore you want to utilize as much of the plan assets as possible.


      2. First, you can not be 'hands on'. You personally are prohibited from doing any work on the property. But the question about property management is often comes up and I addressed it in one of my past blogs here:

        http://www.sensefinancial.com/property-owned-by-qu...

        Let me know if I can help with anything else. 


      3. Yes, there are restrictions on what you can not write checks for. Remember, this is a retirement account and you can only write checks for investments or investment related expenses. You can not write check from your Solo 401k and pay for your dinner for example. Remember that all transactions must be 'arms length' - no personal benefits.

        Please review the following page to get yourself familiar with prohibited transactions rules:

        http://www.sensefinancial.com/services/solo401k/so...


    3. If I took a participant loan against the solo 401k to invest in my sole proprietor business, would I be able to contribute any gains from my investment back to the solo 401k (up to $53k/ yr)?


      1. Leo, the contributions to your Solo 401k are based on your earned self-employment income, not on the investment gains. 

        Let me use this example:

        You want to start a consulting business, it needs $15,000 in start up expenses (setting up a website, buying some equipment, office lease and expenses, marketing, etc.). You take a personal loan from your 401k for $15K to take care of those expenses. Your business starts generating some revenue from the consulting services that you provide to your clients. This is the income that you can use to make contributions to your Solo 401k. However, the loan payback has to be made back to your 401k by you personally regardless of your business performance and in addition to your contributions. 

        I hope this makes sense to you now.

        You can use Solo 401k Contributions Calculator to see how much you will be able to contribute based on your income and the business type.


    4. From what I understand I can partner my personal funds with my Solo 401K funds to purchase property. I just have to do this upfront. So for example and please correct me if I'm wrong:

      - Assuming Solo 401K has funds of $60K available

      - Purchase price of rehab property is $40K

      - Rehab costs are $40K

      I want the Solo 401K to own 50% of the asset and I personally own 50%. So I have the Solo 401K pay for 50% of the purchase price which is $20K and I pay the $20K remaining towards the purchase price. Since I am 50% owner, I would be responsible for 50% of expenses and the solo is 50% moving forward. Is this scenario possible?

      Ultimately, what I'm trying to do is to see if I can use the funds from the my retirement account and personally guarantee the rest of the property through financing. I've been told you can do this through a ROBS plan. But I've heard that the ROBS can be very complex and expensive to set up and maintain.

      I'm looking around for a HML that will do non-recourse with the Solo 401K but the very few that do have very low LTVs. Besides taking a distribution and being taxed, do you know of any other way to use the solo funds as down payment and personally guaranteeing the remaining amount?


      1. Your 401k can always partner with other people individually or with other people’s IRAs. Under certain circumstances you personally may be able to partner with your 401k. However, the burden of proving that you received no impermissible benefit from your IRA’s participation in the investment will be on you if the IRS ever questions the transaction. The transaction still must be an arms-length transaction, and the investment remains subject to the same restrictions as if the entire investment were in your 401k. In general it is better to separate your 401k investments from your own investments.

        If you co-invest with yourself, you cannot get a non-recourse loan. A non-recourse loan is only possible if the 401k is the only investor or if it invests with other, non-disqualified parties. Once you combine personal funds, leverage is out of the equation. This is cross-collateralization and it is prohibited.

        One important rule to keep in mind is to be able to partner with your 401k you must have no NEED to do it. Meaning if you can do the deal without the 401k you can partner with it and if the 401k can do the deal without you then it can partner with you. So basically the main reason people want to partner with the 401k (to be able to use “all” your money to do a deal that you might not be able to otherwise) is an exclusion.

        Such transaction is also known as “enabling” and is prohibited. Enabling means using IRA/401k funds to enable a personal investment (or vice versa). If you are ever audited you will be asked to prove you did not need personal fund to make the investment – that you had enough cash in your retirement account that you could have used, but chose to use personal funds to include it in a good investment opportunity. If, on the other hand, you’ve pulled together all cash in your retirement account and are still short of the amount needed, so are using your personal funds to cover that gap, then it would be considered enabling.


      2. The only way I see you could use some of the funds in your 401k and provide personal guarantee for financing is by taking participant loan and buying the investment in your own name. The loan proceeds can be used in any way you wish enabling you to go into a transaction that otherwise would have been prohibited.

        Keep in mind that if you do that, all of the income/gains/profits from the investment will be taxed since you are doing it in your name and not in the tax deferred vehicle.

        Don’t get discouraged if this particular deal does not work out for you. You can also consider JV. It is better to get half of part of the profits rather than note.

        As far as starting Solo 401k – while you may have a limited amount in your retirement account now, you can grow your balance quite rapidly thanks to the high contribution limits of the Solo 401k. Be patient and soon enough you’ll be able to do bigger deals and make more profits that are tax-deferred (or tax-free if you chose to utilize Roth Solo 401k). 


    5. Hi Dmitriy, Thanks for pointing me to this blog.  It is helpful.  Just to confirm, if the Solo 401K owns an investment home 100%, I cannot purchase the investment home personally from the Solo 401K and reimburse all the funds back to the plan.  Is that correct?  Can a family member purchase the from me?

      Any recommendations for transferring the home out of my Solo 401K besides selling it?


      1. Leo, any transactions between qualified plan and a 'disqualified person' are prohibited. You, your immediate family members (your spouse, ancestors, lineal descendants and their spouses), fiduciaries of the plan, investment managers and advisors and any entity in which account holder has 50% of greater interest are considered to be 'disqualified'. So the answer is yes - your plan can not sell property to you personally.

        A relative, such as uncle, cousin or nephew could technically buy the property from your plan. The transaction however must be structured the way that there is no personal benefit to you in any way. It must be 'arms length'. If you, for example, are considering selling property to your uncle, who is not a 'disqualified person' so that he then in turn would sell the property back to you - then you are using him as a 'straw person' which is illegal.

        The only legal way to transfer the property from the plan to yourself is to take it out of your 401k as a distribution. The property must be appraised to determine fair market value. That amount will be reported as taxable income on your personal tax return. And if you do it prior to retirement age - you'll have to pay the penalty. If you do this inside of a Roth 401k - this can be tax free transaction. 


        1. My son is a real estate licensee, I would like him to find  property we can flip and use his commission as to involve him as my partner. i would like to do this using my solo401K. Is this OK?


        2. Edward, your son is a disqualified person to your 401k. Therefore your 401k can not partner with him nor can he be the agent in this transaction. 


    6. Dmitriy, I plan on using my solo 401k to invest in mortgage notes. Is there anything to look out for to make sure I adhere to the regulations of the IRS?

      The article has great information and it answered a lot of my questions.

      Paula


      1. Paula, I'm glad you found article useful. Notes are great investment to build wealth in a tax-deferred (or tax-free using with Roth) environment. 

        Regardless of the type of investment that you make, be sure that transactions is 'arms length' (no personal benefits) and there there is no disqualified person involved. 


    7. Hi Dimitry,

      I have a solo 401K with approx. 30K available to use.  I am looking at purchasing another property for about 80K.  Would it be better to use a non recourse loan to buy this property, or add additional funds (rollover) to the plan.  Adding additional funds would put the plan over the 250K threshhold and cause me to have to file the form.  Is there a detriment to filing this form?


      1. There is no detriment in having to file form 5500 EZ (required if your plan assets exceed $250,000). In fact, it is good idea to file this form even if your balance is below this threshold. 

        Using non-recourse financing in a Solo 401k is a good idea because there is no UDFI tax on leveraged real estate. However, most lenders will require at least 30% down plus at 10% reserves so you still might be little short and may need to rollover more funds to complete your transaction. 


        1. Can anyone point me in the direction of fellow BPers who know where I can find a non recourse loan


        2. We've collected a list of lenders offering non-recourse financing for self-directed IRAs and Solo 401(k)s here:

          http://www.sensefinancial.com/non-recourse-lenders...

          You can also find private lenders who would do non-recourse financing, but expect to pay interest in the 10's. You will find terms from the banks who specialize in this kind of financing (above) much more favorable. 


        3. The rates may be lower with bank financing but the fees, paperwork requirements, time to funding and hassel will probably be considerably greater with banks than with private lenders. Also, private lenders may be willing to lend at greater loan to value rates than banks, more willing to lend on houses that are not habitable (need repairs), and more willing to lend some of the repair money (to lend more than the purchase price) than banks are. The investor should weigh the pluses and minuses of each type of loan and decide what best fits the investment envisioned.


        4. Jeff, thank you for your insightful comment. I agree with you that there is certainly place for private financing depending on the deal. 


    8. If I have a self-employed business with a solo 401k that puts in the maximum contribution limit for the year ($52k) and I also have another side business with an SEP account, am I allow to contribute to that SEP account also? Are their yearly maximum limits for ALL retirement accounts?


      1. Mark, the short answer is yes, you can contribute to both plans. But generally there are no advantage for you to have both plans at the same time because to total contributions will be subject to the same limit.

        Generally, it is more advantageous to contribute to a Solo 401k plan because it includes a profit sharing option as well as employee elective deferrals, but the SEP IRA is purely a profit sharing plan. In other words you can maximize contributions to a Solo 401k plan much quicker compared to a SEP IRA.

        Here is a link to the IRS website for reference describing retirement plans for self-employed:

        http://www.irs.gov/Retirement-Plans/Retirement-Pla...

        and also publication 560 discussing retirement plans for small business, refer to section "More than one plan" on page 6 specifically:

        http://www.irs.gov/pub/irs-pdf/p560.pdf

        For further details please consult with qualified tax professional.


    9. Dmitriy, where can I find more specifics of what qualifies as "self employed"?  


      1. @Angela Palmer typically if you have income that you are reporting on Schedule C of your tax return - you are self-employed. Here is a reference to the IRS website which provide a definition in legal terms:

        http://www.irs.gov/Businesses/Small-Businesses-&-S...

        Hope this answers your question and if you need further clarification please let me know. 


    10. Hi Dmitriy! What exactly is an "employee deferral contribution"? How is it different from your regular contribution of $53K and any allowable catch up? I'm 50 now, so the way I read it is my max contribution is still $59K, regardless of whether I do an employee deferral or just use the regular old contribution. Could you please elaborate further? Thanks!


      1. Sharon, this is a good question, thanks for asking. Being a self-employed individual you are wearing two hats: an employee or your business and also the business owner. In a solo 401k plan the contributions that you make as an employee called "elective deferrals" and those that business contributes are called "profit sharing". 

        Let's assume that you are a sole-proprietor and make $100,000 this year. Your maximum elective deferrals are $18,000 plus $6,000 in catch up contributions for a total of $24,000 for the year 2015. These can be up to 100% of your self-employed compensation. The maximum profit sharing contributions in this example will be $18,587.05. The combined total is $42,587.05. You can shelter over 40% of your total income - which will result in a nice tax savings! 


      2. You will find this calculator handy:

        http://www.sensefinancial.com/services/solo401k/solo-401k-plan-calculator/

        Just play with it, you can adjust the annual earnings, type of business entity, etc.


    11. Dmitriy, I am so excited about my new Solo 401k plan!  My question is this - if I take a loan from the plan I understand that I have to pay the loan back to the plan, but when I profit from those borrowed funds how are they handled?  Do they have to also go back to the plan or can that money be used immediately outside the plan?


      1. Sheryl, when you take a loan from your Solo 401k plan you are required to pay back amortized payments (principal + interest) on that loan. The funds can be used in any way you wish. If you decide to use loan proceeds to make the investment - you can do so, this is your personal investment, not investment of the 401k plan. You will personally keep all of the profits from that investment. If you make investments inside of your 401k (without taking the loan out) - then all of the gains and profits must go back into the 401k (because the investment now belongs to your 401k, not to you personally), you are not allowed to receive any personal benefits from that.

    12. Dmitriy, thank you for posting a very comprehensive explanation of what a solo 401K is.  Having gone throught the headaches of SDIRA, I can see the advantage of having control of one's funds and access to a checkbook.


      1. @Vania Castillo thank you for reading the blog and for your comments. 

        I agree with you, SDIRAs can be good tool, but unfortunately having that custodian on the middle can cause delays, headaches and frustrations. 


    13. Dmitiry, Could I use my funds from the Solo 401k for half of the down payment on an investment property and have my business partner provide the other half? Thanks


      1. Francisco, it would depend on how you structure the deal... is the other partner also using his/her retirement funds? Will you be on the title or just be lending the funds to your partner? Are you taking partial ownership in the property? Depending on your situation you may have to use non-recourse financing. If you would like to discuss this further, send me PM and I'll be glad to help you with the strategy.


    14. can my wife and I (we run our real estate business together) roll our separate retirement accounts into one solo 401k? main reason is to leverage the funds to buy rental property.


      1. Rhett, since you and your wife are both involved in the business together, as a spouse she may also participate in the Solo 401k. However, she would be transferring her retirement funds under separate retirement account under her name that would be set up under Solo 401k trust.


    15. Dimitriy, I have a one person C corp which uses a SEP. The Solo is almost always referenced in regard to self-employment. I typically go out of my way not to be categorized as Self-employed, (rather, I'm just an employee of the corp) as I believe this undermines the separate C-corp entity. I understand that the Solo can be used for a 1-person C-corp, but do you know of any unintentional consequences that could arise from using a Solo with a C-corp?


      1. Bruce, any legal business entity can adopt a Solo 401k plan. This includes C-corp. The corporation will be the plan sponsor and you as the employee of the corporation will be the only participant. By switching to a Solo 401k you can have all of the benefits SEP offers plus many more that are unique to the Solo 401k (described in the above article). 


    16. If you work for yourself AND you have a W2 job, can you have both a Solo 401(k) and a 401(k) with your employer?


      1. Dawn, sorry for the late response, I wasn't notified of your comment and just stumbled upon it now... To answer your question, yes, you can have both at the same time. Your contributions for the salary deferral part would be subject to a single limit for both plans, however, even if you maxed out the contributions at your job's 401k, you can still contribute in the profit sharing component of your Solo 401k.


    17. Wow I had heard of these but never looked into it before. This sounds almost to good to be true. Can the leverage on the real estate be secured by the 401K or is it like the IRA where the loan must be non recourse? So if we essentially manage our own accounts, what is in it for you? What services do you offer?


      1. Ned, you can use leverage when buying real estate with Individual 401k, however, just like in the case of an IRA, non-recourse financing must be used. However, there is no UBIT on leveraged real estate inside of Solo K (unlike with an IRA). We offer establishment service for Solo 401k plans as well as administrative and compliance support. The plan must be kept in compliance with the IRS - that is what we do. But all investments are managed by the account holder, we don't get involved with that. And you are right Ned, the benefits of the plan are mind-boggling and many are still unaware of them!


    18. Great Article. I understand levered real estate is an exemption from UBIT, what about levered distressed debt profits secured by real estate? Thank you


      1. Rich, the UBIT exemption applies only to leveraged real estate. If there is income from active business it will be subject to UBIT. All passive income will be sheltered from taxes. 


    19. Self Employed Individual Retirement Account: SEP IRA or Solo 401k?


      1. Mat, both the SEP IRA and Solo 401k are designed for self-employed. 


    20. Dmitriy, to clarify the point on UBTI, are you saying the SD solo 401K is not subject to this tax under any circumstances? Such as running a business under the plan?


      1. Jon, thanks for reading the blog and for your question. The UBIT in a Solo 401(k) plan is not applicable on leveraged real estate only. However when your 401k received income from an active business it will be subject to UBIT.

        Unlike a SD IRA, when a Solo 401K Plan uses non-recourse financing to purchase real estate, it is exempt from the UBTI (Unrelated Business Taxable Income) tax on the income generated.

        When an IRA purchases real estate that is leveraged with mortgage financing, it creates Unrelated Debt Financed Income (a type of Unrelated Business Taxable Income) on which taxes ought to be paid. A Solo 401K plan is exempt from UDFI according to IRC Section 514(c)(9).

        Debt-financed property refers to borrowing money to buy real estate. In such cases, only the income attributable to the financed portion of the property is taxed; gain on the profit from the sale of the leveraged assets is also subject to Unrelated Debt Finance Income tax (except if the balance is paid off more than twelve months before the property is disposed).

        With the top tax rate for Unrelated Business Income Tax of just under 40% real estate investors can realize significant tax benefits by utilizing self-directed Solo 401k plan, instead of self-directed IRA.

        Here are some references:

        http://www.irs.gov/pub/irs-tege/eotopicn86.pdf

        https://www.law.cornell.edu/uscode/text/26/514