self- directed IRA vs solo IRA

[Jim Chung]

im curious what is the difference between these 2 IRA in regarding property investment under IRA rule?

here are many custodian who would open the account for you. the problem i know is the fee/ mainteance charge from the custodian and is vastly difference from one custodian to another…
do anyone have recommendation for a custodian who does self directed/ solo IRA?
i tried vanguard/ fidleity . but they dont offer that

thanks

[Mark Nolan]

@Jim Chung

Good question.

Following are the similarities and differences between the solo 401k and the self-directed IRA.

The Self-Directed IRA and Solo 401k Similarities

• Both were created by congress for individuals to save for retirement;
• Both may be invested in alternative investments such as real estate, precious metals tax liens, promissory notes, private company shares, and stocks and mutual funds, to name a few;
• Both allow for Roth contributions;
• Both are subject to prohibited transaction rules;
• Both are subject to federal taxes at time of distribution;
• Both allow for checkbook control for placing alternative investments;
• Both may be invested in annuities;
• Both are protected from creditors;
• Both allow for nondeductible contributions; and
• Both are prohibited from investing in assets listed under I.R.C. 408(m).

The Self-Directed IRA and Solo 401k Differences

• In order to open a solo 401k, self-employment, whether on a part-time or full-time basis, is required;
• To open a self-directed IRA, self-employment income is not required;
• In order to gain IRA checkbook control over the self-directed IRA funds, a limited liability company ( IRA LLC) must be utilized;
• The solo 401k allows for checkbook control from the onset;
• The solo 401k allows for personal loan known as a solo 401k loan;
• It is prohibited to borrow from your IRA;
• The Solo 401k may be invested in life insurance;
• The self-directed IRA may not be invested in life insurance;
• The solo 401k allow for high contribution amounts (for 2016; the solo 401k contribution limit is $53,000, whereas the self-directed IRA contribution limit is $5,500);
• The solo 401k business owner can serve as trustee of the solo 401k;
• The self-directed IRA participant/owner may not serve as trustee or custodian of her IRA; instead, a trust company or bank institution is required;
• When distributions commence from the solo 401k a mandatory 20% of federal taxes must be withheld from each distribution and submitted electronically to the IRS by the 15th of the month following the date of each distribution;
• Rollovers and/or transfers from IRAs or qualified plans (e.g., former employer 401k) to a solo 401k are not reported on Form 5498, but rather on Form 5500-EZ, but only if the air market value of the solo 401k exceeds $250K as of the end of the plan year (generally 12/31);
• When funds are rolled over or transferred from an IRA or 401k to a self-directed IRA, the amount deposited into the self-directed IRA is reported on Form 5498 by the receiving self-directed IRA custodian by May of the year following the rollover/transfer.
• Rollovers (provided the 60 day rollover window is satisfied) from an IRA to a Solo 401k or self-directed IRA are reported on lines 15a and 15b of Form 1040;
• Pre-tax IRA contributions on reported on line 32 of Form 1040;
• Pre-tax solo 401k contributions are reported on line 28 of Form 1040;
• Roth solo 401k funds are subject to RMDs;
• A Roth 401k may be transferred to a Roth IRA (Note that from a planning perspective, it may be advantageous to transfer Roth Solo 401k funds to a Roth IRA before turning age 70 ½ in order to escape the Roth RMD requirement applicable to Roth 401k contributions including Roth Solo 401k contributions and earnings.);
• Roth IRA funds are not subject to requirement minimum distributions (RMDs);
• The fair market value (FMV) of assets held in a self-directed IRA is reported on form 5498;
• The fair market value of assets held in a solo 401k are reported on Form 5500-EZ;
• At termination, the solo 401k is required to file a final Form 5500-EZ and 1099-R; and
• At termination, the self-directed IRA is only required to file a form 1099-R.

[Justin Windham]

@Jim Chung

There are a lot of threads about SD IRA and 401k investing on BP. Some compare the 2 structures directly. Mark gave you a good list of the similarities and differences. In a nutshell, the Solo 401k is the better structure if you are eligible. You must have self-employment activity and no full time employees to be eligible.

If you are not eligible for a Solo 401k, the self-directed IRA is a great option and the next best thing to have control of your retirement funds and invest into real estate among other assets. With the IRA, you do need a custodian and will have to choose between the various fee structures the SD IRA custodians have. If you are eligible for a Solo 401k, that won't be the case as you can trustee your own assets without the need for a third party custodian.

Traditional brokerages do not allow for investment into alternative assets such as real estate. You'll need to work with a self-directed provider that can help you regardless of whether you go the IRA or 401k route.

[Elizabeth Goff]

@ Jim Chung

Great list @Mark Nolan !  Thanks very much, I learned some new things.

Just one point of clarification that not all Solo 401k providers offer a Roth option or a loan option, so be sure to ask that question if those are important to you.  Schwab, for one, offers neither of these features.

[Mark Nolan]

@Elizabeth Goff

Good point. I don't think Vanguard offers the Roth 401k option either.

[Justin Windham]

@Elizabeth Goff

You will likely find a big difference between any 401k setup by a traditional brokerage and one setup by a firm that specializes in self-directed accounts. You're right, it's common for brokerages to restrict loan provisions, Roth options, and perhaps most restrictive of all- investment options!

[Dmitriy Fomichenko]

@Jim Chung

Brokerage firms like Vanguard/Fidelity do not offer self-directed accounts. You need a company who specifically specializing in this area, here is pretty comprehensive list of such companies that BP had put together:

http://www.biggerpockets.com/rei/self-directed-ira...

I'm guessing you wanted to say Solo 401k, not solo IRA?

[Jim Chung]

thank you, BP for your feedback. Great list pointing out the differences and similarities between these two options. I do have a part time contracting work earning about $40K/yr and a full time job with 401K. I will look into solo 401K first, then self directed IRA...

Can I  do both?

Thanks for the great advice

[Mark Nolan]

@Jim Chung

Yes you can generally contribute to both a solo 401k and a full-time employer 401k. See the following.  

https://www.irs.gov/retirement-plans/how-much-salary-can-you-defer-if-you-re-eligible-for-more-than-one-retirement-plan

[Jim Chung]

thanks Mark. appreciate your response

[Justin Windham]

@Jim Chung

While you can have both, most find that either the Solo 401k or the SD IRA will work best for their situation. Usually, the Solo 401k is the one that works best if you're eligible and it sounds like you might be.

[Jim Chung]

thanks justin

[Minna Nah]

Originally posted by @Jim Chung:

... I do have a part time contracting work earning about $40K/yr and a full time job with 401K. I will look into solo 401K first, then self directed IRA... Can I do both?

Jim, since you are eligible for a Solo 401k you will find it better option. There is no reason for you to do both, Solo 401k plan will allow you to do everything SD IRA will, unless you have Roth IRA to rollover. IRS rules do not allow Roth IRA to be rolled over into Solo 401k.