Forming LLC with SD 401K

4 Replies

Can an SD 401K be used to establish an LLC with another non-disqualified individual? LLC would be funded say 40/60 for example purposes, between 401K trust and non-disqualified individual. Apportioned income, gains or losses from the business operation would be allocated to the 401K trust. I would be 100% passive in all activity of the LLC. No leverage would be used.

I've read "The purchase of a business operated via an LLC or partnership will POTENTIALLY trigger the Unrelated Business Taxable Income rules under IRC 512 and a corresponding tax of approximately 35% would be applied"

What I cannot find are the actions or measures one should take to eliminate or avoid the potential trigger?



Yes, you can do that. Will you be taxed or not will depend on the activity of the LLC. You should talk to tax expert. @Steven Hamilton II might be able to help.

Your 401k will be subject to UBIT, if that is what you are asking. Since LLCs are active, pass-through entities, your 401k would be liable for the tax on the company. This is the main reason why you would have the UBIT assessed.

If however the company was a C-corp, then the company would pay taxes, and thus your 401k would not be subject to UBIT.

We generally advise clients not to invest in LLCs with their 401k or IRA for this reason because the IRS could easily "interpret" the UBTI rules negatively against you since the LLC is an active business (which is unrelated to the passive investment purpose of the 401k or IRA).

A better solution is to have the 401k Trust purchase the property (if that's what you're doing) and get financing for it. Unlike an IRA LLC, this will not trigger Unrelated Debt Financed Income (UDFI) or UBIT.

I agree with Jeff on the direct purchase method. Your partner can still utilize an LLC if that's to his advantage but your 401k can avoid UBIT if you're not doing flips regularly. While it's still a grey area, continuous flips can be construed as an operating business and therefore put you right back in the UBTI boat.

Since I can't vote on my own post, I'm going to vote on Loren's! :-)

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