Rental Property Investor · Los Angeles, CA · Member since 2017 · 13 posts · 3 votes
I'm a full-time employee with no recent self-employment income. My employer does not offer any retirement benefits and I will be in this job for several years. I already have a Roth IRA with stocks, and I know there's no good way to transfer that money out. So, I was planning on continuing to fund that for stocks/bonds and opening a Solo 401k for REI, but it appears as though the funds must come from self-employment income.
Can I contribute with my W-2 income?
Am I understanding the regulations correctly and is there an exception since I have no retirement account options through my job?
Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
8y
Matthew,
If you are not self-employed (or own a small business) - you are not eligible to establish a Solo 401k plan. Further, if you were eligible, contributions to a Solo 401k plan can only be made from the earned self-employment income. Your W2 wages from employment can not be contributed into Solo 401k.
Solo 401k Expert · Anaheim Hills, CA · Member since 2012 · 18k+ posts · 6k+ votes
8y
Matthew,
If you are not self-employed (or own a small business) - you are not eligible to establish a Solo 401k plan. Further, if you were eligible, contributions to a Solo 401k plan can only be made from the earned self-employment income. Your W2 wages from employment can not be contributed into Solo 401k.
You state with respect to your existing Roth IRA "there is no good way to transfer that money out". That is not true.
You could liquidate some or all of your stock holdings in that Roth IRA and create a self-directed Roth IRA for investing in alternative assets such as real estate, private mortgages, etc.
You can also continue to contribute to the Roth IRA so long as you are eligible based on income.
The two posters above are correct that you are not eligible for a Solo 401(k).
While many people hope the Solo 401k is a good solution for W2 income from an employer that does not offer a retirement plan for their employees, it isn't. It is up to the employer to adopt a retirement plan for their employees if they want to offer one.
A Solo 401k plan allows a self-employed individual to adopt the plan as the employer and participate in it as the employee. Without the self-employment activity, you cannot serve that employer role and setup a plan.
An IRA (traditional or Roth) is often the best option for employees with no retirement plan offered by the employer. Your current Roth IRA can be transferred to a Roth IRA with a self-directed IRA custodian if you'd like to gain access to alternative assets with those funds. You may have been reading another thread that mentioned a Roth IRA cannot be transferred to a Solo 401k and that is true. It can however, be transferred to another Roth IRA.
Rental Property Investor · Los Angeles, CA · Member since 2017 · 13 posts · 3 votes
8y
Thank you all for the quick responses. The self-redirected Roth IRA sounds like a good alternative except for the contribution limits. From what I understand, it seems like it would take a long time to build up enough capital to purchase a property without leverage and leveraging within an IRA is subject to UBIT (plus it sounds like you can't use depreciation when a property is owned within an IRA).
If those are all true, do you think a self-directed Roth IRA is worth pursuing for REI?
It all depends. How much money do you have in the Roth? Is it enough to invest in something such as real estate or perhaps private lending? If so, can you generate better overall security of your principal and return on investment than you are creating with that IRA in the stock market? That last question is the one that really matters.
When you leverage with a Roth IRA, there is a small tax that applies to the percentage of the income derived from the non-IRA capital used in the transaction. This UDFI taxation generally does not add up to much. When the IRA is using debt-financing and therefore incurring taxes, then yes, you can apply a percentage of the normal deductions such as depreciation to reduce that taxation. So, UDFI taxation is not a deal killer. it is just one other factor to included in your analysis of an investment to determine if the risk/reward makes it a good opportunity.
Example:
$100K property
$40K down, $60K non-recourse loan
60% of the income is taxable
Taxable income is reduced by a $1000 exemption and 60% of normal deductions
Net taxable income is then run through the trust tax table to determine taxable amount.
Assuming such a property produced 10% return, the tax bill would be in the neighborhood of $175-$200 a the end of the year. Add a few hundred to have a CPA file the 990-T return for the IRA.
In exchange, you have received the benefits of leverage and a higher cash-on-cash return than you would have achieved paying $100K for the property all cash.
About $10k in the Roth IRA and another $6k in a 457b from my last employer (which I think I can roll over into a Roth if i pay taxes on it?). I will also add in this years contribution, too. I do think long term that the combination of stability and returns on real estate make it a great choice once I have a little more working capital to invest. Also, glad to hear that at least a portion of the normal deductions still apply. Thanks. That's really helpful information.