Self-Directed IRA VS Solo 401K

7 Replies

I am looking for some advice and comparisons between a Self-Directed IRA vs a Solo 401K. I have scanned through the various threads and have a couple of books on order, but could use some advice. I will likely have the option to roll over a 401K in the near future and am considering my alternatives as to what to do with the money that I have saved up over the years. I like the idea of being able to use more of my funds to purchase additional real estate and am very interested in what option these tools would give me. If there is a website with a side by side comparison or pros and cons . . . . Any direction would certainly be appreciated.


@Daniel Foster

More important than the comparison is the question; "Which plan is best for you"?

The Solo 401(k) has advantages over an IRA, but not everyone will make use of those differences.

In order to qualify for a Solo 401(k), you must be self-employed with no full time employees.  This must be an ongoing arrangement.  A Solo 401(k) is an employer sponsored retirement plan, so there has to be an employer.  Does this describe your scenario?

Will new contributions be a focus for you, or are you just looking to take existing savings and put that to work?

Generally speaking, a Solo 401(k) is the preferred plan for someone who qualifies and will continue to qualify for at least several years.  The advantages of the Solo 401(k) are:

Higher contribution limits than IRA based plans

Ability to make contributions of up to $24K on a Roth basis, without limits based on income

Ability to personally borrow from the plan up to $50K for 5 years

Exemption from UDFI taxation on mortgaged real estate investments

Stronger protections against creditors in cases of personal lawsuits or bankruptcy

Less catastrophic penalties in the event of a prohibited transaction

The advantage of a self-directed IRA is a certain simplicity and permanency with no need to maintain ongoing self-employment.

@Daniel Foster

Brian gave you a great response. Whether or not you are and will remain eligible for a Solo 401k is likely the biggest factor in your decision. If you're not eligible for a Solo 401k, the self-directed IRA (with LLC if you prefer checkbook control) is the way to go. If you are eligible, the many Solo 401k benefits make it the better choice in most cases. One exception would be if your main goal is to self-direct Roth IRA funds, (because a Roth IRA cannot be transferred to the Solo 401k) but that doesn't apply if you currently have a 401k.

Compared to an IRA, Solo 401k contributions limits are roughly 10x higher and there is no custodial requirement for the 401k. You can take participant loans from the plan, you don't need the additional expense and administration of an LLC to have checkbook control, and there is a built in-Roth component. A spouse can also participate in the same plan, there are additional tax benefits compared to an IRA, and there is generally greater privacy. Finally, the plans are often quicker to setup and cost less money over time especially compared to most IRA LLCs.

@Daniel Foster

Great answers from @Brian Eastman and @Justin Windham there is also the capability to use a 401k with a business with employees. You must have a business with a 401k. It really comes down to what fits you best "now" as was mentioned above. PM me for a page and video that compares solo 401k to a IRAs (SEP,SIMPLE, Roth and traditional.)

Thanks for the reply @Brian Eastman , @Justin Windham , and @Carl Fischer . At the end of the day I want to have as much flexibility as prossible while investing my funds in real estate. I do have an LLC set up for my real estate investments currently. I am not necessarily focused on investing putting more in the 401K/IRA, but it would be good to have the option if I choose to down the road. Can I assume that I would have all of the tax advantages associated with real estate in both option?

@Daniel Foster

Your LLC for personal real estate is not likely creating self-employment income if your intention is to hold rentals. Flipping or new home development would be considered business activities capable of sponsoring a Solo 401(k) plan. It sounds like a self-directed IRA is the angle for you.

With such a plan, there are no particular tax benefits associated with real estate. Income to an IRA is tax-sheltered to begin with and real estate is no different. Gains from rents or the future sale of a rental property held by and IRA are not taxed. As such, there is no place to apply the common deductions such as depreciation.

The point of investing an IRA is real estate is to potentially improve the performance of the IRA so that you will have a larger pool of savings to draw from in retirement.

@Daniel Foster

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 2017, the solo 401k contribution limit is $54,000, 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.

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