Income Tax extension/ Solo401k/ capital gains over 121 exclusion

10 Replies

Hi BP community,

My husband and I will be selling our California home early next year and are expecting to have capital gains above and beyond the 121 Exclusion of $500K.

1. I have a home business and just opened a Solo 401k. My plan is to apply for an extension on our 2017 income taxes until we have received the proceeds from our home sale. Then contributing the max allowed contribution to the 401k for both my husband and I (using proceeds from sale) to off set our taxes owed for 2017. My assumption is that we would meet with a CPA and do a preliminary tax prep to discover the right amount to contribute to the 401K (instead of loosing the money to taxes)? 

2.Then when 2018 tax time rolls around and it is time to pay taxes on the capital gains above and beyond the 121 Exclusion we will again contribute to our 401k to off set our income to reduce the tax bracket we are in to possibly avoid capital gains all together or at least to the reduce the amount we will owe. From what I have read so far it sounds like the tax reform will allow those who are married with income below $77,200 to not have to pay capital gains. Are my interpretations correct?

3. Also, we will be moving to Idaho. When we do our 2017 taxes will we need to find a CPA in California for our 2017 taxes since the income was solely earned in California?

4. For 2018 taxes (moving prior to the end of June and home sale in May) with January through mid June income earned in California would we also, use a California based CPA?

Thank you in advance,

Rosalie Taran

A solo 401k can be an excellent way to reduce income taxes. Be sure to consult with a CPA in advance so you can put together a good strategy for you and your husband.

Your CPA does not need to be in California. So long as the CPA understands California state income taxes (and other states if needed) then you can use the CPA of your choice.

@Rosalie Taran You are welcome! Taxes are overwhelming, which is more the reason to find a good CPA who can advise you accordingly. 

@Rosalie Taran You also may want to look into whether California will automatically withhold out of escrow for the taxes that will be owed to the state and take that into account when looking at your cash flows.  You can use a CPA outside of California, but CA usually has weird rules and more complexity than other states so you'll want to make sure a non-CA CPA is familiar with CA rules.

Rosalie,

you are looking at two separate issues here:

1) The capital gains from the sale of the property - this is passive income and you can't use it to contribute to the Solo 401k plan. The entire amount (over $500K threshold will be taxed). 

2) Contributions to the Solo 401k plan can be made from the earned income only. And if your business is sole-proprietorship then only you will be able to contribute to the 401k plan. If you wish to contribute for your husband also you may need to change your business structure and show self-employment income for your husband also.

I think what you might be trying to do so since you will have the proceeds from the sale which you can use for the living expenses can can contribute max allowed amount into the Solo 401k which you wouldn't be able to do otherwise because of the limited income?

So if you use this strategy you might be able to reduce your income tax but I don't think it will have any affect on your capital gain taxes. And yes, you are correct, having experienced CPA to guide you through this is a must.

@Rosalie Taran

If you use some of the sale proceeds as earned income you will be paying approx 16% SS & Medicare and then possibly state tax on top of that so I am not sure you will save much over the long term capital gains rate. Also watch if new tax bill is 2/5 or 5/8 years - not sure if it makes any difference in your case.   @Dmitriy Fomichenko brings up good points to consider.  

@Carl Fischer thank you for your response. We have been in our home for 17 years so we luckily don't have to worry about that aspect.  

@Rosaline Taran

Contributions to a solo 401k plan have to be based on net self-employment income not passive/investment income. 

IRS Publication 560 has a section that covers income for solo 401k contribution purposes.

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