Distribution Rules Applicable to: Roth Solo 401k | Roth Self-Directed 401k | Roth Solo K

In April 2007 final regulations were issued regarding taxation of distributions from what the IRS calls designated Roth accounts, commonly known as Roth Solo 401ks or Roth Self-Directed 401ks. Since the main advantage of Roth Solo 401k is tax free and penalty free withdrawals, it is important to understand the Solo 401k Roth distribution rules.  It's important to note that if distributions are made from the Roth Solo 401k prior to end of the 5 year waiting period and one of the qualifying conditions explained below, the distribution will be considered non-qualified, resulting in taxes and possible penalties of the non basis (contribution) amounts.

Qualified vs. Non-qualified Distribution from a Designated Roth Solo 401k

Qualified Distribution is:

·       A distribution from a designated Roth Solo 401k but only after 5 year waiting window has been satisfied and the participant/trustee has reached age 59 1/2, has died, or has become disabled. 

·       A distribution from a Roth Solo 401k that falls under the qualified distribution definition is not taxable to the participant/trustee.

·        A qualified Roth Solo 401k distribution maintains its basis even when funds are transferred to another Roth 401k or to a Roth IRA; therefore, they can be distributed tax and penalty free.

Illustration

After participating in her current Roth Solo 401k for 15 years, Linda decides to retire at age 63 and start making distributions from her Roth Solo 401k. Because Linda established her Roth Solo 401k over 5 years ago and she's over the age of 59 1/2, none of the distributions that she makes from her Roth Solo 401k will be subject to income tax.

Start/End of 5 year waiting period

The 5 year waiting period commences on the first day of the Solo 401k participant/trustee's taxable year, usually January 1, for which the participant/trustee first made Roth Solo 401k contribution.

The 5 year waiting period ends after 5 consecutive years have passed.

The ordering rules for non-qualified distributions from Roth IRAs do not apply to non-qualified distributions from designated Roth accounts in Solo 401k plans.

A Solo 401k Roth distribution that is not a qualified distribution (non-qualified) is subject to the pro-rata rule. This is different than the distribution rules applicable to Roth IRAs where the ordering rules apply.

A non qualified distribution from a Roth Solo 401k results in the participant/trustee including a portion of the distribution in taxable income. To determine the non-taxable amount of the distribution, the after-tax employee contributions (salary deferrals) are divided by the entire balance in the Roth Solo 401k account. The distribution amount is then multiplied by the result.

EXAMPLE

Julie has contributed salary deferrals (after-tax employee contributions) of $20,000 to her Roth Solo 401k. The total balance of her Roth Solo 401k is now $30,000, and Julie has decided to make a distribution of $9,000. Of the distribution, amount of $6,030.00 will be tax free.  

Calculated as ($20,000 / $30,000 = .67) ($9,000 X .67 = $6,030.00)

Rolling Roth Solo 401k accounts to other qualified plans or to a Roth IRA

·         Provided the receiving qualified plan permits Roth Solo 401k rollovers, existing Roth Solo 401k funds can be moved to another qualified plan such as a 401k.  Roth Solo 401k can also be rolled over to a Roth IRA. 

The amount considered rolled over is determined differently depending if the funds were moved over as a direct rollover (trustee-to-trustee transfer) or as a rollover (60- day rollover).

If processed as a Direct-Rollover, all amounts can be deposited to another Roth 401k plan or to a Roth IRA.

If processed as a Rollover (payable to the participant and rolled over within 60 days), only earnings (taxable amounts), not the basis, may be rolled over to another Roth 401k. However, the entire amount can be rolled over to a Roth IRA.

Solo 401k: Answers to your Year-End Required Minimum Distribution (RMD) Questions

Q. Which table do I use to calculate my Solo 401k RMD?

A. For lifetime distributions to Solo 401k participant, you have two tables to choose from:

Uniform Lifetime Table—this table is usually used if the Solo 401k Plan participant is not married; or

IRS Joint Life Tables—used if the Solo 401k participant’s spouse is more than ten (10) years younger than him or her and is the sole beneficiary the entire year.

Q. I don’t have enough liquid cash in my Solo 401k | Self-Directed 401k to take my RMD because all of my Solo 401k funds are invested in real estate. What should I do?

A. The IRS still requires that you take you RMD. Therefore, you will need to re-register part of the real estate by deeding it to your personal name to satisfy RMD, and report it on form 1099-R. Alternatively, you have option to sell part of the real estate and then distribute the proceeds to satisfy the RMD.

Q. I’m over 70 ½ years old but still self-employed. Do I still have to take required minimum distribution RMD from my Solo 401k | Self-Directed 401k?

A. Yes. The IRS requires the self-employed who have a Solo 401k to take RMDs. Confusion exists with respect to those who own less than 5% of the company not having to begin making distributions until April 1^st following the year you retire, but, again, this exception does not apply to the self-employed because you typically own more than 5% of your company.  

More RMD Information

The required minimum distribution (RMD) regulations require a Solo 401k participant to begin distribution no later than his required beginning date (RBD) and to continue such distributions over a period not extending beyond the life expectancy of the participant and a designated beneficiary.

The RBD for a Solo 401k participant is April 1 of the calendar year following the later of the calendar year in which the participant attains age 70 ½. If he fails to take the RMD, he would be subject to an excess accumulation penalty equivalent to 50 percent of the amount that should have been distributed but was not.
The RMD is typically calculated by dividing the account balance by the applicable distribution period. The account balance is generally the balance as of the last valuation date in the calendar year immediately preceding a year for which an RMD is due.

Calculating my Solo 401k RMD

For existing and prospective clients, we will calculate your RMD and prepare form 1099-R, the form used for reporting distributions including RMDs from Solo 401ks at no extra cost. Please e-mail us at info@mysolo401k.net if you would like us to calculate your RMD.

Lastly, visit our following blogs for more information on RMDs and Form 1099-R reporting.

http://www.mysolo401k.net/Blog-for-MySolo401k.html?entry=solo-401k-plan-or-individual

http://www.mysolo401k.net/Blog-for-MySolo401k.html?entry=how-to-calculate-solo-401k

http://www.mysolo401k.net/Blog-for-MySolo401k.html?entry=reporting-distributions-from-solo-401k

http://www.mysolo401k.net/Blog-for-MySolo401k.html?entry=solo-401k-or-individual-401k

FDIC and SIPC Protection for: Self-Directed 401k | Solo 401k | Self-Directed Solo 401k

Retirement accounts including Solo 401k are federally insured up to $250,000 per bank.  This limit was increased from $100,000 to $250,000 by Congress in 2006.

Key Points of FDIC Coverage for Solo 401k | Self-Directed 401k

The $250,000 limit for federal deposit protection applies to Solo 401ks at banks and savings associations insured by the FDIC, and credit unions insured by the NCUA.

Pursuant to FDIC/NCUA regulations, all of one’s retirement accounts held at same insured bank are combined together and insure up to $250,000. 

Retirement accounts including Solo 401k are separately insured from other deposits held at same bank. For example, if in addition to a $250,000 Solo 401k, the participant has a $60,000 non-Solo 401k CD in her own name at XYZ bank plus a $95,000 non-Solo 401k CD at same bank in joint name with her husband, both of those accounts would be fully-insured because they’re under the $100,000-per-depositor-per –bank limit. The insurance for the non-Solo 401k accounts would be in addition to the $250,000 of insurance for retirement accounts at XYZ Bank.

FDIC Protection is Not Extended to Investments

Keep in mind that FDIC/NCUA insurance applies only to deposits such as checking accounts, savings accounts and CDs. As such, there is no federal deposit insurance for Solo 401k investments such as stocks, bonds, real estate, notes, etc.; even if they are purchased from an FDIC or NUCA insured institution.

SIPC Coverage

However, there is some protection for investments through the Securities Investor Protection Corp. (SIPC). This is an organization to which virtually all securities brokers belong. SIPC members contribute to a reserve fund that will reimburse investors up to $500,000 in cash. These reimbursements occur in cases of broker theft or the failure of a brokerage firm.

Solo 401k | Individual 401k Loan Default ad Offsets

Loan Default

For a Solo 401k plan loan (participant loan) to be granted an exemption from the IRS’s prohibited transaction rules, loan payments must be made according to a level amortized schedule with payments occurring at least quarterly. When a scheduled loan payment is not made by the end of the quarter in which it is due, the participant solo 401k loan goes into default. At this point, the plan may allow for a “cure period.” This cure period would give the Solo 401k plan participant until the end of the following quarter to catch up on payments.

Causes for Loan Default/ Distribution

A loan becomes a deemed distribution when:

 1) It has not been paid off within the maximum time frame (five years for most loans),

 2) a defaulted loan’s payments have not been caught up to date by the end of the cure period,

 3) a loan exceeds the maximum permissible amount, or

4) an event designated by the solo 401k plan, such as severance from employment, occurs.

Tax Consequences of Loan Default/Deemed Distribution

Even though a defaulted solo 401k loan is reported on Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs Insurance Contracts, etc., for the year in which the loan default (deemed distribution) takes place and normal tax consequences apply (including possible 10 percent early distribution penalty), a loan default/deemed distribution is not an actual distribution for all tax purposes.  Because this is not a true distribution, the defaulted loan cannot be rolled over into an IRA or another retirement plan. Additionally, after a deemed distribution, the loan is still considered a Solo 401k plan asset and may still be repaid. The Solo 401k loan continues to accrue interest, and that balance is used in determining the maximum loan amount available for any subsequent loans.  

Loan Offset Explained

A loan offset occurs when, under the terms of the Solo 401k plan loan, the participant’s accrued benefit is reduced by the amount of the outstanding loan (to “repay” the loan and enforce the plan’s security interest). As opposed to a loan default/deemed distribution, a loan offset is considered a distribution, the loan is no longer part of the plan assets, is not included as an outstanding loan when calculating the maximum loan available for a new loan, and cannot be repaid.

When can a loan be offset?

A defaulted loan can be offset only when there is a distribution trigger available to the participant under the plan. The participant must be eligible to take a distribution. Plans do have the discretion, however, to require loan offsets once a participant has reached a triggering event (e.g., death, disability, severance from employment) even if there has not been a default before the triggering event.

Tax Consequences of a Loan Offset

A loan offset is treated as a distribution for all tax purposes. The distribution is subject to income taxes, as well as any applicable penalty taxes, and is reported on Form1099-R. Provided that the offset takes place before a deemed distribution, it can be rolled over into an IRA or another retirement plan following the normal rollover rules.    

In-Plan Roth Rollovers aka Converting Solo 401k to Solo 401k Roth: Self-Directed 401k | Solo 401k | Individual 401k | Solo K

In-plan solo 401k Roth rollover defined

An in-plan Roth rollover is the movement of assets from your existing Solo 401k to a designated Roth Solo 401k account within your existing Solo 401k plan. Note that a Solo 401k plan is also referred to as a self-directed 401k, individual 401k or Solo K.

In-plan Roth rollovers resulted from the enactment of the Small Business Jobs Act of 2010.

Allowing for in-plan Roth rollovers

 
Only Solo 401k plans like the one offered by Mysolo401k.net that have designated Roth account option are permitted to offer in-plan Roth rollovers.

Process of doing an in-plan Roth Rollover

There are two ways to do an in-plan Roth rollover:

Direct rollover—as trustee of the solo 401k plan, by internally transferring an eligible rollover distribution from the Solo 401k plan’s non-Roth account to a designated Roth account in the same solo 401k plan, or

60-day rollover—by taking an eligible Solo 401k rollover distribution from the Solo 401k plan’s non-Roth account and subsequently depositing all or part of that distribution to a designated Roth account in the same Solo 401k plan within 60 days.

Recharacterizing (unwinding) an in-plan Roth rollover

The rules do not allow for the recharacteraztion of an in-plan Roth rollover (i.e., an in-plan Roth rollover cannot be returned to non-Roth status).

Distributions Types that qualify for in-plan Roth rollover

 1. Rollover contributions

 2.   After-tax contributions

 3. Employer profit-sharing contributions –but only when following   requirements are met:

•  Attainment of age 59 ½
• The employer contributions being converted have been in the plan for at least 2 years, or the participant has participated in the solo 401k plan for at least 5 years.

4. Salary deferrals (pre-tax elective deferrals)—only when you reach age 59 ½

Taxation of Solo 401k in-plan Roth Rollovers

Amounts processed as in-plan Roth rollovers are taxed in the same year and added to your gross income for the tax year.

In-plan Roth direct rollover is not subject to the 20% mandatory tax withholding; however, since you have to pay taxes either when you do the conversion or when you file your income tax return, it is recommended that you pay the 20% tax upfront to avoid having to increase your federal income tax withholding or make estimated tax payments to avoid underpayment of tax penalty.

The 10% early distribution tax does not apply to In-plan Roth rollovers at the time of processing. However, if withdrawn before a 5-taxable-year period the 10% may apply. Send us an e-mail at info@mysolo401k.net for more information on this.

Tax reporting in-plan Roth direct rollover

Reported on Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc by:

• Including the amount you rolled over in box 1 (Gross distribution)
• Including the taxable amount you rolled over in box 2a (Taxable amount)
• Reporting your basis in the amount rolled over in box 5 (Employee contributions)
• Using distribution code “G” in box 7

Tax reporting in-plan Roth rollover on your tax return
You are required to:

• File Form 8606, Nondeductible IRAs, with your  tax return; and
• Complete Form 8606, Part III, to report your in-plan Roth rollover.

Need to loan money to your Self-Directed 401k or Solo 401k?

It’s not commonly known, but Prohibited Transaction Exemption 80-26 (PTE 80-26), designed by the Department of Labor, allows Self-Directed 401k or Solo 401k owners to loan funds to their 401k if used for the payment of ordinary plan operating expenses (e.g., mortgage payments of 401k asset, or other payments associated with assets of the 401k) or for purposes incidental to the ordinary operation of the Solo 401k. There is no limit on loan amount.

However, before applying this PTE exemption you first have to confirm that you don’t have other viable ways of paying Solo 401k operating expenses, such as the following:

·         You don’t have cash in your Solo 401k

·         Have no other qualified plans (e.g., other 401ks, Profit Sharing Plan) or IRAs to roll over

·         Have already maximized your annual cash contribution for the year or don’t qualify to make contribution

Put simply, you can only loan funds to your self-directed 401k or Solo 401k if you have exhausted above options.

If after determining above you still need to loan funds to your solo 401k ,the following conditions must be met to be in compliance with PET 80-26:

·         The loan is interest free and no fees are charged to the Solo 401k.

·         The loan is unsecured.

·         If loan terms are for more than 60 days, a written loan agreement is required.

·         Loan is used for purposes incidental to the ordinary operation of the plan (i.e., not used for making investment purchases, or personal use)

Here’s website link for Department of Labor containing information on this PTE exemption.

 http://www.dol.gov/ebsa/regs/fedreg/notices/2006005075.htm

Here’s the contact information for DOL agent regarding this PET exemption:

Christopher Motta, Office of Exemption Determinations, Employee Benefits Security Administration, U.S. Department of Labor, (202) 693-8540.

Avoid Investment Fraud & Investment Risks: Self-Directed 401k | Self-Directed Solo 401k

While a self-directed 401k, also known as self-directed solo 401k or Solo 401k, is a safe method to invest retirement funds, you should be careful of promoters of fraudulent investment schemes, as they often target self-directed 401ks because self-directed 401ks allow investors to invest in an array of asset types such as real estate, promissory notes, tax lien certificates, precious metals and private placement securities.

Make sure you understand your role as trustee of the solo 401k. For instance, you as trustee are ultimately responsible for choosing investment types and determining their validity. Therefore, make sure to examine the quality or authenticity of an investment and its sponsor. As the investor, make sure to review investment offers and investment promoters by checking with regulators such as North American Securities Administrators Association's website. http://www.nasaa.org/

As trustee of the Self-Directed 401k, you generally safe keep the plan's alternative investments, which are unregistered securities (that is, they are not required to be registered with the SEC), with the cash held in the plan's checking account. Since you have easy access to your plans liquid funds and make the final investment decision, fraud promoters typically will offer large investment returns and spotty paperwork that has not been audited. Remember that all investments have certain risk, and the amount of risk generally correlates with the investment return. In other words, low risk investing generally equals low returns and large returns are usually associated with higher risk. A tactic fraud promoters commonly incorporate is promising high returns with no risk. Don't fall for it!

To prevent fraud, review and verify the investment sponsors account statements as alternative investments are tough to value and may be illiquid. As a result, they may be listed at their original price for several years. Also, stay in contact with the investor sponsor and get your attorney or accountant involved in reviewing the investment statements for accuracy.

                                                Additional Information

Several government websites contain educational information for investors regarding preventing investment fraud. Here are some of them:

SEC's Office of Investor Education and Advocacy's homepage: http://www.sec.gov/investor.shtml

SEC's Investor.gov website: http://www.investor.gov/

NASAA's investor education webpage: http://www.nasaa.org/

Also check out:

Questions You Should Ask about Your Investments:

http://www.sec.gov/investor/pubs/sec-questions-investors-should-ask.pdf

How to Avoid Fraud: http://www.sec.gov/investor/pubs/avoidfraud.htm

Is a Self-Direct 401k Plan Right for You?

Referred by others names such as Self-Directed Solo 401k, Solo 401k, Solo K or Small 401k, a self-directed 401k plan may be right for you based on the following.

Qualification

If you are considering investing in alternative investments such as real estate, notes, small companies or gold, a self-directed 401k may be right for you. However, you must first determine if you qualify for a small company 401k because a self-directed 401k plan is designed for the individual business owner or self employed and his or her spouse.

Excluded

As a small business owner, you still qualify for a self-directed 401k plan even if you have other employees. You see the law permits you to exclude from a self-directed 401k the following types of employees:

Those under age 21

Part time employees (work less than 1,000 hours per year)

Union employees

Non-resident aliens with no U.S. income

Some Advantages

• No income limit restrictions for Roth contributions
• You can invest in an S corporation
• Option to buy life insurance
• Permitted to borrow (take a personal loan) up to $50,000 or 50% whichever is less
• Gains from leveraged real estate purchases are not subject to Unrelated debt-financed income (UDFI) Tax (refer to IRS Publication 598 for information on UDFI)

Solo 401k Plan Facts

First available—made possible by the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA).

Participation—designed exclusively for small business owners and is the retirement plan of choice for owner-only businesses such as sole proprietors, corporations, LPs, and LLCs.

Can Exclude Certain Employees—under federal laws applicable to qualified retirement plans, specific categories of employees may be excluded from participating in a Solo 401k plan, which are:

  Employees under age 21

  Employees working fewer than 1,000 hours in a year

  Nonresident aliens

  Union employees

Effective—designed to maximize 401(k)/profit sharing contributions while being less complex and less costly to maintain than other retirement plans.

Higher Contribution limits—allows for tax deductible contributions of 25% profit-sharing contribution and salary-deferral contribution of $16,500 for maximum amount of $49,000 per participant for tax year 2011.

Roth Contributions—allows for designated Roth contributions, $16,500 for 2011.

Loans/Borrow—resulting from change of IRC Sec. 4975(f) (6), which expanded the loan feature to Solo 401k plans, participants can borrow from Solo 401k.

Transfers/Rollovers—allows for rollovers/transfers from other retirement plans (e.g., 401ks, profit sharing plans, 403(b) s, define benefit plans, 457s and IRAs).

Annual Contributions not required—business owners can contribute in some years but are not required to contribute every year.

Easy to Administer—even though Solo 401k plans are 401(k)-based plans, they are easier to administer because they are not subject to the majority and costly nondiscrimination testing that apply to regular 401(k) plans.

Form 5500 EZ—annual return for one-participant (owners and their spouses) Solo 401k plans, and only required when plan balance reaches $250k or more, or when plan is terminated.

Plan Trust Document—in order to establish a Solo 401k plan, the employer is required to fill out and sign a written, plan trust document that has been approved by the IRS.

Contribution Types: Self-Directed 401k | Self-Directed Solo 401k | Solo 401k | Solo K

A Solo 401k, often referred to as a self-directed Solo 401k plan, Self-Directed 401k or Solo K, allows for the following three (3) types of contributions:

1. Discretionary profit sharing contributions

2. Salary deferral contributions

3. Designated Roth contributions

Each contribution types have separate limits, and, when combined, cannot exceed the maximum Solo 401k contribution amount.

The maximum contribution allowed for a self-employed business in 2011 is 25 percent of compensation, plus a $16,500 of employee salary deferral or designated Roth contributions not to exceed $49,000 plus catch-up contributions of $5,500 if eligible (i.e., your are age 50 or older in 2011 ) for a total of $54,500.

Solo 401k Contribution Types Explained

1.Profit Sharing Contributions

In accordance with IRC Sec. 404 the profit sharing contribution cannot exceed 25% of income derived from business activity.

Salary deferral contributions are not included with profit sharing contributions when calculating the 25 percent deductible contribution.

Profit sharing contributions to Solo 401k plan are not required to be made each year.

2. Salary Deferral Contributions

The salary deferral feature found under IRC Sec. 402(g) permits business owners to contribute up to 100 percent of compensation not to exceed $16,500 to the Solo 401k plan for 2011.

The rules also allow for catch-up contributions provided you are age 50 or older. For 2011, the maximum catch-up amount is $5,500 per IRC Sec. 414 (v).

3. Designated Roth Contributions

Since 2006, the self-employed (and spouse if applicable) have been allowed to treat all or some portion of their salary deferral limit (the $16,500 portion) as designated Roth 401(k) contributions.

The designated Roth contributions are outlined in IRC Sec. 402A, and treated as after-tax contributions (that is, you cannot take a tax deduction for the contribution).

However, all earnings resulting from the Roth contributions can be distributed tax-free.

Deferrals and Roth contributions together cannot exceed the $16,500, plus the $5,500 catch-up contribution if age 50 or older.

Things to consider before processing rollover from SEP IRA to: self-directed 401k | self-directed Solo 401k |401k real estate | Solo 401k | Solo K | Individual 401k | Individual K | Single 401k | self-employed 401k | owner only 401k

If you are currently participating in a simplified employee pension (SEP) IRA and want to now participate in a Solo 401k (commonly referred by other names such as self-directed 401k or Self-Drected Solo 401k), a new plan document must be signed. You cannot update your SEP IRA document to a Solo 401k plan.

With respect to terminating the SEP IRA, you have two options, which are:

1. Terminate the SEP IRA and rollover the assets to the Solo 401k plan.

2. Rollover some of the funds to the new Solo 401k plan and keep the rest of the SEP assets in the IRA--however, any assets remaining in the IRA cannot be distributed without the 10% early distribution penalty until you reach 59 1/2 (unless you qualify for an exception under IRC Sec. 72(t))

Take a loan or borrow

Lastly, after rolling over your SEP IRA assets to a Self-Directed Solo 401k plan, they can be borrowed through a participant loan, resulting in tax and penalty-free access to your money. To learn more about borrowing from a Solo 401k plan visit the following link. http://www.mysolo401k.net/Solo401kLoan.html

Items to consider before processing rollover from SIMPLE IRA to: Solo 401k | Solo K | Individual 401k | Individual K | Single 401k | Self-Directed Solo 401k | Self-Directed 401k | Owner only 401k | Self-employed 401k

Since the inception of the Solo 401k (often referred by other names such as owner only 401k, self-employed 401k or self-directed 401k) in 2002 with the passage of EGTRRA, owner-only businesses have consistently switched from participating in SIMPLE IRA to Solo 401k.

However one should consider the following before making the switch from SIMPLE IRA to Solo 401k to stay in compliance with the regulations:

Cease making contributions to SIMPLE IRA

If you currently participant in a SIMPLE IRA, not only must you first cease making contributions to it but also not have made contributions to it in the year that you would like to rollover the SIMPLE IRA to the new Solo 401k. In addition, you cannot make future contributions to the SIMPLE IRA while the solo 401k is active.

ILLUSTRATION:

Daniel has been contributing to her SIMPLE IRA for the last four years, including this year, but recently read how a Solo 401k or Self-Directed 401k will allow her to put way more for retirement. However, because Daniel contributed to her SIMPLE IRA this year, she must wait until next year to transfer her SIMPLE IRA to a Solo 401k, provided she establishes the Solo 401k by December 31 of this year.

2 Year Period to avoid 25% penalty

Before you proceed with rolling over your SIMPLE IRA to a Solo 401k, first confirm that it has been at least two years since you first contributed to it. Reason being, you will be hit with a 25% distribution penalty on the amount of the rollover if you rollover before the two year period has expired.

The role of the plan trustee: Solo 401k | Individual 401k | Self Directed 401k

A Solo 401k or Individual 401k must have a named trustee, and all plan assets must be held in a trust. The trustee holds the Solo 401k or Self Directed 401k plan non cash assets (e.g., real estate purchase documents, private investment certificates and forms, promissory notes or trust deed documents, to name a few), and ensures the cash assets are deposited in the Solo 401k’s checking account through the bank.  Additional responsibilities assigned to the trustee include managing the plan’s investments, although this function can be delegated by trustee to another individual such as an investment manager, or financial professional. Please refer to the following regulation for more information on this: [ERISA 403(a), 29 U.S. C. 1103 (1974)]
What’s more, the Individual 401k or Solo 401k plan trustee is usually responsible for processing contributions and investment transactions, disbursing funds or paying fees and expenses of the Solo 401k trust, and filing Form 1099-R (only required if distributions from the Solo 401k are processed or if assets are rolled over to an IRA), and Form 5500 once the Solo 401k reaches $250,000 in value (this value applies to cash and noncash assets combined).

Basic Trust Document Requirements and Advantages: Self Employed 401k | Solo 401k | Self Directed 401k

Self Employed 401k plans, like other types of qualified plans, must meet the basic qualification requirements for retirement plans as outlined in Code Section 401(a).

Advantages afforded to a Solo 401k plan that is qualified

The many advantages of having a qualified Self Directed 401k plan or Solo 401k include the following:

1. The employer can take a tax deduction for making contributions to the self employed 401k plan.

2. Investment earnings of the Solo 401k plan's assets are not subject to current taxation.

3. As a Participant or Trustee of the plan, you can avoid current taxation of amounts allocated to the self directed 401k.

4. As a Participant/Trustee of the plan, you may roll over plan benefits from or to other employer-sponsored plans or IRAs  tax-free.

The Solo 401k plan must be in writing

Some states recognize the existence of an oral trust; however, a Solo 401k or self employed 401k plan will not be considered qualified unless it is established and operated in accordance with a definite written program. This is outlined in the following regulation- [Treas. Reg. 1.401-19(a) (2)]. The Solo 401k written document must include all provisions essential for qualification as outlined in [Rev. Rul. 74-466, 1974-2 C.B. 131]. The Solo 401k Plan document serves to define the rights and obligations of the plan sponsor, Participant/Trustee, and beneficiaries. It also must be reviewed by the IRS, which it then issues a determination letter confirming that the plan is tax-qualified.

Employer may establish a 401k plan that covers only one participant: Self Directed 401k | Solo 401k

Nothing in the law prohibits an employer from establishing a 401k plan that covers only one participant. In fact, because elective deferrals (the maximum elective deferral is also referred to as employee contribution and for 2011 the cap is $16,500) do not count toward the Code Section 404 deduction limit (25 percent of compensation also known as employer contributions), and because that limit is based on compensation before reduction for elective deferrals, a greater amount can be contributed to a one-person 401k also know as a Solo 401k or Self Directed 401k plan that can be contributed to a profit sharing plan.

Example 1. In 2011, The XYZ Corporation has only one employee, Jack, who has annual pay of $110,000. If XYZ Corporation adopts a profit sharing plan, the maximum amount that can be contributed and deducted for Jack is $27,500. On the other hand, XYZ Corporation would be better off establishing a Solo 401k plan to which it can contribute the same $25,000, but to which Jack can also contribute $16,500 of elective deferrals for a total contribution of $44,000.

Example 2. The facts are the same as those in Example 1 except that Jack’s compensation in 2011 is $50,000. If XYZ Corporation makes a contribution for Bill to a profit sharing plan, the contribution would be limited to $12,500 (25% X 50,000). However XYZ Corporation has the option to contribute the same amount to a Solo 401k plan, which would allow Jack to contribute an additional $16,500.

Sole Proprietor Plan Types: Owner only 401k or Solo 401k vs. SEP and SIMPLE

A sole proprietorship is the simplest business type—and unincorporated business entity owned by one person. While sole proprietorships can have employees, the majority of entities are owner-only business. The simplicity of a sole proprietorship’s business structure calls for a retirement plan that is specific to sole proprietor or has its best interest. Sole proprietors generally require a retirement plan that is cost-effective for a small business, easy to administer, and beneficial from an income tax perspective.

Sole proprietors typically open one of the following types of retirement plans. Each plan type offers a different approach to retirement plans saving.

Simplified Employer Pension (SEP IRA)

SEP IRA plans allow sole proprietors to shield a substantial portion of employer income from taxes each year (25% of compensation). The contributions are also discretionary, which means you don’t have to make a contribution every year. One of the main differences between a SEP plan and a profit sharing plans is that SEP contributions are made to the sole proprietor’s Traditional IRA rather than to a plan account.  

Saving Incentive Match Plan for Employers (SIMPLE IRA)

SIMPLE IRA plans are also effective and simple to administer retirement options for sole proprietors. SIMPLE IRA plans allow the sole proprietor reduce his or her taxable business income by allowing for the deferral of income on top of a required match contribution.

Solo 401k or Individual 401k or Individual K or Solo K
A sole proprietor with no employees (other than his spouse) also has the option of establishing an owner only 401k plan also known as a Solo 401k or Self-Directed 401k. While owner-only 401k or Solo 401k plans have been available since the inception of the 401k plan, there had been no persuasive tax reason for an owner-only business to establish such a plan. Reason being, other plan types offered the same or larger tax benefit or savings limits, without the added complications. This all changed, however, with passage of the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), which changed the way deferrals are included in determining the employer’s deductible contribution. This change resulted in higher contribution amounts in a cost-effective, less complex plan. Also known as Solo k or self-employed 401k or Single K, Solo 401k plans have gained popularity since EGTRRA provisions became effective in 2002.

Process for Terminating or Closing a: Solo 401k | Solo K | Individual 401k | Individual K

Does a Solo 401khave to be maintained indefinitely? Although all qualified retirement plans, including Solo 401k plan or Individual K, are required to be established with the intention of being continued indefinitely, the IRS has outlined procedures for terminating a Solo 401k or Solo K.

What's the IRS required process for terminating a Solo 401k? After the assets have been distributed (e.g., taxes are paid on distribution or assets have been transferred to another 401k or IRA), a Final Form 5500-EZ, Annual Return of On-Participant (owners and Their Spouses) Retirement Plan, must be filed with the IRS. See IRC Sec. 6058a.

IMPORTANT:In the year in which final distribution occurs, even if the assets are under $250,000, Form 5500-EZ is always required, even if the employer has never filed one before.

What's the deadline for distributing all assets from a terminating Solo 401k? All Solo 401k plan assets generally must be distributed within one year of the Solo 401k termination date.

What's the due date of the final Form 5500-EZ? The final Form 5500-EZ is due at the end of the seventh month following the month in which all Solo 401k plan assets are distributed.

Who Must File Final Form 500-EZ?

The plan administrator or employer/Trustee is responsible for filing the annual 5500 series return.

Is a Final Form 1099-R, Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc., required when closing out Solo 401k?

Yes a final Form 1099-R must be filed with the IRS when terminating a Solo 401k or Solo K.

Investing in Life Insurance with: Solo 401k| Individual 401k| Solo k| Individual K

Though restricted, you may use your Solo 401k to invest in Life Insurance. This makes sense in the following cases:

·         You may not otherwise qualify for life insurance because of health reasons;

·         don’t have other disposable funds; or

·         want more protection for your beneficiaries.

General Guidelines for investing in Life Insurance with Solo 401k: In general no more than 50% of Solo 401k or Individual 401k plan contributions may be used to purchase “whole” life insurance (i.e., policies with both nondecreasing death benefits and nonincreasing premiums), and no more than 25% may be used to purchase term or “universal” life insurance.

Different treatment for Solo 401k contributions used to purchase life insurance: when a self-employed business owner invests her Solo 401k in Life Insurance, she does not receive a tax deduction for Solo 401k contributions attributable to the purchase of a life insurance benefit, therefore, she does not pay taxes on P.S. 58 costs (that is, life insurance premiums) for the year of contribution. By denying the self-employed individual the Solo 401k contribution deduction, she is effectively including the PS-58 costs in income like the common-law employee.  

Issuing life insurance policy: A group or individual life insurance policy purchased by the Solo 401k Plan may be issued on the life of an Owner-Employee, an Owner-Employee’s spouse, an Owner-Employee’s child or children, a family member of the Owner-Employee, or any other individual with insurable interest.

Ownership of Life Insurance Policies: The Trustee of the Solo 401k is the owner of any life insurance policies purchased under the Solo 401k plan. Further, any life insurance policy purchased under the Solo 401k Plan must designate the trustee as owner and beneficiary under the policy. The insurance premiums are paid with funds from the Solo 401k’s checking account.

Reasons not to invest Solo 401k plan assets in life insurance: Although IRC §501(a) provides tax-exempt status to a qualified plan, including a Solo 401k, resulting in tax-deferred investment accumulation on the Solo 401k plan assets, a life insurance vehicle is tax-deferred on its accumulation outside of the plan as well. As such, the assets in the Solo 401k plan that are used to purchase life insurance are not getting any special income tax benefit on the accumulation in the contract by being held in the Solo 401k or Individual K plan.
Less Solo 41k funds to invest: The purchase of life insurance will reduce the amount available for investing in other assets such as real estate. Although life insurance may have an investment element (i.e., cash value accumulations), you may be foregoing higher returns by not investing all your Solo 401k plan in other investments.

Solo 401k | Individual 401k | Solo K: Contribution Deadlines That Fall on Weekend or Holiday

If the due date of the employer’s tax return for making the Solo 401k annual, tax-deductible contribution falls on a holiday or weekend, then the contribution due date is the next business day. For example, the due date for a sole proprietor’s tax return for a taxable year ending December 31, 2011, normally would be April 15, 2012; however, because that date is a Sunday, the due date will be April 16, 2012. Since a Solo 401k plan contribution made on April 16, 2012, falls on the deduction deadline for the year ending December 31, 2011, it is deductible in that prior year.

Rule Also Applies to Extensions: The weekend/holiday rule also applies to extensions of the tax return due date. For instance, if a corporation obtained the 6 month extension on its tax return for a taxable year ending December 31, 2011, the extended due date normally would be September 15, 2012, but because that date is a Saturday, the extended due date will be September 17, 2012. As such, a Solo 401k plan contribution made on September 17, 2012, would be within the allowable deduction period for the taxable year ending December 31, 2011.
MPORTANT: The Solo 401k | Individual 401k | Solo 401k| must be in existence by the end of taxable year for which deduction is first allowed. Simply put, a deduction is not allowed for a prior taxable year if the Solo 401k plan is not established by the end of that taxable year.

EXAMPLE: Establishment of Solo 401k Plan. Corporation Y is a calendar year corporation. It establishes a Solo 401k plan on February 1, 2011. The plan cannot be made effective for the taxable year ending December 31, 2010, to obtain a deduction  for 2010, because the plan is established after the close of the taxable year (i.e., after December 31, 2010).

Note: Although the Solo 401k plan must be established by the end of the taxable year, it is not required to be funded by that date.  

Solo 401k | Solo K | Individual 401k: Annual Contribution Deadline Depends on Type of Employer

When the employer is a corporation, the Solo 401k contribution deadline is based on the due date of the tax return (Form 1120) that is filed by the corporation for the taxable year. See chart below.

When the employer is a partnership, the applicable due date is for the tax return (Form 1065) filed by the partnership for the taxable year, not the individual tax returns of the individual partners.

When the employer is a sole proprietorship, the applicable Solo 401k contribution deadline depends on the tax return (Form 1040) due date, filed by the sole proprietor. Note that a sole proprietor's trade or business income is reported on Schedule C of Form 1040.

A limitedliability company (LLC) will file Form 1120 or Form 1065 (or Form 1040, if there is one owner), depending if it has elected to be treated as a corporation or an unincorporated entity for federal tax purposes.

The below table lists the filing deadlines for calendar year entities, and is a good source for determining applicable Solo 401k or Individual 401k contribution deadlines:

Employer Type*	Tax Return	Filing Deadline	Extended Deadline
Corporation	Form 1120	March 15	September 15
LLC Taxed as Corp.	Form 1120	March 15	September 15
Partnership	Form 1065	April 15	October 15
LLC Taxed as Part.	Form 1065	April 15	October 15
Sole Proprietorship	Form 1040	April 15	October 15
*Calendar year tax filer

EXAMPLE: Individual Partner Extends Her Return

Partnership X is owned by Ed and Jane. The tax return (Form1065) for 2010 tax year is filed on time. However, Jane extends her personal tax return until August 15, 2011. The partnership must make the contribution for Jane to the Partnership X Solo 401k plan by the due date of the Form 1065, regardless of the due date of Jane's personal return, in order to deduct the Solo 401k contribution for the 2010 tax year.