A Solo 401k is your ticket to investing in more than just mutual funds. Within limitations, the Solo 401k gives you control over your investing rather than just investing in mutual funds.
- Want to invest in real estate? Use your Solo 401k
- What to invest in a startup business? Use your Solo 401k
- What to invest in gold, silver, etc? Use your Solo 401k
- What to invest in Bitcoin? Use your Solo 401k
Learning what is a Solo 401k will open up your world of investing to so many more possibilities to make even more money.
There are some rules and other things you need to be aware of before you start a 401k.
Plus, in this article, I’ll show you how to start a Solo 401k with a terrific company.
Solo 401k Rules
A solo 401k, also known as an individual 401k, is a type of a 401k plan that is geared toward business owners who don’t have employees, who are known as solopreneurs.
Similar to other types of 401k plans, a solo 401k is a defined-contribution and tax-qualified retirement savings account that is deducted prior to taxation.
This means that this is tax-deferred until it is withdrawn following your retirement. The solo 401k has a limited maximum pre-tax yearly contribution of $57,000 for this year, 2020.
If your business entity is a kind of partnership, every shareholder will also be eligible for paying contributions for their own solo 401k retirement plan.
As you inch closer to opening your own solo 401k, you need to be familiar with important rules and details.
To become qualified for a solo 401k, there are a few requirements you need to meet. The two primary solo 401k rules include the following:
- You should be earning a self-employed income.
- You should not have employees that work 1,000 hours or more yearly.
There are no income or age restrictions, which means that anyone is allowed to sign up for solo 401k plans provided that you own a registered self-employed business, such as a sole proprietorship, partnership, LLC, S corporation, or C corporation.
Who Is Qualified for a Solo 401k?
For you to become qualified for solo 401k plans, you must be self-employed or the owner of a small business. You should not have full-time employees in your business aside from your spouse, if applicable.
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You can still get a solo 401k plan even if you have a part-time employee as long as the part-time worker only works for less than 1,000 hours annually or lower than 20 hours a week.
When Do You Need to Establish a Solo 401k?
If you are planning to make a solo 401k contribution in 2020, one of the main requirements is to establish your individual 401k by December 31st, 2020.
It is possible to give contributions to a solo 401k prior to the deadline of filing your taxes as long as you don’t own an incorporated business.
When Do You Take Distributions?
Until 2019, the requirement was for you to take Required Minimum Distributions (RMDs) at the age of 70 ½.
However, this was bumped up to 72 years old with the latest passage of Setting Every Community Up for Retirement Enhancement Act (SECURE).
In short, it means that you are required to start taking distributions the moment you reach the age of 72. This is what makes it different from a Roth IRA that doesn’t have an age requirement for distributions.
Take note that you could take distributions with no penalty at any given time after you turn 59 ½ years old.
The $250,000 Rule in Solo 401k
The moment your solo 401k has grown in assets worth more than $250,000, you will need to file the yearly Form 5500 EZ once you choose to have your account closed.
Talk to your accountant about filing the form.
Who I Use for My Solo 401k Investing In Real Estate
There is one company that I and my real estate invseting students use for our Solo 401k.
Rocket Dollar basically makes it so easy for you to invest with your Solo 401k. They make it just like a checkbook and gives you control over everything.
I have a promo code for you to get $100 off signing up for Rocket Dollar.
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Solo 401k vs. Sep IRA
SEP IRA is one more form of retirement plan that is often recommended to people who own a small business.
How SEP IRAs work is the same as that of the traditional IRAs. These are treated similarly for tax purposes with the same investment options.
But what makes the SEP IRA a great investment plan for a small business owner is because it doesn’t have most of the operating costs associated with other conventional types of retirement plans under the sponsorship of an employer.
The other reason why the SEP IRA is perfect for small businesses is because of the requirements on how to be eligible for the plan.
One of these requirements is that the contributor should be at least 21 years of age and have been employed for a minimum of three years with a minimum compensation of $600.
In addition, this type of investment plan also allows the interruption of contributions during years when the business doesn’t do well.
The primary difference of a SEP IRA from a solo 401k is that you are not allowed to take a loan from your investment plan in a SEP IRA.
Solo 401k Contribution Limits
This 2020, the total contribution limit for a solo 401k is up to $57,000. An extra catch-up contribution worth $6,500 is added if you are 50 years old or above.
To better understand the contribution rules of solo 401k, you need to consider yourself to be two persons. The first person is as an employee, who is yourself, and the second one is an employer, who is also yourself.
Within the total contribution limit of $57,000, your contributions will be subjected to several other limits in both roles:
- As an employer, you could make an extra profit-sharing contribution of a maximum of 25% of your net self-employment income or compensation. This will be your net profit half of self-employment tax and your own plan contributions. The compensation limit that could be used for factoring your contribution in 2020 is $285,000.
- As an employee, you could contribute 100% of your compensation or a maximum of $19,500 in 2020, whichever is less. Anyone who is 50 years old or above can contribute an extra $6,500 here.
You have to take note that if you have a side hustle, the employee limits of a solo 401k is applicable by person instead of by plan.
It means that if you also have a 401k at your regular 9 to 5 job, the limit will be applicable to the contributions to all the plans and not just on every individual plan.
Solo 401k Contribution Deadline
The contribution deadline for a solo 401k can vary based on two main factors:
- The specific type of business, whether it is a sole proprietorship, multiple-member or single-member LLC, or S or C corporation
- The way the contribution is being made, whether through profit-sharing or employee deferral contribution component
Let us take a sole proprietorship as an example here. For the employee deferral contribution component, a sole proprietor can make a maximum solo 401k contribution of $19,500 in 2020.
People who are already 50 years old or higher can choose to add an extra yearly catch-up contribution that is worth $6,500 that will bring their yearly deferral contribution to a maximum of $26,000.
Based on the rules for the contribution deadline for a solo 401k, the participants of the plan must formally choose to make the employee deferral contribution by December 31st.
But the actual contribution could be made up until the deadline of filing for personal taxes, which is on April 15 or even October 15 if there was an extension filed.
The after-tax and/or pretax funds could be used in order to make the employee deferral contributions.
On the other hand, a sole proprietorship could also make yearly profit-sharing contributions to a solo 401k on behalf of the owner of the business and the spouse.
According to the Internal Revenue Code Section 401(a)(3), the employer contributions will be limited to up to 25% of the income of the business entity subject to the self-employment tax.
The schedule C sole proprietors should base the maximum contribution on the earned income, which is an extra calculation that can lower the maximum contribution to up to 20% of the earned income.
The step-by-step worksheet for the calculation can be found on the IRS Publication 560.
Compensation is defined as the net earnings that come from the self-employment activity. The definition also includes the different eligible deductions for tax:
- The deduction for the contributions to the solo 401k plan on your behalf
- The deduction for half of the self-employment tax.
The solo 401k contributions of a sole proprietor for the profit-sharing component should be made by the deadline of filing taxes, which is on April 15 or October 15 if there was an extension filed.
Solo 401k Max Contribution
For 2020, the maximum amount of contribution to a solo 401k for a self-employed individual is $57,000 if the person is younger than 50 years old.
People who are 50 years old or higher could have an additional $6,500 annually in the catch-up contributions to bring to a total of $63,500.
The amounts are much higher than the maximums in 2019. However, whether you are allowed to contribute this maximum or not is going to be determined by your income.
You are allowed to put away this much since you can make contributions as an employer and an employee at the same time, although both types of solo 401k contributions have their own unique IRS rules.
How to Set Up Rocket Dollar for Solo 401k Investing
Rocket Dollar, in case you haven’t heard of it before, is a type of platform where you will be able to invest in any category of asset as the IRS allows.
The only difference is that the specialization of this platform is on investments in the unconventional types of assets like loan investments, precious metals, and real estate.
If you ever choose to invest with the help of Rocket Dollar, you will discover that the whole process is actually simple and easy. This is because the platform itself is going to guide you as you set up your own account for a solo 401k.
To set up your solo 401k account, you need to open a bank account that will be meant for this specific purpose.
After you are done setting up the bank account, you can invest any kind of asset according to what the IRS allows that can include unconventional assets.
Rocket Dollar will also let you keep tabs on your investments with no hassle through the use of their investment tracker.
To start investing in your solo 401k account, you should have a trust account that is going to be taken care of once you set up your solo 401k with the platform.
During the process of setting up your solo 401k plan, you are going to be provided with all the necessary documents together with the Employee Identification Number (EIN).
The Bottom Line
With this short guide, you can see that a solo 401k investment is an ideal alternative that you can consider if you happen to be a self-employed individual.
At first, you might find it daunting or even confusing to set up a solo 401k, but you will soon discover that it is not that hard.
On top of that, you can get the assistance of an intermediary in case you feel like you can use some help.
The solo 401k is one of the best ways to save for your retirement in case the usual retirement plans that are employer-sponsored are not possible for you.
Make sure you learn as much as you can about the solo 401k so you can reach the right investment decision.