Aug 31

How to Purchase Coins with a Solo 401(k)

The IRS does not list the type of assets or investments that may be purchased with retirement funds, but does indicate which categories of assets or investments are not permitted.

The categories of transactions that are not permitted to be purchased using a Solo 401(k) Plan can be found in Internal Revenue Code Sections 408 & 4975.

Does IRC 408 and 4975 Apply to Solo 401(k) Plans?

The Department of Labor (“DOL”) regulations provide that a plan that covers only partners or a sole proprietor is not covered under Title I of ERISA.

The provisions of Title I of ERISA, which are administered by the U.S. Department of Labor, were enacted to address public concern that funds of private pension plans were being mismanaged and abused. ERISA was the culmination of a long line of legislation concerned with the labor and tax aspects of employee benefit plans. The goal of Title I of ERISA is to protect the interests of participants and their beneficiaries in employee benefit plans. Hence, for plans that only cover owners, there is no need for ERISA since there are no non-owner employees to protect. Accordingly, most plan documents state that the rules set forth under Internal Revenue Code Section 408 will apply to Solo 401(k) Plan investments.

Introduction

When it comes to coins or metals, Internal Revenue Code Section 408 is generally the provision that applies. In general, collectibles such as artworks, rugs, stamps, certain coins, beverages and antiques, etc. are not allowed within a Solo 401(k) Plan pursuant to Internal Revenue Code Section 408.

Internal Revenue Code Section 408 is specific as to what defines a collectible. Some notable exceptions are allowed for certain gold (such as American Eagle) and silver coins and any coins issued by a state.

The Law

Internal Revenue Code Section 408(m):

(3) Exception for certain coins and bullion

For purposes of this subsection, the term “collectible” shall not include —

(A) any coin which is —

(i) a gold coin described in paragraph (7), (8), (9), or (10) of section 5112 (a) of title 31, United States Code,

(ii) a silver coin described in section 5112 (e) of title 31, United States Code,

(iii) a platinum coin described in section 5112 (k) of title 31, United States Code, or

(iv) a coin issued under the laws of any State, or

(B) any gold, silver, platinum, or palladium bullion of a fineness equal to or exceeding the minimum fineness that a contract market (as described in section 7 of the Commodity Exchange Act, 7 U.S.C. 7) requires for metals which may be delivered in satisfaction of a regulated futures contract if such bullion is in the physical possession of a trustee described under subsection (a) of this section.

Subsection (a) states:

(a) Individual retirement account

For purposes of this section, the term “individual retirement account” means a trust created or organized in the United States for the exclusive benefit of an individual or his beneficiaries, but only if the written governing instrument creating the trust meets the following requirements:

(1) Except in the case of a rollover contribution described in subsection (d)(3) in section 402 (c), 403 (a)(4), 403 (b)(8), or 457 (e)(16), no contribution will be accepted unless it is in cash, and contributions will not be accepted for the taxable year on behalf of any individual in excess of the amount in effect for such taxable year under section 219 (b)(1)(A).

(2) The trustee is a bank (as defined in subsection (n)) or such other person who demonstrates to the satisfaction of the Secretary that the manner in which such other person will administer the trust will be consistent with the requirements of this section.

(3) No part of the trust funds will be invested in life insurance contracts.

(4) The interest of an individual in the balance in his account is non-forfeitable.

(5) The assets of the trust will not be commingled with other property except in a common trust fund or common investment fund.

(6) Under regulations prescribed by the Secretary, rules similar to the rules of section 401 (a)(9) and the incidental death benefit requirements of section 401 (a) shall apply to the distribution of the entire interest of an individual for whose benefit the trust is maintained.

Hence, it is clear that in the case of physical metals, such as gold, the metals must be held in the physical possession of a U.S. trust (i.e. bank or depository), however, the “physical possession” requirement does not appear to relate to the possession of coins. A more detailed analysis will follow below.

31 U.S.C. 5112 refers to Denominations, specifications and design of coins.

(a) The Secretary of the Treasury may mint and issue only the following coins:

(1) a dollar coin that is 1.043 inches in diameter.

(2) a half dollar coin that is 1.205 inches in diameter and weighs 11.34 grams.

(3) a quarter dollar coin that is 0.955 inch in diameter and weighs 5.67 grams.

(4) a dime coin that is 0.705 inch in diameter and weighs 2.268 grams.

(5) a 5-cent coin that is 0.835 inch in diameter and weighs 5 grams.

(6) except as provided under subsection (c) of this section, a one-cent coin that is 0.75 inch in diameter and weighs 3.11 grams.

(7) A fifty dollar gold coin that is 32.7 millimeters in diameter, weighs 33.931 grams, and contains one troy ounce of fine gold.

(8) A twenty-five dollar gold coin that is 27.0 millimeters in diameter, weighs 16.966 grams, and contains one-half troy ounce of fine gold.

(9) A ten dollar gold coin that is 22.0 millimeters in diameter, weighs 8.483 grams, and contains one-fourth troy ounce of fine gold.

(10) and contains one-tenth troy ounce of fine gold.

(e) Notwithstanding any other provision of law, the Secretary shall mint and issue, in quantities sufficient to meet public demand, coins which —

(1) are 40.6 millimeters in diameter and weigh 31.103 grams;

(2) contain .999 fine silver;

(3) have a design —

(A) symbolic of Liberty on the obverse side; and

(B) of an eagle on the reverse side;

(k) The Secretary may mint and issue platinum bullion coins and proof platinum coins in accordance with such specifications, designs, varieties, quantities, denominations, and inscriptions as the Secretary, in the Secretary’s discretion, may prescribe from time to time.

How do I hold IRS Approved Coins with a Solo 401(k) Plan?

Now that you have a clear idea of the types of coins that the IRS allows to be purchased using retirement funds, the next question becomes how can the coins be held without violating IRS rules?

Unlike precious metals, the Internal revenue Code and the legislative history does not include a requirement that IRS approved coins be held in the “physical possession of a U.S. trustee.” If so, the requirement would have been so stated in the tax code. Accordingly, it appears that IRS approved coins can be purchased by a Solo 401(k) Plan and not be held at a depository or U.S. Bank. However, based on conversations between IRA Financial Group tax counsel and representatives of the IRS and Department of Labor, we suggest that our clients try to hold IRS approved coins at a bank safe deposit box, depository, or some sort of third-party vault in the name of the Solo 401(k) Plan.  The reason for this is that it is another level of separation between the Solo 401(k) Plan participant – a disqualified person – and the Solo 401(K) Plan’s assets (the coins), which the IRS plan asset rules will attribute to the Solo 401(k) Plan even though the coins will be owned by the Solo 401(k) Plan. Irrespective of the fact that it appears that IRS approved coins are not required to be held in the “physical possession of a U.S. trustee”, holding the coins in the physical possession of a disqualified person puts the onus on the IRS holder, as the disqualified person, to prove that no self-dealing or conflict of interest event occurred in the case of an IRS inquiry.  For IRA Financial Group client that wish to hold IRS approved coins in their physical possession, our retirement tax professionals suggest that an affidavit be drafted stating that the IRS approved coins are being held solely for the benefit of the Solo 401(k) Plan and not for any personal or other benefit.  We also suggest that the affidavit be signed and notarized.

In summary, the “physical possession” threshold seems to only apply to IRS approved precious metals under Internal Revenue Code Section 408(m), although the tax code does not state anywhere that the coins could be held in the possession of a disqualified person.  For this reason, the retirement tax professionals at the IRA Financial Group suggest that individuals seeking to hold IRS approved coins hold the coins at a bank safe deposit box in the name of the Solo 401(k) Plan or some sort of vault or depository. However, holding the coins personally does not appear to violate Internal Revenue Code Section 408.  That being said, for all individuals wishing to hold IRS approved coins personally, the retirement tax professionals at the IRA Financial Group suggest having some sort of affidavit stating that the coins will not be held for any personal benefit and will, thus, not violate any of the Internal Revenue Code Section 4975 self-dealing or prohibited transaction rules.

To learn more about purchasing and holding coins with a Solo 401(k) Plan please contact one our tax professionals at 800-472-0646.

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Aug 28

Choosing a Solo 401k v. a Self-Directed IRA LLC

A Solo 401(k) plan is an IRS approved retirement plan, which is suited for business owners who do not have any employees, other than themselves and perhaps their spouse. The “one-participant 401(k) plan” or individual 401(k) Plan is not a new type of plan. It is a traditional 401k plan covering only one employee. Unlike a Traditional IRA, which only allows an individual to contribute $5500 annually or $6500 if the individual is over the age of 50, a Solo 401k Plan offers the Plan participant the ability to contribute up to $57,500 each year. Before the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) became effective in 2002, there was no compelling reason for an owner-only business to establish a Solo 401(k) Plan because the business owner could generally receive the same benefits by adopting a profit sharing plan or a SEP IRA. After 2002, EGTRRA paved the way for an owner only business to put more money aside for retirement and to operate a more cost-effective retirement plan than a Traditional IRA or 401(k) Plan.

There are a number of options that are specific to Solo 401k plans that make the Solo 401k plan a far more attractive retirement option for a self-employed individual than a Traditional IRA for a self-employed individual.

1. Reach your Maximum Contribution Amount Quicker: A Solo 401(k) Plan includes both an employee and profit sharing contribution option, whereas, a Traditional IRA has a very low annual contribution limit.

The Advantages of a Solo 401k v. a Self-Directed IRAUnder the 2014 Solo 401(k) contribution rules, a plan participant under the age of 50 can make a maximum employee deferral contribution in the amount of $17,500. That amount can be made in pre-tax or after-tax (Roth). On the profit sharing side, the business can make a 25% (20% in the case of a sole proprietorship or single member LLC) profit sharing contribution up to a combined maximum, including the employee deferral, of $52,000, an increase of $1,000 from 2013.

For plan participants over the age of 50, an individual can make a maximum employee deferral contribution in the amount of $23,000. That amount can be made in pre-tax or after-tax (Roth). On the profit sharing side, the business can make a 25% (20% in the case of a sole proprietorship or single member LLC) profit sharing contribution up to a combined maximum, including the employee deferral, of $57,500, an increase of $1,000 from 2013.

Whereas, a Traditional Self-Directed IRA would only allow an individual with earned income during the year to contribute up to $5500, $6500 is the individual is over the age of 50.

For example, Joe, who is 60 years old owns 100% of an S Corporation with no full time employees. Joe earned $100,000 in self-employment W-2 wages for 2014. If Joe had a Solo 401(k) Plan established for 2014, Joe would be able to defer approximately $48,000 for 2014 (a $23,000 employee deferral, which could be pre-tax or Roth, and 25% of his compensation giving him $48,000 for the year). Whereas, if Joe established a Traditional Self-Directed IRA, Joe would only be able to defer approximately $6,500 for 2014.

2. No Roth Feature: A Solo 401k plan can be made in pre-tax or Roth (after-tax) format. Whereas, in the case of a Traditional Self Directed IRA, contributions can only be made in pre-tax format. In addition, a contribution of $17,500 ($23,00, if the plan participant is over the age of 50) can be made to a Solo 401(k) Roth account.

3. Tax-Free Loan Option: With a Solo 401K Plan you can borrow up to $50,000 or 50% of your account value what ever is less. The loan can be used for any purpose. With a Traditional Self-Directed IRA, the IRA holder is not permitted to borrow even $1 dollar from the IRA without triggering a prohibited transaction.

4. Use Non-recourse Leverage and Pay No Tax: With a Solo 401(k) Plan, you can make a real estate investment using non-recourse funds without triggering the Unrelated Debt Financed Income Rules and the Unrelated Business Taxable Income (UBTI or UBIT) tax (IRC 514). However, the non-recourse leverage exception found in IRC 514 is only applicable to 401(k) qualified retirement plans and does not apply to IRAs. In other words, using a Self-Directed SEP IRA to make a real estate investment (Self Directed Real Estate IRA) involving non-recourse financing would trigger the UBTI tax.

5. Open the Account at Any Local Bank: With a Solo 401k Plan, the 401k bank account can be opened at any local bank or trust company. However, in the case of a Traditional Self Directed IRA, a special IRA custodian is required to hold the IRA funds.

6. No Need for the Cost of an LLC: With a Solo 401(k) Plan, the plan itself can make real estate and other investments without the need for an LLC, which depending on the state of formation could prove costly. Since a 401(k) plan is a trust, the trustee on behalf of the trust can take title to a real estate asset without the need for an LLC.

7. Better Creditor Protection: In general, a Solo 401(k) Plan offers greater creditor protection than a Traditional IRA. The 2005 Bankruptcy Act generally protects all 401(k) Plan assets from creditor attack in a bankruptcy proceeding. In addition, most states offer greater creditor protection to a Solo 401(k) qualified retirement plan than a Traditional Self-Directed IRA outside of bankruptcy.

8. Easy Administration: With a Solo 401(k) Plan there is no annual tax filing or information returns for any plan that has less than $250,000 in plan assets. In the case of a Solo 401(k) Plan with greater than $250,000, a simple 2 page IRS Form 5500-EZ is required to be filed. The tax professionals at the IRA Financial Group will help you complete the IRS Form.

9. IRS Approved: The Solo 401(k) Plan is an IRS approved qualified retirement plan. IRA Financial Group’s Solo 401(k) Plan comes with an IRS opinion letter which confirms the validity of the plan and is a safeguard against any potential IRS audit.

10. Open Architecture Plan: IRA Financial Group’s Solo 401(k) Plan is an open architecture, self-directed plan that will allow you to make traditional as well as nontraditional investments, such as real estate by simply writing a check. As trustee of the Solo 401(k) Plan, you will have “checkbook control” over your retirement assets and make the investments you want when you want.

The Solo 401k plan is unique and so popular because it is designed explicitly for small, owner only business. The many features of the Solo 401k plan discussed above is why the Solo 401k Plan or Individual 401k Plan it so appealing and popular among self employed business owners.  Contact a Solo 401(k) Expert at the IRA Financial Group @ 800.472.0646 for more information.

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Aug 26

IRA Financial Group Introduces One-Day Set-Up Self-Employed 401k Plan Program For Small Businesses

Self-employed 401(k) Plan solution can be set-up in one day and would offer self-directed investment features and can be opened at any local bank

IRA Financial Group, the leading provider of self-directed self-employed 401(k) plans, announces the introduction of the one-day self-employed 401(k) plan set-up program for sole proprietors and small businesses owners with no full-time employees other than the owner(s). The newly featured one-day self-employed 401(k) Plan set-up program will allow plan participants to rollover former employer 401(k) Plan, 403(b), 457(b), or IRA funds to a self-directed and open architecture solo 401(k) plan tax-free and penalty-free. The one-day solo 401(k) plan solution is designed specifically for individuals who are looking to gain access to their retirement funds to make traditional as well as non-traditional investments, such as real estate with no annual fees. “We are very excited to offer a one-day set-up program for our new self-employed 401(k) plan clients looking to get quick access to their retirement funds to make investments, such as real estate, quickly using tax-deferred funds, “ stated Enrique Estrada, a retirement tax specialist with the IRA Financial Group. “The self-directed self-employed 401(k) plan is a great retirement and investment vehicle for the self-employed looking to get more control of their retirement funds,” stated Ms. Estrada.

IRA Financial Group Introduces One-Day Set-Up Self-Employed 401(k) Plan Program For Small BusinessesIRA Financial Group’s self-directed self-employed 401k Plan, also known as a solo 401(k) plan or individual 401(k) plan, is a cost effective 401(k) plan that was designed specifically for the self-employed or the small business owner with no employees. IRA Financial Group’s open architecture self-employed 401K plan is a retirement plan designed to maximize contributions and be less complex and less expensive to maintain than a conventional 401(k) Plan. With IRA Financial Group’s individual 401(k) Plan, in 2014, a plan participant can make high contributions – up to $57,500 – borrow $50,000 or 50% of his or her account value, and make real estate and other investments tax-free and without custodian consent.

With IRA Financial Group’s 24-hour set-up self-employed 401(k) Plan solution, as trustee of the plan, the plan participant will have “checkbook control” over the plan funds and have the ability to make traditional (stocks, mutual funds, etc.) as well as non-traditional investments (real estate, precious metals, tax liens, private businesses, etc.) without tax. Furthermore, IRA Financial Group’s self-directed 401K Plan account can be opened at any local bank or credit union.

The IRA Financial Group was founded by a group of top law firm tax and ERISA lawyers who have worked at some of the largest law firms in the United States, such as White & Case LLP, Dewey & LeBoeuf LLP, and Thelen LLP.

IRA Financial Group is the market’s leading solo 401k plan provider. IRA Financial Group has helped thousands of clients take back control over their retirement funds while gaining the ability to invest in almost any type of investment, including real estate without custodian consent.

To learn more about the IRA Financial Group please visit our website at http://www.irafinancialgroup.com or call 800-472-0646.

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Aug 25

The Plan Asset Rules

The Department of Labor (“DOL”) Plan Asset Rules were generally enacted to limit an investment fund participant from using his retirement funds to transact with the investment fund or its assets. The Plan Asset Rules set forth the circumstances that can cause assets owned by an entity to be deemed to be assets of an ERISA qualified plan (i.e. 401(k) Plan) or an IRA unless an exemption applies.  Under the Plan Assets Rules, if an IRA/401(k) Plan owns greater than 25% of an investment entity that is neither a “publicly-offered security” nor a mutual fund, the equity interests and assets of the “investment company” will be deemed assets of the IRA/401(k). This is sometimes referred to as the “Look- Through Rule”. Under the “Look-Through Rules, if a retirement plan owns 25% or more of any class of equity interests in an “investment company”, the Plan Asset Rules state that the assets of the entire “investment company” are deemed to be assets of the IRA/401(k).  In other words, if your IRA owns 25% or more of the membership interests of a LLC engaged in passive investments (i.e. private equity fund, hedge fund, or real estate fund), the assets of the LLC are deemed to be assets of the IRA. If the Plan Asset Rules cause the assets of an “investment company” to be deemed to be assets of the IRA/401(k), any transaction involving the “investment company” and a disqualified person will be a prohibited transaction.

Plan Asset Rules

The DOL’s Plan Asset Rules essentially define when the assets of an entity are considered ‘Plan” assets. Under the rules, IRAs are frequently viewed as pension plans subjecting them to the Plan Asset Rules. Under the Plan Asset Rules, if the aggregate plan (IRA/401(k)) ownership of an entity is 25% or more of all the assets of the entity, then the equity interests and assets of the “investment entity” are viewed as assets of the investing IRA/401(k) for purposes of the prohibited transactions rules, unless an exception applies. Also, if a plan (i.e. IRA or 401(k)) or group of related plans owns 100% of an “operating company”, the operating company exception will not apply and the company’s assets will still be treated as plan assets.

In summary, the Plan Asset Rules can be triggered if:

  • 100% of an “operating company” is owned by one or more IRAs/401(k) and disqualified persons, in which case all the assets of the “operating company” are deemed Plan assets (assets of the IRA/401(k)), or
  • If 25% or more of an “investment company” is owned by IRAs/401(k) and disqualified persons, in which case all the assets of the “investment company” are deemed Plan assets (assets of the IRA/401(k)). In determining whether the 25% threshold is met, all IRAs/401(k) owners are considered, even if they are owned by unrelated individuals.

Exceptions to the DOL Plan Asset Regulations

The Plan Asset look-through rules do not apply if the entity is an operating company or the partnership interests or membership interests are publicly offered or registered under the Investment Company Act of 1940 (e.g., REITs). They also do not apply if the entity is an “operating company,” which refers to a partnership or LLC that is primarily engaged in the real estate development , venture capital or companies making or providing goods and services, such as a gas station, unless the “operating company” is owned 100% by a Plan and/or disqualified persons. In other words, if an IRA or 401(k) Plan owns less than 100% of an LLC that is engaged in an active trade or business, such as a restaurant or manufacturing plant, the Plan Asset Rules would not apply. However, the IRA or 401(k) Plan investment may still be treated as a prohibited transaction under Internal Revenue Code Section 4975. In addition, the Unrelated Business Taxable Income may apply to subject to the IRA or 401(k) Plan to tax on the income or gains generated from the operating business.

How can the Plan Asset Rules Impact my IRA/401(k) Plan Investments ?

The Plan Asset Rules are typically only triggered if your IRA/401(k) Plan assets will own greater than 25% of an investment company (i.e. a passive investment fund) or will own 100% of an operating company (i.e. gas station). In general, the majority of investments involving IRA/401(k) Plan funds will not cause the Plan Asset Rules to trigger a prohibited transaction. For example, any direct purchase of real estate, precious metals, tax liens, or lending transaction not involving a disqualified person will likely not trigger the prohibited transaction rules or Plan Asset Rules. Even if the Plan Asset Rules were to apply, as long as a disqualified person is not involve in a transaction with the investment entity, the prohibited transaction rules would not apply.

Consequences of a Transaction Falling under the Plan Asset Rules

If your Self Directed IRA LLC or 401(k) Plan investment involves an investment in one of the following: (i) an “operating company” that your IRA will own 100% of, or (ii) an investment company in which 25% of more of the “investment company” is owned by IRAs/401(K) Plans and disqualified persons, then all assets of the entity are deemed owned by the IRA/401(k) and all transactions between the investment entity or its assets and a disqualified person may be prohibited.

Note: The fact that a transaction does not trigger the Plan Asset Rules does not mean that the transaction may not be deemed a prohibited transaction under Internal Revenue Code Section 4975. In other words, a transaction that does not fall under the Plan Asset Rules can still be treated as a prohibited transaction.

The following are a number of examples that demonstrate the scope of the Plan Asset Rules.

Example 1: A general partner of a hedge fund wishes to invest his Self Directed IRA LLC in the hedge fund he manages. If the percentage of IRA ownership, including what it would be after the General Partner invests his IRA in the fund, equals or exceeds 25% of the equity interests, then the fund’s assets are considered “plan asset.” That means that a transaction between the general partner, as a disqualified person, and the fund, could be deemed a prohibited transaction because the assets of the fund are viewed as assets of his IRA, since a disqualified person cannot transact with the assets of his plan or IRA. Accordingly, the General Partner cannot receive benefits from his IRA investment into the fund. Thus the General Partner would not be permitted to receive any management fees associated with the IRA’s ownership interest in the fund because he would be receiving a personal benefit from his IRA. Note – the General Partner’s IRA investment in the fund may also be deemed a direct or indirect prohibited transaction under Internal Revenue Code Section 4975.

Example 2: Jane ‘s Self Directed IRA LLC owns 100% of ABC, LLC, which operates a retail store. ABC, LLC makes a loan to Jane. The loan is subject to the Plan Asset Rules and will also be considered a prohibited transaction pursuant to Internal Revenue Code Section 4975. Note – any income generated by ABC, LLC that is allocated to the Self Directed IRA LLC would also likely be subject to the Unrelated Business Income tax.

Example 3: Steve’s Self Directed IRA LLC owns 15% of ABC, LLC, an investment company. Allan’s IRA owns 20% of ABC, LLC. Steve and Allan are unrelated. Since IRAs (Plans) own greater than 25% of ABC, LLC, an “investment company”, assets of ABC, LLC are Plan Assets and deemed owned by each IRA. Thus, if ABC, LLC makes a loan to Steve’s father, the loan would be a prohibited transaction under Internal Revenue Code Section 4975.

Example 4: Robert’s Self Directed IRA LLC invests in ABC, LLC, which will purchase a gas station, an “operating company”. Robert will take an annual salary of $50,000 to run the gas station. The payment of the salary would be a “prohibited transaction” under Internal Revenue Code Section 4975 (self dealing indirect prohibited transaction). Note – any income generated by the as station that is allocated to the Self-Directed IRA LLC would also likely be subject to the Unrelated Business Income tax.

Please contact one of our Retirement Experts at 800-472-0646 for more information.

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Aug 22

Solo 401(k) Contribution Limits

Unlike an IRA, a Solo 401k plan allows a plan participant to make high annual contributions to the Plan. The contributions can be in the form of pre-tax or Roth type contributions (after-tax).

The annual Solo 401k contribution consists of 2 parts, an employee salary deferral contribution and an employer profit sharing contribution. In 2014 the total contribution limit for a Solo 401k is $51,000 or $56,500 if age 50 or older. The total allowable contribution limits are combined to get the maximum Solo 401k contribution limit.

Employee Elective Deferrals

Up to $17,500 per year can be contributed by the participant through employee elective deferrals. An additional $5,500 can be contributed for persons over age 50. These contributions can be up to 100% of the participant’s self-employment compensation.

Employer Profit Sharing Contributions

Through the role of employer, an additional contribution can be made to the plan in an amount up to 25% of the participant’s self- employment compensation (20% if you are a Sole Proprietor or a Schedule C Tax Payer).

Total Limit

The sum of both contributions can be a maximum of $51,000 per year (for 2014) or $55,500 for persons over age 50.

If the business owner’s spouse elects to participate in the Solo 401(k) and earns compensation from the business, the spouse is allowed to make separate and equal contributions increasing the couples’ annual total contribution to $102,000 for 2014 or $113,000 if both spouses over age 50.

Solo 401k contributions are flexible. Both the salary deferral and the profit sharing contributions are optional and can be changed at anytime based on business profitability.

A Solo 401k participant can contribute to the plan as an employee and as employer.

Calculate Your Solo 401k Plan Maximum Contribution Limit Please click here to calculate your Solo 401(k) Plan Maximum Contribution Limit.

 

Solo 401k Contribution Calculations

The calculation of how much can be contributed to a Solo 401k Plan is based on whether your business is taxed as a corporation and you receive a W-2 or if you are taxed as an LLC, partnership, or sole proprietorship.

C Corporation or S Corporation

Salary Deferral Contribution: In 2014, 100% of W-2 earnings up to the maximum of $17,500 or $23,000 if age 50 or older can be contributed to a Solo 401k. The employee contribution election must be made prior to December 31.

Profit Sharing Contribution: Internal Revenue Code Section 401(a)(3) states that the amount of employer contributions is limited to 25 percent of the compensation paid. Accordingly, a profit sharing contribution up to 25% of W-2 earnings can be contributed into a Solo 401k. In other words, in the case of company, the employer profit sharing contribution must be based on the compensation paid by company not the overall profits earned by the company.

Multiple Member LLC or Partnership

Salary Deferral Contribution: In 2014, 100% of the owner’s self employment earnings up to the maximum of $17,500 or $23,000 if age 50 or older can be contributed to a Solo 401k. The election for making salary deferral contributions is December 31.

Profit Sharing Contribution: Internal Revenue Code Section 401(a)(3) states that the amount of employer contributions is limited to 25 percent of the entity’s overall self-employment earnings. In other words, the 25% employer contribution amount is based on the K-1 income attributable to self-employment earnings, not necessarily the overall income of the entity if income is attributable to passive types of investments not considered self-employment earnings (i.e. passive business income).

Single Member LLC or Sole Proprietorship

Salary Deferral Contribution: In 2014, 100% of the owner’s self employment earnings up to the maximum of $17,500 or $23,000 if age 50 or older can be contributed to a Solo 401k. The election for making salary deferral contributions is December 31.

Profit Sharing Contribution: Internal Revenue Code Section 401(a)(3) states that the amount of employer contributions is limited to 25 percent of the entity’s income subject to self employment tax. Single member LLCs or Schedule C sole-proprietors must do an added calculation starting with earned income to determine their maximum contribution, which, in effect, brings the maximum 25% of compensation limit down to 20% of earned income. A step-by-step worksheet for this calculation can be found in Pub 560. In general, compensation is your net earnings from self-employment. This definition takes into account both of the following items: (i) the deduction for one-half of your self-employment tax, and (ii) the deduction for contributions on your behalf to the plan. The profit sharing contribution must be made prior to the date the business files its annual Federal Income Tax Return.

For additional information on the advantages of using a Solo 401(k) Plan with “checkbook control” to make investments, please contact one of our 401K Experts at 800-472-0646.

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Aug 21

What is Unrelated Business Taxable Income?

Is a Solo 401(k) Plan subject to the same UBTI rules as a Self Directed IRA LLC?

Yes and No. Like an IRA, the tax advantage of a Solo 401K Plan is that income is tax-free until distributed. In general, an exempt organization is not taxed on its income from an activity that is substantially related to the charitable, educational, or other purpose that is the basis for the organization’s exemption. Such income is exempt even if the activity is a trade or business. However, to prevent tax-exempt entities from competing unfairly with taxable entities, tax-exempt entities are subject to unrelated business taxable income (UBTI) when their income is derived from any trade or business that is unrelated to its tax-exempt status.

What is Unrelated Business Taxable Income?

UBTI is defined as “gross income derived by any organization from any unrelated trade or business regularly carried on by it” reduced by deductions directly connected with the business. The UBTI rules only apply to exempt organizations such as charities, IRAs, and 401(k) Plans. Congress enacted the UBTI rules in the 1950s in order to prevent charities from competing with for-profit businesses since charities do not pay tax giving them an unfair advantage over for- profit businesses. With the enactment of ERISA in 1974, IRAs and 401(k), who are considered tax-exempt parties pursuant to Internal Revenue Code Sections 408 and 401 respectively, became subject to the UBTI rules. As a result, if an IRA or 401(k) invests in an active business through an LLC or partnership, the income generated by the IRA or 401(k) from the active business investment will be subject to the UBTI rules. In other words, a 401(k) Plan that is a limited partner, member of a LLC, or member of another non-corporate entity will have attributed to it the UBTI of the enterprise as if it were the direct recipient of its share of the entity’s income which would be UBTI had it carried on the business of the entity.   For example, if a Solo 401(k) Plan invests in an LLC that operates an active business such as a restaurant or gas station, the income or gains generated from the investment will generally be subject to the UBTI tax. However, if the Solo 401(k) Plan invested in an active business through a C corporation, there would be no UBTI since the C Corporation acts as a blocker blocking the income from flowing through to the Solo 401(k) Plan. This is why you can invest IRA and 401(k) funds into a public company, such as IBM without triggering the UBTI tax. Remember that if an IRA or 401(k) Plan makes a passive investment, such as rental income, dividends, and royalties, such income would not be subject to the UBTI rules.

UDFI and The Solo 401(k) Plan

However, unlike a Self-Directed IRA LLC, in the case of a Solo 401(k) Plan, UBTI does not apply to unrelated debt-financed income (UDFI). The UDFI rules apply when a 401(k) Plan uses leverage to acquire property such as real estate. Pursuant to Internal Revenue Code Section 514(c)(9), a 401(k) Qualified Plan is not subject to the UDFI rules and, thus, the UBTI tax if nonrecourse leverage is used to acquire property such as real estate. With the UBTI tax rates at approximately 35%, the Solo 401(k) Plan offers real estate investors looking to use nonrecourse leverage in a transaction with a tax efficient solution.

Exceptions to the UBTI Rules

There are some important exceptions from UBTI: those exclusions generally exclude the majority of income generating investment activities from the UBTI rules – dividends, interest, annuities, royalties, most rentals from real estate, and gains/losses from the sale of real estate.

What is an Unrelated Business?

For a Solo 401(k), any business regularly carried on or by a partnership or corporation of which it is a member/partner is an unrelated business. For example, the operation of a shoe factory by a pension trusts, the operation of a financial consulting business for high net worth individuals by a university, or the operation of an computer rental business by a hospital would likely be treated as an unrelated business and subject to UBTI.

UBTI & Real Estate Investments

Although there is little formal guidance on UBTI implications for Solo 401(k) Plans investing in real estate, there is a great deal of guidance on UBTI implications for real estate transactions by tax-exempt entities. In general, Gains and losses on dispositions of property (including casualties and other involuntary dispositions) are excluded from UBTI unless the property is inventory or property held primarily for sale to customers in the ordinary course of an unrelated trade or business. This exclusion covers gains and losses on dispositions of property used in an unrelated trade or business, as long as the property was not held for sale to customers. In addition, subject to a number of conditions, if an exempt organization acquires real property or mortgages held by a financial institution in conservatorship or receivership, gains on dispositions of the property are excluded from UBTI, even if the property is held for sale to customers in the ordinary course of business. The purpose of the provision seems to be to allow an exempt organization to acquire a package of assets of an insolvent financial institution with assurance that parts of the package can be sold off without risk of the re-sales tainting the organization as a dealer and thus subjecting gains on re-sales to the UBIT.

How Do I Avoid UBTI?

In general, if you make passive investments with your Solo 401(k) Plan, such as stocks, mutual funds, precious metals, foreign currency, rental real estate, etc the passive income generated by the investment will generally not be subject to the UBTI tax. Only if your Solo 401(k) Plan will be making investments into an active business, such as a retail store, restaurant, software company using a passthrough entity such as an LLC or partnership will your Solo 401(k) Plan likely be subject to the UBTI tax.

Please contact one of the 401(k) Experts from the IRA Financial Group at 800-472-0646 for more information.

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Aug 19

Common Prohibited Transactions for Your Solo 401(k)

Categories of Prohibited Transactions

In general, the type of transactions that could fall under the prohibited transaction rules pursuant to Code Section 4975 can be viewed in the context of three unofficial categories:

Direct Prohibited Transactions

4975(c)(1)(A): The direct or indirect Sale, exchange, or leasing of property between a Solo 401(k) Plan and a “disqualified person”

  • Victor leases an interest in a piece of property owned by his Solo 401K Plan to his son
  • Tracy sells real estate owned by her Solo 401k Plan to her father
  • Ben sells real estate he owns personally to his Solo 401k Plan
  • Jason transfers property he owns personally to his Solo 401k Plan
  • Katy Purchases real estate with her Solo 401k Plan funds and leases it to her son
  • David uses his Solo 401k Plan funds to purchase an interest in an entity owned by his father
  • Ted Transfers property he owns personally subject to a mortgage to his Solo 401k Plan .
  • Sally uses personal funds to pay expenses related to her Solo 401k Plan real estate investment
  • Jane uses personal funds to pay taxes and expenses related to her Solo 401k Plan real estate investment

4975(c)(1)(B): The direct or indirect lending of money or other extension of credit between a Solo 401k Plan and a “disqualified person”

  • Ken lends his son $4,000 from his Solo 401k Plan
  • Rick Uses the assets of his Solo 401k Plan as security for a loan
  • Tina personally guarantees a bank loan to her Self-Directed Roth IRA
  • Brandon uses his personal assets as security for an Solo 401k Plan investment
  • Chuck uses Solo 401k Plan funds to lend an entity owned and controlled by his father $45,000
  • Eric acquires a credit card for his Solo 401k Plan bank account

4975(c)(1)(C): The direct or indirect furnishing of goods, services, or facilities between a Solo 401k Plan and a “disqualified person”

  • Howard purchases real estate with his Solo 401k Plan funds and personally makes repairs on the property
  • Billy purchases a condo with his Solo 401k Plan funds and paints the walls without receiving a fee
  • Henry buys a piece of property with his Solo 401k Plan funds and hires his son to work on the property
  • Mary buys a home with her Solo 401k Plan funds and her son makes repairs for free
  • Beth owns an office building with her Solo 401k Plan and hires her son to manage the property for a fee
  • Jackie owns an apartment building with her Solo 401k Plan funds and has her father manage the property for free
  • Doug receives compensation from his Solo 401k Plan for investment advice
  • Matt acts as the real estate agent for his Solo 401k Plan

4975(c)(1)(D): The direct or indirect transfer to a “disqualified person” of income or assets of a Solo 401k Plan

  • Jim uses a house owned by his Solo 401k Plan for personal uses
  • Seth deposits Solo 401k Plan funds in to his personal bank account
  • Bobby is in a financial jam and takes $4,000 from his Solo 401k Plan to pay a personal debt
  • Spencer buys precious metals using his Solo 401k Plan funds and uses them for personal gain
  • Bryan purchases a vacation home with his Solo 401k Plan funds and stays in the home on occasion
  • Elliot buys a cottage with her Solo 401k Plan funds on the lake and rents it out to her daughter and son-in-law
  • Allison purchases a condo using her Solo 401k Plan on the beach and lets her son use it for free
  • Brad uses his Solo 401k Plan to purchase a rental property and hires his friend to manage the property. The friend then enters into a contract with Brad and transfers those funds back to Brad
  • Kelly invests her Solo 401k Plan funds in an investment fund and then receives a salary for managing the fund.
  • Larry uses his Solo 401k Plan funds to purchase real estate and earns a commission as the real estate agent on the sale
  • Steve uses his Solo 401k Plan funds to lend money to a company he owns and controls
  • Gordon invests his Solo 401k Plan funds into a business he owns 75% of and manages

Self-Dealing Prohibited Transactions

4975(c)(1)(E): The direct or indirect act by a “Disqualified Person” who is a fiduciary whereby he/she deals with income or assets of the Solo 401k Plan in his/her own interest or for his/her own account

  • Karen makes an investment using her Solo 401k Plan funds into a company she controls which will benefit her personally
  • Brett uses his Solo 401k Plan funds to invest in a partnership with himself personally in which he and his family will own greater than 50% of the partnership
  • Pam uses her Solo 401k Plan funds to invest in a business she and her husband own and operates and her and her husband earns compensation from the business
  • Rick uses his Solo 401k Plan funds to lend money to a business in which he controls and manages
  • Lance invests his Solo 401k Plan funds in a trust in which Lance and his wife would gain a personal benefit
  • Helen uses her Solo 401k Plan funds to invest in a real estate fund managed by her Son. Helen’s son receives a bonus for securing her investment.
  • Stanley invests his Solo 401k Plan funds into a real estate project that his development company will be involved in order to secure the contract
  • Warren uses his Solo 401k Plan funds to invest in his son’s business that is in financial trouble
  • Alex uses his Solo 401k Plan funds to buy a note on a piece of property for which he is the debtor personally

Conflict of Interest Prohibited Transactions

Subject to the exemptions under Internal Revenue Code Section 4975(d), a “Conflict of Interest Prohibited Transaction” generally involves one of the following:

4975(c)(i)(F): Receipt of any consideration by a “Disqualified Person” who is a fiduciary for his/her own account from any party dealing with the Solo 401k Plan in connection with a transaction involving income or assets of the Solo 401k Plan

  • Allan invests his Solo 401k Plan funds into a corporation in which he manages and controls but owns a small interest in
  • Patty uses her Solo 401k Plan funds to loan money to a company she owns a small interest in but manages and controls the daily operations of the company
  • Debra uses her Solo 401(k) Plan to lend money to a business that she works for in order to secure a promotion
  • Richard uses his Solo 401k Plan funds to invest in a real estate fund that he manages and where his management fee is based on the total value of the fund’s assets.

For more information on prohibited transactions, please contact a Solo 401K Expert at 800-472-0646.

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Aug 18

Why You Shouldn’t Withdraw Early From Your 401k

Did you know that if you withdraw from your 401(k) before age 59 1/2, you are usually imposed a 10% early withdrawal penalty?  That’s just one of the drawbacks of taking money from your 401(k) before you reach retirement.  Here we’ll discuss other reasons not to withdraw funds before you retire.

Assuming you have a traditional 401(k) plan, all distributions you take are taxable during the year you withdraw the money.  If you are in the 15% tax bracket and withdraw $5,000, you have to pay $750 in federal taxes (not to mention state taxes you might owe).  Further, 20% of the distribution is usually withheld for tax purposes, so you don’t even receive the full amount you are withdrawing.  You should never take money from your retirement plan unless you absolutely have to, and in most cases, you are probably better off taking out a loan.  You’ll have five years to repay the loan (with interest) unless you leave your job in which case the full loan amount becomes due.  Failure to repay the loan will lead to a taxable distribution of the money.  Opting for the loan will help you avoid paying taxes right now and you’ll be able to receive the tax benefits as you repay it.

Why You Shouldn't Withdraw Early From Your 401kAs mentioned early, a non-qualified distribution before you reach age 59 1/2 will result in a 10% early withdrawal penalty.  Add that to the taxes that are due on the amount and you’ve already lost up to 1/3 of the money you’ve taken out.  There are exceptions to this penalty such as disability, certain medical expenses and first time home buying, among others.  Again, you should try to find other ways to get the money you need before tapping into your retirement account.

The biggest factor to consider before withdrawing is the earnings you will lose on the money taken.  Did you know if you have $10,000 in the plan at age 30 and earn 7% until age 65, you will have over $100,000 in the account, even without additional contributions?  Therefore, it’s especially damaging to your retirement to withdraw money early on in life.  The longer the money has in the account, the more earning power it has.

The point is not to sacrifice your golden years.  You should set up an emergency fund in addition to a retirement account so that in the case of job loss, medical or other financial setbacks, you have funds to dip into without ruining your retirement.  If you do not have sufficient funds to retire on, you may be forced to work longer than planned or live a lifestyle that you don’t want to.

If you have any questions or are looking for advice to secure your retirement, please contact a tax expert from the IRA Financial Group @ 800.472.0646 today!

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Aug 15

Use Your 401k in a Rollover Business Start-Up

The Business Acquisition & Compliance Solution Structure (BACSS), also known as the “Rollover Business Start-Up” (“ROBS”) Solution, is an IRS and ERISA approved structure that allows an individual to use retirement funds, such as an IRA or 401(k), to purchase a new or existing business or franchise tax-free and penalty-free.

The ROBS arrangement typically involves rolling over a prior IRA or 401(k) plan account into a newly established 401(k) plan, which a start-up C Corporation business sponsored, and then investing the rollover funds in the stock of the new C Corporation.

What is the Difference between using a Self-Directed Vs. ROBS structure to buy a business?

At first glance, using a Self-Directed IRA LLC to purchase stock in a corporation would seem to share many similarities with the ROBS structure.

With IRA Financial Group’s ROBS transactions, the structure typically involves the following sequential steps: (i) an entrepreneur or existing business owner establishes a new C Corporation; (ii) the C Corporation adopts a prototype 401(k) plan that specifically permits plan participants to direct the investment of their plan accounts into a selection of investment options, including employer stock, also known as “qualifying employer securities.”; (iii) the entrepreneur elects to participate in the new 401(k) plan and, as permitted by the plan, directs a rollover or trustee-to-trustee transfer of retirement funds from another qualified retirement plan into the newly adopted 401(k) plan; (iv) the entrepreneur then directs the investment of his or her 401(k) plan account to purchase the C Corporation’s newly issued stock at fair market value (i.e., the amount that the entrepreneur wishes to invest in the new business); and finally (v) the C Corporation utilizes the proceeds from the sale of stock to purchase an existing business or to begin a new venture.

With IRA Financial Group’s ROBS strategy, the newly formed business will also be able to borrow from third parties, pay salaries to employees (including shareholders/plan participants), and engage in other routine business transactions with disqualified persons. Commonly, a corporate officer or shareholder will make or guarantee loans to the business.

With a Self-Directed IRA LLC, an entrepreneur could use retirement funds to purchase business assets like with the ROBS strategy. However, that individual would not be able to be actively involved in the business, earn a salary, or even personally guarantee a business loan.

The recent U.S. Tax Court case Peek v. Commissioner, 140 T.C. No. 12 (May 9, 2013), highlights the risk and limitations involved when using a Self-Directed IRA to purchase business assets. In the Peek case, the taxpayers used IRA funds to invest in a corporation that ultimately purchased business assets. Because Mr. Peek used an IRA and not a 401(k) Plan to purchase the C Corporation stock, Mr. Peek was not able to earn a salary or personally guarantee a business loan, which ultimately was the cause of the IRS prohibited transaction rule violation.

If Mr. Peek had used IRA Financial Group’s ROBS strategy, he would have been able to purchase business assets with retirement funds, earn a salary from the business, as well as personally guarantee the business loan without triggering the IRS prohibited transaction rules.

Legal Foundation for the ROBS Solution

An individual retirement account investor is able to use retirement funds to invest in an active trade or business with tax or penalty because the ROBS solution qualifies for a special exemption set forth under IRC 4975(d) to certain prohibited transaction rules. The exemption to the prohibited transaction rules under IRC 4975(d) is centered around ERISA Section 408(e). It is IRC Section 4975(d) and ERISA Section 408(e) which shields employers from scrutiny of routine (non-abusive) corporate transactions by the plan sponsor and other “disqualified persons,” which might otherwise constitute technical violations of the prohibited transaction rules (due to the employer-sponsored retirement plan’s ownership of employer securities). If the plan sponsor and other fiduciaries’ routine corporate transactions did not fall within the purview of ERISA Section 408(e), the prohibited transaction rules would needlessly prohibit a myriad of legitimate business transactions and would ultimately nullify the exemption that Congress intended to provide. To accomplish its intended effect, ERISA Section 408(e) must be read to exempt the natural and necessary commercial consequences of owning corporate stock, rather than just the stock purchase or divestiture.

Important tax and economic policy considerations also compel a different result for 401(k) plans than IRAs. Congress specifically intended to encourage 401(k) plans to invest in employer securities, within certain limits. The opportunity to invest in employer securities through retirement plans benefits employers and employees alike by aligning their economic interests.

Outside the context of ROBS arrangements, many 401(k) plans permit participants to invest in employer stock. A number of large 401(k) plans, including plans sponsored by Apple and Pepsi, include substantial allocations of employer stock.

To learn more about the benefits of the ROBS strategy, please contact a retirement tax expert at 800-472-0646.

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Aug 13

Are You Eliglible for a Self-Employed 401k?

A Self-Employed or Solo 401(k) plan is well suited for businesses that either do not employ any employees or employee certain employees that may be excluded from coverage. A Solo 401K plan is perfect for any sole proprietor, consultant, or independent contractor.

To be eligible to benefit from the Solo 401(k) Plan, investors must meet just two eligibility requirements:

(i) The presence of self employment activity.

(ii) The absence of full-time employees.

The Presence of Self Employment Activity

Self employment activity generally includes ownership and operation of a sole proprietorship, Limited Liability Company (LLC), C Corporation, S Corporation, and Limited Partnership where the business intends to generate revenue for profit and make significant contributions to the plan.

Are You Eliglible for a Self-Employed 401k?Generate Revenue for Profit

There are no established thresholds for how much profit the business must generate, how much money must be contributed to the plan, or how soon profits and contributions must happen. It is generally believed that the IRS will consider you eligible if the business being conducted is a legitimate business that is run with the intention of generating profits. The self employment activity can be part time, and it can be ancillary to full time employment elsewhere. A person can even participate in an employer’s 401(k) plan in tandem with their own Roth 401(k). In such a case, the employee elective deferrals from both plans are subject to the single contribution limit.

The Absence of Full-Time Employees

Unlike a regular 401(k) plan, a solo 401(k) plan can be implemented only by self-employed individuals or small business owners who have no other full-time employees and are not employed by any business owned by them or their spouse (an exception applies if your full-time employee is your spouse). The business owner and their spouse are technically considered “owner-employees” rather than “employees”.

The following types of employees may be generally excluded from coverage:

  • Employees under 21 years of age
  • Employees that work less than a 1000 hours annually
  • Union employees
  • Nonresident alien employees

If you have full-time employees age 21 or older (other than your spouse) or part-time employees who work more than 1,000 hours a year, you will typically have to include them in any plan you set up.  However, a Solo 401K eligible business can have part time employees and independent contractors.

Please contact one of our Solo 401k Experts at 800-472-0646 for more information.

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