QUESTION:

I don’t plan to do Roth 401k contributions, but I do plan to do non-Roth after tax contributions. Should I create two bank accounts for the solo 401k or can I use one? I will be tracking the pre-tax and non-Roth after-tax contributions in a spreadsheet.

ANSWER:

BACKGROUND & QUESTIONS:

I have a Solo 401k with Fidelity Investments. I already made my Employee contribution for 2017 ( but not yet my employer contribution as I will wait til the end of the year to know the precise amount).

Is it too late to use your plan instead for 2017?  Can I simply transfer this Employee contribution to a “Fidelity Investment Only” account so that I can be compliant with your prototype plan ?

I realize now I want a Solo 401k that enables me to do after tax contributions, as well as permit in service distributions of the after tax contributions into a Roth IRA (with earnings going to a traditional IRA).

Are you able to offer help to someone like me?

Is it too late to use your plan instead for 2017?

 ANSWERS:

It is certainly not too late to sign up for our plan for 2017. Changing from one solo 401k provider to another is known as “restating” your plan.  We would draft the Fidelity paperwork to open Fidelity Investment Only account(s) for your Solo 401k plan as part of our services for no additional charge.

Make sure to familiarize yourself with the Roth IRA 5 year rule before proceeding to move Roth solo 401k funds to a Roth IRA. Roth solo 401k funds  moved to a Roth IRA will always use the 5-year holding period associated with the Roth IRA.  The existing holding period accumulated in the Roth solo 401k retirement plan will be lost.

Example:

Bill has had a self-employed Roth solo 401k plan for 9 years. He opened a Roth solo 401k plan as soon as the Roth component first became available it in 2007. Bill has finally decided to stop being self-employed and is age 62. Even though Bill can take qualified distributions from his Roth solo 401k since he is over age 59 1/2 and his Roth solo 401k plan has been held for more than 5 years, he has decided to instead l move his Roth solo 401k assets to a Roth IRA. Bill is opening a Roth IRA for the first time in 2017.  When he moves his Roth solo 401k assets to his newly established Roth IRA, they will all go in as basis. As a result, Bill will not be able to take qualified distributions of his Roth IRA earnings, because the 5-year holding period will be determined by the time he has had a Roth IRA. The holding time that had accumulated in the Roth solo 401k plan will be lost.  However, Bill will be able to distribute the basis tax and penalty free because all funds go into the Roth IRA as basis and are available for distribution tax and penalty free.

Those that have multiple Roth 401k plans—for example, both a Roth 401k with a former employer and a Roth solo 401k need to understand the rules surrounding the 5 year Roth 401k distribution period.

• Each 401k plan will have its own 5-year holding period.
• The existing holding period can be rolled to a new 401k plan. For example, those that transfer a former employer Roth 401k to a new Roth solo 401k plan can carry over the former employer’s Roth 401k holding period to the new solo 401k plan.
• However, if you do a 60-day rollover from the former employer 401k to the new solo 401k plan, the existing holding period becomes that of the new plan.

EXAMPLE:

Jim is 61 years old and has a Roth 401k with his former employer, The Home Store. After working for The Home Store from 2006 to 2014, Jim can take a qualified distribution from his Roth 401(k) at The Home Store because that Roth 401(k) account has been held for more than 5 years and Jim is over age 59½.  Then Jim became self-employed and opened a solo 401k for his self-employed business in 2015 that allows for Roth Solo 401k contributions and started making Roth solo 401k contributions in 2016 . However, Jim cannot take a qualified distribution from his Roth solo 401(k) even though he is over 59½.  Reason being, his Roth solo 401(k) account has not been held for 5 years. The time he has accrued in his former employer Roth 401(k) at The Home Store does not affect the time he has in his Roth solo for his self-employed business.

However, there is a way that Jim can take qualified distributions. Jim can process a direct rollover of his former employer Roth 401k with The Home Store to his self-employed Roth solo 401k plan. Therefore, His time in the plan at The Homes Store will also transfer to his self-employed Roth solo 401k. As a result, Jim can take qualified Roth solo 401(k) distributions from his self-employed Roth solo 401k.

QUESTIONS:

I am considering the formation of a LLC that will purchase a self-storage business and small retail strip mall with monthly rental income.

One of the members of the LLC will be the solo 401k trust, and the trust will provide at least 50% of the down payment for the purchase. However there will be a recourse loan from a bank to fund the deal.

I have 2 questions:

First, is there a prohibition against my using my personal credit and guarantee for a bank loan on a commercial property if the funding for that loan comes (at least in part) from my solo 401k? (Is this considered “self-dealing”?)

Second, what are the ramifications of UBIT if solo 401k funding is used to purchase an established positive cash-flowing business (e.g. self-storage facility)?  Would this be different if a separate entity (LLC) ran the business, collected the rents, and simply paid.

ANSWERS:

1. I presume that (i) the only investor in the LLC will be the solo 401k plan, (ii) the solo 401k owned LLC will not have any W-2 employees, but rather will be setup solely to invest passively in real estate, and (iii) the solo 401k owned LLC will obtain a non-recourse loan. With respect to the loan to the solo 401k owned LLC, the loan cannot be secured by you because you are considered a disqualified party. For a full list of disqualified parties, CLICK HERE.

2. Regarding your UBIT question, I presume that the solo 401k owned LLC will be buying/investing in real estate and the real estate will be rented out. When a solo 401k owned LLC invests in rental real estate—whether commercial, residential or storage—it will be deemed a passive investment not subject to UBIT. Also, neither the solo 401k owner nor disqualified parties may do physical work on the properties, but may perform managerial functions (e.g., collect rent checks, look for tenants, hire contractors to do work on the property) provided neither the solo 401k owner nor disqualified parties get compensated for these managerial functions.