QUESTION: It just occurred to me, after 35 years on this earth, I think I have just figured something out. The $17,000 Solo 401k contribution limit specifically says “deferred.” Does that mean I have to pay taxes on it when I eventually withdraw, and that, by waiting till retirement age, the only thing I am avoiding is the early withdrawal penalty?
Thank you, BK
ANSWER: It comes down to choosing to pay taxes up front or later.
If you apply the deferral portion as a Roth Solo 401k contribution, you do not take a tax deduction up front; however, the earnings and principal can be distributed tax free 5 years after the first Roth Solo 401k contribution was made and after satisfying one of the following conditions:
- Attainment of age 59 ½,
- Disability, or
- Death
On the other hand, if you treat the Solo 401k plan deferral amount as a pretax contribution, it will reduce your taxable income for the year since it is deductible, but you will have to pay taxes on the principal and gains once distributions commence, usually at retirement, in order to avoid the 10% premature distribution penalty.
