Solo 401k Controlled Group Rules

​When seeking to open Solo 401k, first familiarize yourself with the controlled group definition as it may restrict you from opening a Solo 401k. When a business is treated as a member of a controlled group, the controlled group is treated by the IRS as a single employer for retirement plan purposes, including Solo 401k plan; all the businesses are treated as one business. As such, the employer must take into account all employees of the controlled group of businesses when determining employee eligibility and making contributions to a SEP, SIMPLE or qualified retirement plan, including a Solo 401k.

Controlled Group Defined

Two or more trades or businesses under common control–related through common ownership interests–make up a controlled group (Treasury Regulation 1.414(c)-2). A controlled group of employers may take any form such as sole proprietorships, partnerships, S-Corporations and C-Corporations, LLC and tax-exempt organizations, or a combination of any of these.

Controlled Groups Types

If the business owner has multiple businesses and is looking to open Solo 401k, he or she should first consult with his or her tax advisor to ascertain if multiple businesses make up a controlled group. There are three different types of controlled groups.

Type 1: Parent-Subsidiary Controlled Group

A parent-subsidiary controlled group is made up of a parent organization and one or more subsidiary organizations or affiliates of the parent organization. To make up a parent-subsidiary group, the parent organization must own at least 80 percent of one or more subsidiary organization (commonly known as having a “controlling interest”). Furthermore, at least 80 percent of each subsidiary organization must be owned by other members (if any) of the parent-subsidiary controlled group.

Type 2: Brother-Sister Controlled Group

To be considered a brother-sister controlled group, the same five or fewer persons must own, in aggregate, at least 80 percent of each of the organizations in the brother-sister controlled group. Also, the same five or fewer persons who meet the controlling interest requirement must have effective control (ownership of more than 50 percent) of each organization.

Type 3: Combined Controlled Group

A combined controlled group is made up of both parent subsidiary and brother-sister controlled groups that have a common parent organization from the parent subsidiary that is also a member of the brother-sister controlled group.

Determining Ownership

As you have noticed, each of these types of controlled groups focus on ownership. What formulates ownership for purpose of a controlled group varies depending on the types of entity being considered (e.g., corporations, partnerships, sole proprietorships, trusts, estates). To determine if a business is a member of a controlled group, the employer–often with the assistance of his or her personal accountant–must first determine ownership by answering two basic questions:

1. Which individuals or entities have ownership interest in the business?

2. What, if any, ownership interest does the business have in other businesses?

Summary

A controlled group of employers is treated as one employer for Solo 401k eligibility purpose. This means that all employees under that group must be considered for eligibility for the plan. If eligible to participate, all employees (including the owner) must receive plan contributions and therefore a traditional 401k instead of a Solo 401k plan must be opened.

Attribution Rules QUESTION:

While I know I’m currently eligible to establish a Solo 401k, I’m trying to determine if I will be able to continuing using in a few years given the situation described below.  Does the IRS approve the following situation?
I open a Solo 401k plan for my single-member LLC.  My wife has no ownership of my LLC and does not make contributions to the Solo 401k plan.  Separately, she also has her own LLC that is currently a single-member LLC.  In 2-3 years, she plans to open a law practice and expects to hire full-time W-2 employees. Because she has no ownership in my LLC, did not contribute to the Solo 401k plan and I have no ownership in her LLC (that now has employees), I plan to continue contributing and operating the Solo 401k since I still don’t have any employees in my LLC.
Does the IRS allow this or would the Solo 401k be disqualified simply because of our marriage even though we’ve kept our two businesses separate?

ANSWER:

Typically, your spouse’s ownership of the LLC would be attributed to you such that if the other LLC had employees it would prevent you from opening a solo 401(k).  In order to avoid the application of these attribution rules (And assuming that there is no interaction whatsoever such that the affiliated service group rules would not apply), you would not be permitted to have any direct ownership nor even participate in her business. See the discussion of the attribution rules as they applied to controlled groups at the following:

Wife’s  Business QUESTION:

I have been told by my attorney/accountant that I am no longer eligible for a solo 401k and should convert to a safe harbor plan.  The current plan is under my LLC, which is a single member LLC with no employees owned entirely by me.  But my wife is the sole member of another LLC that does have a full-time employee.  I am being told that since we are married the employee would basically be considered mine as well.

ANSWER:

While a spouse’s ownership interest in a business is generally attributed to the other spouse, your situation may fall under the exception to the spousal attribution rules.
Please review the attribution rules and chart on page 7-12 at the IRS link listed in the previous question above.
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