On the surface, establishing a solo 401k plan may seem like a fairly simple process, but it can be easy to skip a step. Overlooking any steps may cause the solo 401k plan to be out of compliance, resulting in no longer considered a tax shelter vehicle.
Make Sure You Qualify
While your solo 401k provider is not required to determine whether a client is eligible to open a solo 401k plan or even make contributions, it is important to ask questions before proceeding to prevent the client from opening a solo 401k before meeting the eligibility requirements. This will also prevent the client from funding the account with disallowed transfers (e.g., Roth IRA funds), and from making excess contributions which can occur if the client is already making contributions to other qualified plans.
Complete All Required Paperwork
This step is crucial in order to keep the solo 401k plan in compliance and it may seem obvious. Incomplete or not completing all the solo 401k documents can be a big headache for clients and the solo 401k plan provider. The following documents must be provided by the solo 401k plan provider and completed by the client in order to properly establish a solo 401k plan.
- Adoption Agreement
- Trust Agreement
- Self-Employed Business Consent to Establish a Plan
- Basic Plan Document
- IRS Plan Determination Letter
Equally important, the solo 401k plan establishment documents must be properly completed and signed. The solo 401k plan is deemed “adopted” once the solo 401k plan trustee sign the solo 401k adoption agreement and business consent form. The solo 401k plan does not exist without a signed adoption agreement.
Once the solo 401k plan has been adopted, the next step is to open the solo 401k bank/brokerage account. If funding the solo 401k plan by making an annual contribution, the account must then be funded by the self-employed business tax due date plus timely filed business tax return extension.
Complete the Beneficiary Election Form
While not an IRS requirement to name a beneficiary, it is an important step in establishing a solo 401k plan. If not completed or filled out incorrectly, it will be difficult to payout the funds to the beneficiary and may result in the surviving beneficiary having to to empty out the solo 40k plan more quickly. Make sure to also date and sign the beneficiary election form including (if married) having the form notarized if naming someones other than your spouse (spousal consent) as the primary beneficiary.
If the solo 401k participant does not have the beneficiary’s birth date or Social Security number (federal tax identification number if naming a living trust as the beneficiary), the signed beneficiary form is still valid. It is best to provide this information upfront because it will be required when performing the Form 1099-R reporting when it comes to time to process the beneficiary / decedent claim.
Make sure to also list all of the primary beneficiaries and the applicable percentages if naming more than one.
Retain All Forms
The solo 401k p trustee should keep all of the solo 401k plan establishment documents and may be retained as hard or electronic copies.
Choose a Reputable Solo 401k Plan Provider
Using the services of a proven solo 401k plan provider is essential to a successful solo 401k plan. It may seem like not a big deal, in the long run it could be detrimental if the provider did not setup the plan correctly, did not keep up with the plan updates or closed down shop. While the IRS has consistently recognized that a solo 401k plan allows for the self-employed business owner to serve as trustee of his or her solo 401k plan including the alternative investments, they have also increased their IRS compliance checks in the last couple years. They have also found that some solo 401k plans contain violations. This is not surprising as the solo 401k plan rules are complex with pitfalls for the uninformed. For this reason, it is important to work with a company that specializes in solo 401k plan compliance rather than a provider that “dabbles” in solo 401k plans or does not have a proven compliance record. Moreover, you should select a provider who will make sure that you work directly with an attorney and other compliance professionals throughout the entire solo 401k plan setup process. These attorneys and professionals can ensure that you satisfy the solo 401k requirements that apply to your specific circumstances.