A personal 401k plan is another term used to refer to a retirement plan for the self employed. Other common names used to describe a personal 401k plan include solo 401k, unit K, single K, one K, self-directed 401k, self directed Solo 401k, Individual 401k and individual k, and Solo 401k plan.
For simplicity, the rest of this blog refers to the self-employed 401k as a personal 401k plan. In addition to being a retirement plan for the self-employed, the personal 401k plan is governed by the Internal Revenue Service just like other 401k plans for full-time employees. Following is a summary of the rules and benefits of the personal solo 401k plan.
Is a personal 401k plan a new type of 401k plan?
No the personal 401k plan is not a new type of 401k plan. It is a defined contribution plan covering the self employed and his or her spouse or business partner. The same rules that apply to other defined contributions plans like a traditional 401k sponsored by employers with full-time employees still apply to the personal 401k plan.
Personal 401k Plan Contribution Limits
Contributions to a personal 401k plan include two types, employee and employer, and the self-employed business owner may contribute both types. The employee contribution limit and employer contributions limit applies separately to each participant (remember that the business owner and his or her spouse or business partner can also participate in the same personal 401k plan).
Here are the personal 401k contribution limits for 2019 and 2020.
Can contributions be made to both a personal 401k plan and a full-time employer 401k plan?
Yes a self-employed individual who also has a full-time job and participates in that company’s traditional 401k plan (one for full-time employees) may also open a personal 401k for his or her self-employed business and make contributions to both 401k plans; however, the annual contribution limits described above apply to a 401k plans in aggregate. CLICK HERE TO LEARN MORE.
What investment types can I invest my personal 401k plan?
Personal 401k plans can be invested in any investment not disallowed under the Internal Revenue Code. Disallowed investments include works of art, alcoholic beverages, antiques and certain coins.
Allowable personal 401k plan investments include:
Real estate (e.g., rentals homes, fixer-uppers, foreign real estate, commercial real estate, etc.);
Precious metals (e.g., gold, silver palladium and silver, but it has to be of a specific fineness);
Promissory notes (e.g., secured by real estate, or other collateral; or unsecured promissory notes); and
Equities, commodities, life insurance, private company shares including S-Corporation shares, in addition to any investment not considered prohibited by the IRS.
Are there various types of personal 401k plan providers?
Yes, and personal 401k plan providers range from brokerage firms, insurance companies, banks and administrators.The main difference between these personal or solo 401k providers is threefold:
First, annuity companies only permit investments in annuities, whether fixed or variable annuities, with the ladder permitting investing in certain mutual funds. Most annuity companies don’t allow you to process a personal 401k plan loan, most commonly referred to a solo 401k loan.
Second, banks and brokerage firms also offer personal 401k plans. However, generally you can only invest in stocks and mutual funds, and the personal 401k plan option is not always available.
Third, personal 401k plan administrators serve as personal 401k providers and offer optional administration support. In other words, the main role of the administrator is to keep the personal or solo 401k documents up to date with changes in the law, with some offering compliance support. The personal 401k plan providers personal 401k plan documents generally allow for solo 401k loans as well.
What is a Personal 401k Plan Loan or Solo 401k Plan Loan?
Instead of borrowing from a bank, through a personal 401k plan loan you, as the participant of the plan, borrow from your own retirement funds. Of course, just like a loan from a bank contains specific terms and some sort of interest applies, a personal 401k plan loan comes with the following conditions (VISIT HERE for more):
- Each personal 401k plan participant may separately borrow up to 50% of his or her respective personal 401k plan balance, not exceed $50,000 and the minimum loan amount is $1,000.
- The loan payback period is 5, 10 ,15, or 30 years; however, if the proceeds are not used towards the purchase of a primary home residence, the maximum loan term is 5 years.
- Personal 401k plan loan payments are fixed, consisting of principal and interest, and payments made either monthly or quarterly. The loan interest rate is based on the current prime rate plus one point.
What is an in-plan Roth Personal 401k Plan rollover/conversion?
Similar to a Roth IRA conversion where traditional IRA funds are converted to a Roth IRA and taxes are paid on the amount converted, the pretax personal 401k plan funds may be converted to a designated Roth Personal 401k plan, most commonly referred to as a Roth Solo 401k. The 10 percent early distribution penalty will not apply to the in-plan rollover/conversion but federal taxes will apply, which will need to be paid when your file your personal tax return following the year of the conversion. Further, a separate holding account designated as a Roth account will need to be setup under the same personal 401k plan.
For example, if the name of the personal 401k is “XYZ Solo 401k Plan”, the second holding account for housing the Roth funds would simply be titled “XYZ Solo 401k Plan Roth.” In other words, it’s not an additional plan, rather a designated Roth sub account.