Using a Solo 401(k) Plan with a Roth component to purchase real estate or make other alternative asset investments is most tax beneficial way to make such investments. With federal and state income tax rates expected to increase in the future, gaining the ability to generate tax-free returns from your retirement investments when you retire is the last surviving legal tax shelter. With IRA Financial Group Roth Solo 401(k) plan you can make almost any investment tax-free, including real estate, tax liens, precious metals, currencies, options, and private business investments and once you hit the age of 59 1/2 you will be able to live off your Roth 401(k) assets without ever paying tax. Imagine if someone told you that if you started making Roth 401K contributions in your forties and by just generating a modest rate of return on your real estate investments, you could have over a million dollars tax-free when you retire. Once you have reached the age of 591/2 and have had the Roth solo 401(k) plan opened for at lest 5 years, all income and gains from your Roth Solo 401(k) plan can be used tax-free and penalty-free. You can also pass the Roth Solo 401(k) plan funds to your spouse or children upon your death allowing them to use the Roth funds for any purpose without paying tax. tax.
Advantages of Buying Real Estate with a Roth Solo 401(k) Plan
Power of Tax-Free Investing: One of the main attractions to the self-directed Roth Solo 401(k) plan is based on the fact that qualified distributions of Roth earnings are tax-free. As long as certain conditions are met and the distribution is a qualified distribution, the Roth solo 401(k) plan participant will never pay tax on any Roth distributions received. The advantage of contributing to a Roth solo 401(k) plan is that income and gains generated by the Roth 401(k) investment can be tax-free and penalty-free so long as certain requirements are satisfied. Unlike with a pre-tax solo 401(k) plan contributions, contributions to a Roth solo 401(k) are not tax deductible. The power of tax-free investing can be best illustrated by way of the following examples:
- Example 1: Joe, a self-employed consultant began funding a Roth solo 401(k) plan with $3,000 per year at age 20 and would continue on through age 65. At age 65 Joe would wind up with $2.5 million at retirement (assuming they earn the long-run annual compound growth rate in stocks, which was 9.88 percent from 1926 to 2011). Not a bad result for investing only $3,000 a year.
- Example 2: Ben, a self-employed real estate agent, who is 30 years began funding a Roth solo 401(k) plan with $8000 and wanted to know how much he would have at age 70 if he continued to make $8000 annual contributions and was able to earn at an 8% rate of return. Ben did some research and was astonished that at age 70 he would have a whopping $ 2,238,248 tax-free which he can then live off or pass to his wife or children tax-free.
- Example 3: Mary, a self-employed real estate investor, who is 35 years began funding a Roth solo 401(k) plan with $13000 and wanted to know how much she would have at age 70 if she continued to make $13000 annual contributions and was able to earn at a 10% rate of return, which she felt was possible based off her past real estate investment returns. Mary did some research and was astonished that at age 70 she would have a whopping $ 3,875,649 tax-free which she could then live off or pass to her husband and children tax-free.
I am sure it may be hard for some of you to comprehend that putting away just a few thousand dollars a year in a Roth Solo 401(k) plan can leave you with millions of dollars tax-free. It’s as simple as making annual contributions to your Roth Solo 401(k) Plan and then generating tax-free returns from making real estate or other investments with your solo 401(k) plan.
High Roth After-Tax Contributions: A Roth Solo 401(k) combines features of the traditional 401(k) with those of the Roth IRA. Like a Solo 401K Plan, the Roth Solo 401K Plan is perfect for any self-employed individual or small business owner with no employees. The Roth Solo 401K Plan contains the same advantages of a Solo 401(k) Plan, but as with a Roth IRA, contributions are made with after-tax dollars. While you don’t get an upfront tax-deduction, the Roth 401K account grows tax-free, and withdrawals taken during retirement aren’t subject to income tax, provided you’re at least 59 1/2 and you’ve held the account for five years or more. For the 2018 taxable year, an individual under the age of 50 can make an after-tax Roth Solo 401(k) plan contributions of up to $18,500. Whereas, an individual over the age of 50 can make Roth Solo 401(k) plan contributions of up to $24,500 for the 2018 taxable year. As for the employer profit sharing contributions, the employer may make contributions equal to 25% (20% in the case of a sole proprietorship of single member LLC) of the plan participant’s W-2 or self-employment income amount up to $55,000 ($61,000 for individuals over the age of 50), including any employee deferrals made by the employee during the year. The employer profit sharing contributions must be made in pre-tax, but as of 2013, those employer contributions can be converted immediately to Roth so long as the solo 401(k) plan allows for in-plan Roth conversions. A tax would be required to be paid on the Roth conversion amount, but one would technically be able to make Roth contributions of up to $55,000 ($61,000 if over the age of 50) for the 2018 taxable year, almost 10 Times the amount of an IRA.
Invest in What You Know & Understand: Most people mistakenly believe that their retirement funds must be invested in bank CDs, the stock market, or mutual funds. Few Investors realize that the IRS has always permitted real estate to be purchased with retirement funds. Investments in real estate with a Solo 401(k) are fully permissible by the IRS and it is even stated right on its website. With a Roth 401(k) Plan or Roth 401(k) plan sub-account, you can invest your after-tax Roth 401(k) Plan funds in real estate, precious metals, tax liens, private business investments, and much more tax-free! Unlike with a pre-tax 401(k) Plan, with a Roth 401(k) account, all income and gains would flow back tax-free to your account. As long as you have reached the age of 59 1/2 and have had the Roth 401(k) account opened at least five years, you can take Roth 401(k) Plan distributions tax-free. In other words, you can live off your Roth 401(k) Plan assets or income tax-free. With federal income tax rates expected increase, the ability to have a tax-free source of income upon retirement may be the difference between retiring early or not.
There are several key reasons why real estate has become one of the most popular non-traditional investment options for solo 401(k) plan investors. The first being that real estate offers diversification from over-exposure to Wall Street from both personal and retirement funds. After the 2008 financial crisis, many retirement investors began to appreciate the importance of having a well balanced and diversified retirement portfolio that can help protect against another financial crisis. The second is that people tend to like to invest in something they know and understand. Real estate has fast become an asset class that more and more Americans have confidence in and have a greater comfort level then trying to guess why stocks go up or down. Thirdly, real estate is a hard asset you can touch and see and it offers a level of confidence against any potential U.S inflation. Buying hard assets, such as real estate is seen as a solid way of protecting retirement assets from the threat of inflation. These advantages coupled with the fact that all income and gains from real estate owned in a Roth solo 401(k) plan is exempt from tax makes real estate an attractive investment for retirement investors.
Loan Feature: While an IRA offers no participant loan feature, the Roth Solo 401k allows participants to borrow up to $50,000 or 50% of their account value (whichever is less) for any purpose at a low interest rate (the lowest interest rate is Prime which is 5.00% as of 6/26/18). This offers a Roth Solo 401(k) Plan participant the ability to access up to $50,000 to use for any purpose, including paying personal debt or funding a business. The Roth Solo 401(k) Plan loan feature can also help a real estate investor fund personal real estate projects with up to $50,000 of retirement funds. This is especially attractive to real estate investors facing an unfavorable lending environment.
Use Leverage Without Tax: When an IRA buys real estate that is leveraged with mortgage financing, it creates Unrelated Debt Financed Income (“UDFI”) – a type of Unrelated Business Taxable Income (also known as “UBTI or UBT”) on which taxes must be paid. The UBTI tax is approximately 40% for 2018. Whereas, with a Roth Solo 401(k) plan, you can use leverage without being subject to the UDFI rules and UBTI tax. This exemption provides significant tax advantages for using a Roth Solo 401(k) Plan versus an IRA to purchase real estate. In other words, with a Roth Solo 401(k) Plan, one can super charge their returns by using non-recourse leverage to increase their real estate investment amount and generating tax-free returns without paying any UBTI tax. This is a really attractive and exiting opportunity for real estate investors.