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Getting Started with an Individual 401(k) Plan

start an individual 401(k) plan

You made the decision to quit your 9-5 job and start your own business. There are several advantages to being your own boss. However, there is one perceived disadvantage: you no longer have an employer 401(k) plan. However, this is no longer true.

In fact, as a self-employed individual or small business owner, you have a number of retirement saving vehicles. This includes traditional or Roth IRA, SEP IRA, SIMPLE IRA, and the individual 401(k), also known as the Solo 401(k) retirement plan. Of all these plans, the one that will benefit you the most is the individual 401(k).

Getting started with an individual 401(k) plan is fast and cost-effective.

Individual 401(k) Retirement Plan

The individual 401(k) (also known as Solo 401(k), self-directed 401(k), and one-participant plan) is not a new type of retirement plan. It’s essentially a traditional 401(k), except the IRS designed it for one individual.

Prior to 2001, the individual 401(k) wasn’t the most ideal retirement plan for the self-employed and small business owners. As a result, they chose the SEP IRA to avoid the administration, testing and plan document payments of the individual 401(k).

Enter EGTRRA (economic growth and tax relief reconciliation act) was signed into law in 2001, which gave the individual 401(k) more muscle. The EGTRRA gave the individual 401(k):

  • An employee deferral feature, like with a traditional 401(k) plan
  • A profit sharing option, much like the SEP IRA
  • The loan feature, allowing individuals to take out a $50,000 tax and penalty-free loan
  • Roth features for tax-free gains

Perhaps the most significant advantage is that you can reach your maximum contribution faster than the SEP IRA, because the employee feature is dollar for dollar.

There are two eligibility requirements to establish an individual 401(k):

  1.  Self-employed/self-employment income
  2. No full-time employee, other than your spouse and business partner

If you previously or currently have an SEP IRA, compare this retirement account to the individual 401(k). You’ll see the differences right away.

Why Start an Individual 401(k)

Again, the most important advantage of starting an Individual 401(k) over other retirement accounts designed for sole owners is that you can reach your maximum contributions quicker.

You can make two types of contributions to the Individual 401(k). Again, these are:

  1. Employee salary deferral contribution
  2. Employer profit sharing contribution

There is also a catch-up contribution for participants 50 and older of $6,000. Let’s take a look at what these contributions offer.

Employee Salary Deferral Contribution:

For 2019, as an employee, you can make a contribution to your Individual 401(k) plan up to $19,000 (dollar for dollar) if you’re under 50. If you’re over 50, you can make a contribution up to $25,000. This is the $6,000 catch-up feature.

You can make contributions in pre-tax, after-tax or Roth. It’s important to note that you cannot defer more than you make. Therefore, if you only make $15,000, you can only defer $15,000.

Employer Profit Sharing Contribution:

The employer profit sharing contribution is a percentage, much like a SEP IRA. It’s 20% of your self-employment income or W-2. If you’re a C corporation, S corporation or partnership, it’s 20%.

When you combine your employee and employer contribution, you can reach a maximum contribution of $56,000 if you’re under 50 and $62,000 if you’re over 50.

How to Start an Individual 401(k) Plan

When you start an Individual 401(k) plan at IRA Financial group, you work one-on-one with a 401(k) specialist who will help establish your plan.

This includes the provision of plan documentation, which you will receive within approximately 48 hours. Before you start, you must fill out a simple application with your information, such as the adopting employer. After this, a trust will be created. You will work with a 401(k) specialist to help you obtain a tax ID # for the trust that will be created. IRA Financial Group will provide you with all necessary plan documents.

Once you receive the plan documents, you can open a bank account for your Individual 401(k) plan at a local bank. Once your account is open, instruct your previous custodian to rollover the funds/assets to the new account.

The final step is to start investing.

Investments You Can Make

With your Individual 401(k) retirement plan, you can make almost any type of investment, as long as it is IRS approved and doesn’t involve a disqualified person. As long as you don’t invest in collectibles, like stamps and works of art, you can make virtually any investment. This includes some of the most popular alternative investments:

  • Real estate
  • Tax liens
  • Loans and notes
  • Private businesses
  • Precious metals and certain coins
  • Foreign Currencies
  • Traditional assets – stocks, bonds, mutual funds, etc.

Common Individual 401(k) Rules Investors Break

The common individual 401(k) rules that investors break typically relate to the prohibited transaction rules. These are a set of rules that the IRS and IRC does not permit you to make with your self-directed IRA or self-directed 401(k) retirement plan.

As previously stated, there are certain investments you cannot break, such as life insurance and collectibles. Additionally, IRC sections 408 and 4975 prohibit you from using your IRA funds to engage in transactions with disqualified persons.

It’s important that you work with a specialist to stay IRS compliant, and avoid breaking these rules. At IRA Financial Group, you can always contact your 401(k) specialist with any concerns you have regarding transactions with your individual 401(k).

Get in Touch

Now that you know the benefits and how to start an individual 401(k) plan, contact IRA Financial Group directly at 800-472-0646 to get started. You can also fill out the form and speak directly with 401(k) specialist if you have questions prior to starting an individual 401(k) plan with IRA Financial.

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