Roth Solo 401(k) Benefits
The Roth Solo 401(k) is the best retirement plan for self-employed and small business owners. With the potential increase of federal and state income tax rates, the ability to generate tax-free returns from your IRA investments is the last surviving legal tax shelter.
With a Roth Solo 401(k) (or Solo Roth 401(k) Plan), you can make almost any type of investment tax-free. This includes real estate, tax liens, precious metals and more. You can also continue to make traditional investments, like stocks, bonds and mutual funds. When you reach age 59 1/2, you’ll have the ability to live off your Roth 401(k) assets without having to pay tax.
Look at the Roth Solo 401(k) this way: if you start contributions in your 40s and generate a modest rate of return, you may have over $1 million tax-free when you retire. With a Solo Roth 401(k), you have options. You can:
- Live off your investment income tax-free
- Take a portion of your Roth 401(k) funds and use it for any purpose
The Roth Solo 401K Plan Advantages
The Roth Solo 401(k) offers many advantages to self-employed individuals and small business owners. Most notably is the power of tax-free investing.
Power of Tax-Free Investing
One of the main attractions to a Self-Directed Roth Solo 401(k) is the fact that qualified distributions of Roth earnings are tax-free. With the Roth Solo 401(k) Plan (also called the Solo Roth 401(k) Plan) you never have to pay tax on distributions received.
The advantage of contributing to a Roth solo 401(k) plan is that income and gains the Roth 401(k) investment generates can be tax-free and penalty-free. Unlike contributions with a pre-tax solo 401(k) plan, contributions to a Roth solo 401(k) are not tax deductible.
Take a look at the following examples to better understand the power of tax-free investing with a Roth Solo 401(k) retirement plan.
Joe, the Self-Employed Consultant
Joe is a self-employed consultant who began funding his Roth Solo 401(k) Plan at age 20. He contributed $3,000 annually and until age 65. At 65, he has $2.5 million at retirement. This is assuming he earns the long-run annual compound growth rate in stocks which was 9.88 percent from 1926-2011. Not a bad result for investing only $3,000 a year.
Ben, the Self-Employed Real Estate Agent
Ben is a self-employed real estate agent who began funding his Roth Solo 401(k) Plan at age 30. His annual contributions were $8,000 at an 8% rate of return on his investments. After researching, he realized that he would make a whopping $2,238,248 at age 70. He can live off this money or pass it to his wife and children, tax-free.
Mary, the Self-Employed Real Estate Investor
Mary is a self-employed real estate investor who is 35 years old. She began funding a Roth Solo 41(k) plan with $13,000 annually and wanted to know how much she would have at age 70. If she could make a 10% rate of return (which she believes is possible with her real estate investment returns), at age 70, she would have $3,875,649 tax-free.
A Roth Solo 401(k) has all the attractive features of a traditional 401(k) with the features of a Roth IRA. Like a Solo 401(k) Plan, the Roth Solo 401(k) is perfect for anyone who earns self-employment or small business owners with no employees.
A Roth 401(k) account grows tax-free and withdrawals taken during retirement are not subject to income tax. However, you must be at least 59 1/2 and have the account for five or more years.
If you’re self-employed, you can use the Roth Solo 401(k) to maximize your ability to generate tax-free retirement savings, and invest in alternative assets, like real estate without custodian consent.
Unlike a Roth IRA, which limits Roth IRA contributions to $6,000 annually ($7,000 if you’re 50 and older), in 2019 the Roth Solo 401(k) account allows after-tax contributions of up to $19,000. If you’re 50 or older, you can make up to $25,000 in contributions. This allows you to accumulate thousands more in tax-free retirement than a Roth IRA.
Unlimited Investment Opportunities
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
The list of alternative asset investments doesn’t stop there. Compared to a pre-tax 401(k) plan, a Roth Solo 401(k) or Roth 401(k) retirement plan offers a tax-free source. This will become beneficial if federal income tax rates increase. The ability to have a tax-free source of income upon retirement may be the difference between early retirement, or not.
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). You can use this loan for any purpose at a low interest rate (the lowest interest rate is Prime which is 5.50% as of 1/1/19).
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.
Offset the Cost of Your Plan with a Tax Deduction
By paying for your Solo 401(k) with business funds, you become eligible to claim a deduction for the cost of the plan, including annual maintenance fees. The deduction for the cost associated with the Solo 401(k) Plan and ongoing maintenance will help reduce your business’s income tax liability. In turn, this offsets the cost of adopting a self-directed Solo 401(k) Plan.
The retirement tax professionals at the IRA Financial Group will help you take advantage of the available business tax deduction for adopting a Solo Roth 401(k) Plan.
Cost Effective Administration
The Roth solo 401(k) plan is easy to operate. There is generally no annual filing requirement unless your solo 401(k) plan exceeds $250,000 in assets. In that case, you simply have to file a short information return with the IRS (Form 5500-EZ).
Exemption from UDFI
When an IRA buys real estate that is leveraged with mortgage financing, it creates Unrelated Debt Financed Income (UDFI). This is a type of Unrelated Business Taxable Income (also known as “UBTI” or “UBIT”) on which taxes must be paid.
The UBTI tax is approximately 40% for 2019. 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.
Get in Touch
Do you still have questions regarding the Solo Roth 401(k) Plan that were not mentioned in this article? Get in touch with IRA Financial Group at 800-472-0646. You can also fill our the form to speak with an on-site 401(k) specialist.