If your Solo 401(k) plan documents include a loan option, a Solo 401(k) loan is permitted at any time using the accumulated balance of the Solo 401(k) as collateral for the loan. A Solo 401(k) participant can borrow up to $50,000 or 50% of their account value – whichever is less. This loan has to be repaid over an amortization schedule of 5 years or less with payment frequency no greater than quarterly. The interest rate must be set at a reasonable rate of interest, generally interpreted as prime rate as per the Wall Street Journal. As of 1/1/15 prime rate is 3.25%, which means participant loans may be set at a very reasonable Interest rate. The Interest rate is fixed based on the prime rate at the time of the loan application. The Solo 401(k) plan loan can be used for any purpose, including paying off debt, starting a business, going on vacation, or really anything you want. The IRS imposes no investment restrictions on using the Solo 401(k) plan loan for personal purposes.
Internal Revenue Code Section 72(p) and the 2001 EGGTRA rules allow a Solo 401(k) Plan participant to borrow money from the plan tax-free and without penalty. As long as the plan documents allow for it and the proper loan documents are prepared and executed, a participant loan can be made for any reason. The solo 401(k) loan is received tax-free and penalty-free. There are no penalties or taxes due provided loan payments are paid on time.
A Solo 401(k) plan loan feature is an employer plan option. Therefore, one who is a participant is more than one employer plan can take out multiple 401(k) plan loans of up to $50,000 or 50% of the plan account value so long as the plan documents allow for it. The key is to make sure that the employer plans are not part of a controlled group since the multiple employer plans would be treated as one plan for IRS purposes and you would be capped at the $50,000 or 50% account value limitation.
For example, John is a full-time employee with ABC corporation, a corporation in which he had no ownership interest in. John also has a side business in which he performs consulting services. John wishes to pay off some debt and elects to take a loan from the ABC corporation 401(k) plan. John is expected to earn a significant amount of income in his consulting business and wished to establish a Solo 401(k) plan in order to make plan contribution and reduce his taxable income. John’s CPA mentioned that he could also take a loan from the Solo 401(k) plan of the lesser of $50,000 or 50% of his account value. John mentioned to his CPA that he had a current plan loan outstanding with ABC corporation, but his CPA mentioned that since ABC corporation is not owned greater than 80% by John or any relative, there is no controlled group relationship with his consulting business and, thus, since a 401(k) plan is employer plan based, John could take another loan with his consulting business 401(k) plan so long as he had sufficient funds in the plan.