Posts

Self-Directed Solo 401(k)s, Self-Directed SEP IRAs and Self-Directed SIMPLE IRAs – Which is Right for You?

Generally, small business owners and contractors have three choices when it comes to choosing an employer-sponsored defined business retirement plan: The 401(k), which most people are familiar with, the Self-Directed SEP IRA (Simplified Employee Pension) and the Self-Directed SIMPLE IRA. Each of these account types allows you to set aside much more money on a tax-advantaged basis than you can using an IRA or Self-Directed IRA alone, and each of them, when set up properly, supports self-directed investing.

Each of them may also qualify for a tax credit worth up to $1,500 for newly-established retirement accounts. This tax credit can help you offset start-up costs over the first three years of a plan.

But there are important differences between them, as well. You should be aware of them before opening an account: The best plan for you depends on your situation and your plans for expanding the company.

Self-Directed Solo 401(k)s

The Self-Directed Solo 401(k) is a stripped-down version of the 401(k) plan specifically designed for small businesses with no full-time employees other than the owner and a spouse. It’s simpler to establish and sponsor than a full-fledged 401(k) and requires less paperwork.

The 401(k) or self-directed 401(k) allows employees – including the owner-employee of the company – to set aside up to $19,000 per year as of 2019. Note that with a Self-Directed Solo 401(k) the only employees should be the owner, or a married couple that owns the business.

Catch-up contributions: Those age 50 and older can set aside an extra $6,000 for a total of $25,000 per year.

Total employee contributions must be less than or equal to the employee’s total compensation for the year.

The real kicker comes in the allowable employer contributions. The company can also contribute money along with the employee’s up to a statutory maximum total contribution of $56,000 as of 2019 ($62,000 for participants age 50 and older.)

The 401(k) allows the plan sponsor to include a Roth option. Roth employee contributions are not pre-tax, but assets in a Roth account within a 401(k) can grow tax-free and are not subject to required minimum distributions. Self-Directed SEP IRAs and Self-Directed SIMPLE IRAs do not allow for a Roth option.

401(k) plans can also be set up to allow for employee loans. Self-Directed SEP IRAs and Self-Directed SIMPLE IRAs do not allow loans.

The Self-Directed Solo 401(k) can be a great option for independent contractors and small businesses with no full-time employees other than owners. However, if business expands and you want to hire a full-time employee, you may have to change your plan. If you are planning on hiring anytime soon, you may want to go with a Self-Directed SIMPLE IRA or a Self-Directed SEP IRA.

Self-Directed SEP IRA (Simplified Employee Pension)

A Self-Directed SEP IRA is funded entirely the employer. Unlike 401(k) plans and Self-Directed SIMPLE IRA plans, SEPs do not allow employee contributions.

Employer contributions are a deductible business expense. The 2019 overall cap on contributions per employee, including owner-employees, is $56,000, or 25% of compensation, whichever is less. There are no catch-up contribution provisions.

Contributions are generally capped at 25% of total compensation for each employee, though for self-employed contractors will have to account for the effects of self-employment tax, which may effectively cap contributions at 20% of compensation for these individuals.

If you have employees, you must treat all qualifying employees the same under the plan. You cannot set up the plan and then contribute to owner accounts without contributing to those of non-owner employees. Generally, this means you have to contribute the same percentage of salary/compensation to each eligible employee. The dollar amounts may be different, but the percentage must be the same for owners, managers and rank-and-file employees.

Contributions are not mandatory, but if the company does make contributions, they have to contribute to the plans of all eligible employees.

Self-Directed SIMPLE IRAs

SIMPLE stands for Savings Incentive Match Plan for Employees. It’s a type of defined contribution plan designed for smaller companies with 100 employees or less. To start a SIMPLE, the company cannot have any other retirement plan in place.

Establishing a Self-Directed SIMPLE IRA is much simpler than establishing a full-fledged 401(k). Employees contribute money pre-tax via payroll deduction, similar to a 401(k) plan. Employee contributions are capped at $13,000 in 2019 ($16,000 for employees age 50 and older), and the employer must provide a matching contribution as follows:

  • A matching contribution equal to 3% of compensation, (not limited by the annual compensation limit), or;
  • 2% nonelective contribution for each eligible employee
    • Under the “nonelective” contribution formula, even if an eligible employee doesn’t contribute to his or her Self-Directed SIMPLE IRA, that employee must still receive an employer contribution to his or her SIMPLE IRA equal to 2% of his or her compensation up to the annual limit of $280,000 for 2019(subject to cost-of-living adjustments in later years).

Employee contributions are voluntary. Matching contributions are vested to the employee immediately. However, there is a steep 25% penalty on amounts withdrawn by employees within the first two years of participation (10% on early withdrawals thereafter).

There are no provisions for Roth accounts at present within Self-Directed SIMPLE IRA plans, and they don’t allow loans to plan participants.

Self-Directed Retirement Investing

Each of these plans supports self-directed investing, provided you set the account up with an administrator such as American IRA, LLC or a custodian that is set up to do so. This allows you to look beyond run-of-the-mill broker-sold investments like stocks, bonds and mutual funds, and allows you to invest directly into things like real estate, apartments, precious metals, private lending and mortgages, LLCs, partnerships and many other types of investing.

This may help you achieve higher returns, greater diversification among asset classes, or both, as you work to fund a secure retirement for yourself and your family.

Interested in learning more about Self-Directed IRAs?  Contact American IRA, LLC at 866-7500-IRA (472) for a free consultation.  Download our free guides or visit us online at www.AmericanIRA.com.

Self-Directed IRAs for Business Owners – The Self-Directed SIMPLE IRA

Many business owners want to combine the tax advantages and flexibility of Self-Directed IRA investing with the higher contribution limits available in employer-sponsored plans. The Self-Directed SIMPLE IRA is a common and popular variant of the IRA designed for small businesses with 100 or fewer employees who do not want to go through the trouble of setting up and administering a full-fledged ERISA-qualified 401(K) plan.

Self-Directed SIMPLE IRAs allow contributions from both employees and employers. Employees can contribute up to $13,000 for 2019, or up to 100 percent of compensation. Those ages 50 and older can contribute an additional $3,000 per year.

Self-Directed SIMPLE IRAs do involve some commitment on the part of plan sponsors: The company must make contributions each year, which can be either a match of up to 3 percent of compensation or a non-elective contribution of at least 2 percent of each employees’ compensation.

Compared to a qualified plan like a 401(K), SIMPLE IRAs and Self-Directed SIMPLE IRA plans allow employees more flexibility in when they can take distributions. While 401(K) plans only allow for distributions upon reaching age 59½, death, disability and termination of service to the company, SIMPLE IRAs are eligible for distributions at any time.

However, distributions are taxable and subject to a penalty of at least 10 percent prior to age 59½. Distributions within the first two years of participation are subject to a draconian penalty of 25 percent, so participants should be very confident they will not need to access that money for at least two years.

However, unlike 401(K)s, SIMPLE IRAs, including Self-Directed SIMPLE IRAs, are eligible for ‘hardship’ exemptions to the 10 percent penalty.

Self-Directed SIMPLE IRA Employer Compliance

Plan sponsors must comply with deposit rules. Salary deferral (employee) contributions must be made within 30 days of the end of the month in which the salary would have been paid out had it been paid in cash. However, self-employed individuals have more flexibility in the timing of the contributions: They have until 30 days after the end of the plan year – normally until January 30th for those businesses using a calendar year. Employer contributions must be made by the due date for the business’s tax return including extensions.

Setting up a SIMPLE IRA for Self-Direction

With a Self-Directed SIMPLE IRA account, participants are not limited to mutual funds, stocks, bonds, and other paper investment. They can hold all manner of alternative investments, and hold assets like rental property, gold and precious metals, closely-held C-corporations and limited partnerships, farms and ranches, tax liens and certificates and others.

However, you need a custodian or third-party administrator that is set up to hold these types of assets and record these transactions. That’s where American IRA, LLC comes in. As an administrator that focuses on self-directed investing, American IRA can work with you no matter what types of assets you select. As long as the assets are legal to hold within an IRA, American IRA can support the transaction.

Interested in learning more about the advantages of Self-Directed SIMPLE IRAs, Self-Directed SEP IRAs and 401(K)s for small business owners and self-employed individuals? Download our free guides or visit us online at www.AmericanIRA.com.

Your Self-Directed Simple IRA

First of all, the description term “Self-Directed Simple IRA” is not intended to imply that you would choose this program because it is easier to establish and/or to administer. This is to describe another form of an employer-based IRA from which participants who qualify can invest their retirement funds on their own.

This option is considered to be ideal for companies with fewer than 100 employees, including any part-timers.

To get started, there are now three ways to provide the initial funds. You can use one, two, or all of these methods. The account holder may make a contribution, an employer can make a contribution, and/or the account holder is allowed to transfer funds from another Self-Directed Simple IRA (whether the other Simple IRA is Self-Directed or not).

Moving forward, an employer can choose to match up to 3% of each employee’s compensation OR to contribute 2% for each employee.

There is a degree of strategy with regard to an employer’s choice.

Choosing the 2% for each employee, whether an employee contributes to their own account or not, enables the business ownership to determine the exact amount of the contribution based on the compensation structure.

On the other hand, matching up to 3% would most likely increase the amount of the contributions, especially if most or all of the employees choose to contribute at least 3% of their compensation to their accounts. Since employer contributions to a Self-Directed Simple IRA are deductible as a business expense, an employer choosing this option would likely face a greater tax advantage by doing so.

You should consult with your tax professional prior to making this decision. However, funds in the account of an employer, as well as all participating employees, offer the same tax benefits as a Traditional IRA does.

A business owner (employer) gains several advantages by offering a Self-Directed Simple IRA. The start-up and ongoing administrative and managing costs are generally lower than for offering a Traditional 401K plan. In addition, the contributions can be implemented as an additional payroll deduction, which saves administration of separate checks and bookkeeping chores.

At the same time, this provides an employee benefit and incentive for staying with the business, while potentially reducing business taxes.

Each participating employee under this plan also gains advantages. He or she is able to choose the amount (percentage) to contribute to their plan on a regular basis. Having the employer match or contribute to their plan adds to their contribution each year and helps their funds grow for the long term.

While in operation, the business owner has the ability to use its funds to invest in real estate, precious metals, notes, technology, or any other appropriate investing. Such investments can be on a short or long-term basis, or as a mixture.

For example, a business owner could purchase and flip two properties each year, with the profits feeding into the Self-Directed Simple IRA each time tax-free. Or, he/she could purchase a rental property and have the monthly positive cash flow feed into the account every month for years to come.

Each participating employee can also make investments in the same categories as they wish, and with the added benefit of the employer matching or contributing to their funds as scheduled.

Participating employees have one other potential benefit. Upon a Self-Directed Simple IRA being in existence for two years, the account holder becomes eligible to rollover the funds into another retirement account.

Suppose “Jenny” works for XYZ Corporation, which is matching 3% of her contribution, for five years. She was able to invest and increase her funds as well.

She decides to leave XYZ Corporation for another position. Because she held her account for more than the required two years, she would be able to immediately transfer all of her funds from this Self-Directed Simple IRA into another Self-Directed (or Traditional) IRA of her choosing, perhaps merging it with other funds for an even larger impact.

This is another way that this program fits into your long-term retirement strategy!

Interested in learning more about Self-Directed IRAs?  Contact American IRA, LLC at 866-7500-IRA (472) for a free consultation.  Download our free guides or visit us online at www.AmericanIRA.com.