Author Topic: Questions about solo 401(k)  (Read 614 times)

Dollar Slice

  • Magnum Stache
  • ******
  • Posts: 3433
  • Age: 41
  • Location: New York City
Questions about solo 401(k)
« on: April 16, 2018, 12:38:43 PM »
I'm in a slightly weird situation... briefly, the background is that my team/unit got spun off and sold to a new company, and the transition was handled very poorly so things are/were kind of a mess. The purchasing company did not have any offices in our state (or any other state besides California - fairly small company with ~25 employees). So they told us they would have to hire us on as 1099 contractors temporarily while they figured out things like health insurance in New York State and tax withholding with NYC/NYS and so on and so forth. (You don't have to tell me about this being a bit of a red flag. I already know. But it is the only red flag with them so far, so I'm rolling with it and hoping they'll stick to their word.)

I'm going to get slammed with taxes as a contractor in NYC. Marginal tax rate will be around 47% on my five-figure salary. So I'm wondering if it's worth opening a solo 401(k) and at what point it's worthwhile.

I have a pretty big taxable account (49k in muni bonds, 18k cash) and was thinking I could just use that to live on while shoving the 1099 salary into a 401(k). So if I get, say, $10k in 1099 income, I could just put it all in the 401(k) and avoid that onerous tax rate.

Questions:
Can I put in 100% of my earnings? Or do I still have to pay FICA/SE tax (15.3%) on money I put in a 401(k), or are there some other limits?

Can I open the solo 401(k) later, after I find out exactly how long I will be on 1099, or do I have to donate as I earn? (I don't want to max out my account now and then get hired as W2 employee a week later and find out they would have matched it all if I'd waited.)

Would putting 100% of my earnings in cause problems with anything else, like being able to deduct expenses? I.e., if I earn $5000, and put all $5000 into a 401(k), can I still deduct $500 for health insurance?

sokoloff

  • Handlebar Stache
  • *****
  • Posts: 1198
Re: Questions about solo 401(k)
« Reply #1 on: April 16, 2018, 12:59:00 PM »
Questions:
Can I put in 100% of my earnings? Or do I still have to pay FICA/SE tax (15.3%) on money I put in a 401(k), or are there some other limits?
My CPA/EA has us contribute 92.93% of my wife's consulting income into her solo-401(k). (This is not enough to hit the $18.5K contribution limit, even though I think the actual limit is higher between the combined employer and employee limit. In any case, her total consulting income is low enough to not hit $19K gross.)

I don't know the derivation of the 92.93% limit; just sharing what he said it was.

neo von retorch

  • Magnum Stache
  • ******
  • Posts: 3162
  • Location: SE PA
    • Fi@retorch - personal finance tracking
Re: Questions about solo 401(k)
« Reply #2 on: April 16, 2018, 01:35:42 PM »
You can contribute up to 100% of your earnings up to $18,500 in 2018. You still pay self-employment tax on the net business income regardless of how much you shield from income tax. So if you have other money/income to pay FICA, you can max the 401k. Additionally, you can contribute profit share in the amount of (income - employee contributions) * 0.25% roughly. (This calculation always throws me for a loop.)

But basically - you're paying the FICA on the business income, regardless of 401k contributions, but if you have the income from other sources, you could still hit the max. Or if you just go over the maxes with income, and have enough to max it.

Dollar Slice

  • Magnum Stache
  • ******
  • Posts: 3433
  • Age: 41
  • Location: New York City
Re: Questions about solo 401(k)
« Reply #3 on: April 16, 2018, 01:55:10 PM »
Thanks!

Additionally, you can contribute profit share in the amount of (income - employee contributions) * 0.25% roughly. (This calculation always throws me for a loop.)

So if I made $10k and contributed $10k I couldn't do the profit sharing at all? Because $10k income - $10k contributions = $0.

sokoloff

  • Handlebar Stache
  • *****
  • Posts: 1198
Re: Questions about solo 401(k)
« Reply #4 on: April 16, 2018, 02:12:22 PM »
I don't know the derivation of the 92.93% limit; just sharing what he said it was.
Poking around a bit, it seems like this might be a function of the OASDI and HI on the employer contributions and the HI and additional HI surtax figure for the employee contributions, but again, I have no real idea but instead just follow his guidance.

neo von retorch

  • Magnum Stache
  • ******
  • Posts: 3162
  • Location: SE PA
    • Fi@retorch - personal finance tracking
Re: Questions about solo 401(k)
« Reply #5 on: April 16, 2018, 02:19:53 PM »
So if I made $10k and contributed $10k I couldn't do the profit sharing at all? Because $10k income - $10k contributions = $0.

Yes, while my formula might not be 100% right on, you cannot contribute more to your 401k than your income, or more to your profit share than your net income. If you made, say... $25k - you could contribute $18,500 as employee. You still could not contribute $6500 to profit share - more like $1625. But again you'll want to verify the formula if it comes to that.

Dollar Slice

  • Magnum Stache
  • ******
  • Posts: 3433
  • Age: 41
  • Location: New York City
Re: Questions about solo 401(k)
« Reply #6 on: April 16, 2018, 02:31:47 PM »
Got it. So basically I can plan on being able to contribute 100% of 1099 income as long as I don't mind paying 15.3% tax out of savings.

Still wondering about my latter two questions if anyone knows...

neo von retorch

  • Magnum Stache
  • ******
  • Posts: 3162
  • Location: SE PA
    • Fi@retorch - personal finance tracking
Re: Questions about solo 401(k)
« Reply #7 on: April 16, 2018, 02:38:31 PM »
It could take a few weeks to open the solo 401(k), just with creating and mailing paperwork. So keep that in mind. You can contribute as an employee through December 31st of the tax year. It doesn't have to be "on the pay rhythm." (For example, I just initiate ACH transfers from my biz checking to my Vanguard account whenever I please, selecting the tax year and how much is employee/employer.)

You can contribute to profit share (employer portion) until the tax deadline.

You cannot deduct expenses from income you don't have, either. So if you already deducted 100% of your income because you were able to contribute it to your 401k, you will not be able to deduct further. (They are deductions, not credits, after all.)

Dollar Slice

  • Magnum Stache
  • ******
  • Posts: 3433
  • Age: 41
  • Location: New York City
Re: Questions about solo 401(k)
« Reply #8 on: April 16, 2018, 02:56:19 PM »
Thank you so much!

So I think the plan is: wait until I get the W2 offer, hopefully within a month or two. See what the matching etc. plan is at new company and figure out what makes sense in terms of contributions from 1099 vs. from W2 income. (Just in case they have some crazy good match.) Make sure to leave room for health insurance expense deduction so as not to waste that deduction.

Much Fishing to Do

  • Bristles
  • ***
  • Posts: 345
Re: Questions about solo 401(k)
« Reply #9 on: April 17, 2018, 04:53:29 AM »
With a marginal rate like that definitely don't miss this opportunity.  When I first started doing the solo 401k this contribution limit calculator helped me see what was being calculated and exactly how, just plug in min and max expected earnings (and make sure you chose the right business type) to see what your limits may be. 
http://www.bcmadvisors.com/solo-401k-calculator