^^ Understand Solo 401k Loan: What is a Nonrecourse Loan?

Solo 401k loan

Solo 401k loan

Since the new Solo 401k rules were introduced, more people are looking at Solo 401k and its benefits for self-employed individuals. One of the biggest benefits is Solo 401k loan options, which allows account holders to take out up to $50,000 or 50% of the balance at one time, whichever is higher. This could be a great help in time of need, and also a great way to invest with leverage.

Solo 401k rules specifically stated that all recourse financing are listed under prohibited transactions. Therefore, uneducated account holders often shy away from using this great leverage tool, fearing that they would violate the tax law. Understanding the rules is crucial to make sure that you can make the most of your retirement plan without subjecting to any penalty or tax.

What is a Recourse Loan?

A recourse loan is an unsecured loan that is not backed by any collateral. If the borrower fails to repay the loan, the lender can go after the borrower’s assets and pursue legal action against the borrower.  With recourse loans, the loan is taken out based on the person’s credit and hence could be seen as for his benefits. Since the account holder themselves is a non-qualified person, the loan has to qualify on its own, without being backed up by the holder.

What is a Nonrecourse Loan?

So how would a lender approve a Solo 401k loan without any back up from the borrowers’ credit? That’s when a nonrecourse loan comes in the picture. A nonrecourse loan is one that requires collateral. With this, the borrower is not liable and the lender can only go after the collateral in case of non payment. That is why a nonrecourse loan is a qualified loan, because in case of default, the lenders cannot go after the fund or the borrowers for payment.

Because of the collateral requirement, nonrecourse loans are most typically used for real estate purchase, where the purchased property will become the collateral. This wouldn’t be helpful with a traditional retirement plans, as they often allow only investments in stocks and mutual funds. Luckily, an individual 401 k plan also allows a wide variety of investments, including real estate, which makes it possible to leverage the investments with a nonrecourse loan.

Interested in leveraged investments? Now it’s time to do your homework. Not all lenders offer nonrecourse loans, so make sure you do some research and find the right lenders to avoid triggering a prohibited transaction.

Solo 401k vs SEP: Which One is the Best Retirement Plan for Self Employed?

Solo 401k vs SEP

Solo 401k vs SEP

Solo 401k and SEP are the two most popular retirement plans for self employed individuals, yet most people are often confused when comparing Solo 401k vs SEP plan. Both plans allow high contribution limit and flexible yearly contribution. What is the difference and how to choose the right plan for you? It is recommendable to understand the pros and cons of each plan and who will best benefit from each plan.

SEP IRA:

The contribution limit of a SEP IRA is $52,000 in 2014, this is much higher than a regular IRA. Keep in mind that the contribution is limited at 20% of their self employment income.

Most people chose SEP IRA because it is quite easy to set up and maintain. Most providers will be able to set up a 401k plan for you with relatively low administrative cost.

The drawback, or what makes people go the other route, was that a SEP IRA might allow you to contribute less than a Solo 401k. Another drawback is that a SEP iRA doesn’t allow a catch-up contribution, and therefore, in the Solo 401k vs SEP competition, Solo 401k will probably win over older account holders of 50 years old and above who would like to catch up with their retirement saving.

Solo  401k:

A Solo 401k allows you to contribute up to $52,000 each year to the retirement fund. A catch up contribution is allowed for account holders who are 50 years old and above.

Account holders who haven’t exceed their limit of $52,000 yet can potentially contribute more with a Solo 401k. The reason is that under a Solo 401k, the contributor wear two hats: they are allowed both salary deferal and profit sharing contribution.

Also, a Solo 401k allows account holders to take out loans of up to 50% of their total fund, or up to $50,000. This is a tax free and penatly free loan, which is quite non traditional comparing to other retirement plans, which usually charges account holder a penalty for taking early distribution or unqualified borrowings.

A Solo 401k however, could be a little harder to set up and require more administrative work than a SEP IRA. Therefore, if you decided that you need the loan option or the higher contribution limit of a Solo 401k, make sure to choose the right 401k provider that will take care of the paperwork process and set up the right plan option for you.

Understand Individual 401k Contribution Deadline and Limit for Sole Proprietorship

Individual 401k Contribution Deadline

Individual 401k Contribution Deadline

Individual 401k is a great way for sole proprietor business owners to save up for their retirements, because of the high contribution limits. In case of sole proprietorship, the owner of the business can make contribution as an employer as well as an employee. As high as the limit is, account holders also need to know the individual 401k contribution deadline and limit to make sure they can make the most contribution possible.

Employee deferral contribution

Business owners under 50 years old can contribute as much as $17,500 under their employee deferral benefit, while 50 years old and above can contribute an extra $5,500. That means a large maximum of $23,000 for older account holders.

In order to make the full contribution, account holders have to abide by the individual 401k contribution deadline. The contribution rule said that they have to formally elect to make an employee deferral contribution by December 31. The actual contribution itself can be transferred by the last date of tax filing.

Profit Sharing Plan

Individual 401k is a profit sharing 401k, which means the account holder can also make contribution as the owner of the business. Solo 401k rules stated that you can make profit sharing contribution of up to 25% of the income generated by your business. However, sole proprietors can only make a contribution of up to 20% of their earned income.

Also, the total of both employee deferral contribution and profit sharing contribution cannot exceed $51,000 for account holders less than 50 years old, or $56,500 for 50 years old and above. That means the profit sharing plan is also limited to a maximum amount of $33,500.

The contribution deadline for profit sharing contribution is also the same as employee deferral contribution: all contributions have to be made before tax-filing deadline.

Spouse Contribution

If both spouses are involved in the same self-employed business activity, they both can contribute to an individual 401 k account. This is because spouses of business owners are also considered both an employee and an owner of the business.

Spouses of business owners are titled to the same contribution limit, which means an additional $51,000 annually as of 2013, or $56,500 annually for participants over 50 years old.

Their contributions are also subjected to the same deadline of the last tax-filing date.

Understanding the contribution and deadline is the most important step to make sure you are making as much contribution as possible. Although there is no minimum contribution required for a solo 401k, account holders will benefit more from putting their savings into a tax-free account.

^^ Four Ways to Make Self Employed 401k Rules Work In Your Favor

 

Self Employed 401k Rules

Self Employed 401k Rules

Attaining an individual 401k is your first step toward a better retirement, as it has been widely recognized as one of the best retirement plans for self employed individuals. However, the retirement plan can only work for you if you understand how to take advantage of its benefits. Therefore, the next step is to make the most of this flexible plan to save and grow a healthy fund.

These are four ways that the rules can work for account holders’ benefits:

Start Saving Early

Self employed 401k rules do not have a minimum contribution requirement, or a minimum profit that account holders have to achieve before joining. As soon as you have an income stream from a self-employed activity, you can start putting money into an individual 401 k account. Take advantage of this rule and start saving right away. The longer the money stays in your account, the more time it has to grow on a tax-free base.

Saving As Much As You Can

A self employed 401k is widely popular because of its high contribution limit. In a sole proprietorship or a freelancing job, you can make contribution both as an employer and an employee. The limit is up to $51,000 in 2013. Account holders of 50 years old and above can also contribute an additional $5,500. If you meet the limit, your retiring prospect is quite healthy for sure.

Make the Money Grow

As retirement 401k companies have probably told you, individual 401k plans don’t restrict investment choices to only stocks and mutual funds. What this means is that you have more choices than ever when it comes to investing your 401k. Take advantage of this and go with the high quality investments you can possibly find.

Borrow When Needed

Just because self employed 401k rules allow borrowing doesn’t mean you have to. You are saving toward your retirement, so that one day you can stop working entirely and enjoy life. So focus on that purpose and only take out loans when needed.

To make the loan option works for your benefit, be sure to learn all you can about Solo 401 k loan before borrowing. It’s always best to choose a 401k provider that offer loan options and take care of all the paperwork process for you.

Start a New Business with an Individual 401k Loan

Individual 401k loan

Individual 401k loan

Question:

I recently quit my job to start a new business venture of my own as a freelancing consultant. However, I find myself short of cash and the only sizable saving I have is in my IRA. Is there anyway I could take out some money from this account and pay it back when everything is settled?

Our recommendation:

First of all, congratulation on your new business venture!

Regarding your capital need, unfortunately an IRA account will not allow you to borrow and then pay back any amount from your retirement fund. You can make direct withdrawals from the fund, however, you will be charged a 10% penalty for early withdrawals when you are under 591/2 years old.

The best option for you right now is to get an Individual 401k loan. As a freelance consultant with no other full time employee, you are qualified for a sole proprietor 401k. Unlike your traditional IRA account, this is the best retirement plan for self-employed because it allows borrowing from the fund, among other benefits.

Please note that an individual 401k allows you to borrow a maximum amount of $50,000 or up to 50% of your account balance. However, it will be tax-free and penalty free, which in your case will be quite helpful. All you have to do is paying it back within 5 years. Another way to increase the loan limit is if your spouse is also involved in the business. This way if he or she signed up for Solo 401k, he or she will be able to borrowing up to $50,000 as well. You can figure out exactly how much you can borrow by using an individual 401 k calculator.

Before you could take out an individual 401k loan, you would need to transfer your fund from your current IRA to a new self employed 401 k first. The best thing to do is to talk to a 401 k provider who offers loan options. A good plan provider will also take care of all the paperwork required for your Solo 401k application, and facilitate the loan when it’s ready.

Once you have the Solo 401 k in place, you will find that this retirement plan is quite beneficial for your situation in many ways. Even if you ended up not needing the loan right away, you can leave the money to growth tax-free and still have the loan option should the need come again. An individual 401k also allows you to contribute up to $51,000 annually, so once your business is up and running, you can start saving more towards your retirement.

Should I Choose Self-directed 401k for Small Business Retirement Plan?

Small Business Retirement Plan

Small Business Retirement Plan

What most people don’t know is that both traditional 401k and individual 401k are available as brokerage based as well as self-directed. Corporate employees usually don’t have a choice and most likely end up with traditional brokerage based retirement plans. However, if you own a small business or work for yourself on a freelancing job, then you will get to choose your own small business retirement plan. In this case, should you choose to go with a self-directed plan?

What is a Self-Directed Solo 401k?

A self-directed Solo 401k has all the benefits of tax-deferment and high contributions of a 401k for self employed business people. The difference is that it is the account holder who makes the investment choices and takes charge of their funds completely.

As with any other investment fund, it can only benefit from sound investment decisions and therefore, the account holders need to have a certain investing knowledge. Here are a few tips to successfully invest your 401 k:

1. Focus on what you know best:

Fortunately, unlike a traditional pension plan, a sole proprietor 401k allows you to choose from different types of investments, such as stocks, real estates, precious metals and even private business. Since you have started a business activity of your own, find a field that you are most confident about and tailor your retirement plan accordingly.

2. Invest wisely:

Even with the diverse investment choices, most seasoned investors know that a higher return is usually associated with higher risks. As you are now in full control of the fund, it is completely in your hands whether the fund will grow or sink. Therefore, do your homework before deciding on an investment.

Also think about the return you want to make down the line and take into account your retirement plan as well. If you are not looking to retire soon, and are confident with your investment, then go ahead and make the best choices. Otherwise, if you are looking forward to retire within the next few years, look for more secure and stable assets to invest in.

3. Beware of the fees:

As with any investment account, trading fees that occur when you make investments from your retirement plan will lower your rate of return overall. Make sure to understand the fee structure of your 401k plan provider. Some only have an annual fee, some will have transaction-based fees.

For a small business retirement plan with transaction-based fees, it might be more preferable to invest in real estates, which often require less frequent transactions. Similarly, with mutual funds or index funds, once you carefully chose a portfolio, there will also be less trading needed.

^^ 3 Other Ways a 401k for Individuals Can Help You Financially

401k for Individuals

401k for Individuals

Chances are, when freelancers and business owners start asking themselves “What is a solo 401k?”, they probably still don’t know all the hidden benefits of this retirement plan. Of course first and foremost, a 401k for individuals is designed to secure a comfortable retirement for freelancers and small business owners. Beyond that, however, an account holder can certainly take advantage of their 401k fund to solve some of their other financial issues.

Become debt-free

Unlike traditional IRA or other retirement plan types, the money in a 401k for individuals doesn’t become completely inaccessible to the account holder. In fact, account holders can take out a loan of up to $50,000 or less than 50% of their fund.

This loan can be used for any purpose, including paying off other personal debts. And unlike traditional loans, borrowing money from your own 401k fund is tax-free and penalty free.

Invest in Education

Holders of qualified plans who are 591/2 years old and have had the account for at least 5 years can start receiving qualified distributions. This amount of course is at your free will and you can choose to pay for your children’s college fees and tuitions.

If the account holders are not qualified for distributions just yet, he or she can also elect to make early withdrawals without any penalty cost.

The best thing is, with a Roth 401k, you can start putting money into the fund years in advance and let the fund growth tax-free. College education can be expensive, so the extra tax-free investment income will certainly become helpful.

Invest in Real Estates

A 401k for individuals allows more flexibility, with account holders able to choose from a wide variety of investments without consulting a custodian. With that, you can choose to invest in non-traditional investment like real estate.

The great thing about investing in real estate from your 401k fund is that you can defer your income into a Roth account inside your 401k, which will be tax-free. You can also borrow on a non-recourse basis in order to raise capital for such investment.

As a private 401k allows tax benefits and flexibility to owners, there are many possible ways to save and invest wisely to increase your net worth. Account holders are encouraged to learn about different ways a personal 401k can benefit them, and consult their providers when unsure to avoid prohibited transactions.