A self-directed 401k, also known as a Solo 401k, is a savings option available to business owners who do not have employees. The Solo 401k acts in a very similar manner to that of the standard 401k, allowing the owner to contribute pre-tax earnings into their account and defer those taxes until the funds are later withdrawn in retirement. There remain some key differences between the two, however, providing the solo 401k participant unique benefits that a traditional account cannot offer.
You may also use your 401k to invest in a limited liability company. This LLC can then invest in real estate or other passive activities. If you are considering such a set up, then a New Mexico LLC is a wonderful choice with the lack of annual report and anonymity.
Solo 401k Benefits
With a Solo 401k, the participant serves as both the employer and employee, which allows more money to be set aside than with a traditional 401k or other retirement accounts. The Solo 401k offers the ability to maximize your contributions by allowing you to contribute both as employee and employer. Each has their own contribution limit. For 2019, total contributions for a participant’s account is $56,000.
Additional Features of the Solo 401k:
- Tax-deductible contributions
- Tax-deferred compound earnings
- Option to invest in LLCs
- Significant annual saving for retirement
A Solo 401k is available even to newly formed companies. They allow for greater investment flexibility including LLCs, real estate, precious metals, cryptocurrencies, as well as stocks, bonds, mutual funds and more. Additionally, any personal debts or bankruptcies are safe from creditors, as your 401k account is a protected investment.
Rolling Over Your Existing Account
If you have an existing 401k, you can roll that account over into a new Solo 401k Plan. With your self-directed 401k formed, you can invest that new 401k in a New Mexico LLC. This will create an investment vehicle that offers you greater investment possibility and freedom, along with lower taxes and fees, as it is a self-directed account.
Roll over these existing accounts into your new 401k:
- Employer 401k
- Traditional IRA
- State Retirement Funds
- 403(b) and other plans
With your new Solo 401k plan, you can invest in a New Mexico LLC to open up multiple investment possibilities:
- Make loans to yourself and your other businesses
- Invest in real estate
- Invest in stocks, bonds, and mutual funds
LLC Operating Agreement
The operating agreement for your Solo 401k LLC serves mostly as a set of rules for yourself. The rules are subject to change at your own discretion, at any time. However, it is important that your bank receive a copy of the operating agreement, as well as the custodian managing your LLC.
As it pertains to your Solo 401k, the operating agreement helps ensure that you follow proper rules when conducting financial choices and transactions. Your operating agreement will require language that addresses the following matters:
Disqualified Persons: This is a list of people from which you may not buy investments. You, as the fiduciary, and your family count as disqualified individuals. Also, any entity that you or a family member has 50% or more control over is disqualifying.
Prohibited Investments: Your Solo 401k has the ability to invest in a wide array of investment types with the exception of collectibles. A collectible is any tangible personal property like a rug, antique, work of art, musical instrument, gem, metal, collectible coins, etc.
Prohibited Transactions: These transactions are most commonly referred to as self-dealing. This means that your Solo 401k cannot engage in any transactions in which you use funds to improperly benefit you, your family, or your business. Whether intentional or an accident, if you subject your Solo 401k to prohibited transaction, you will be subject to tax consequences and penalties.
Indirect Benefits and Transactions: This refers to any transaction that violates prohibited transaction rules by attempting to directly remove the disqualified person and instead benefit that person in an indirect or roundabout way. For example, you cannot loan money from your Solo 401k to a friend, who then turns around and loans that money to one of your family members. Even though there is a break in the direct line of the prohibited transaction, it is still classified as a tax rule evasion.
Unrelated Business Income Tax (UBIT): Your Solo 401k plan may be subject to paying UBIT if it is generating profit from a business. However, any passive income sources such as stocks, bonds, mutual funds, etc. are not subject to UBIT.
Additional Solo 401k LLC Rules
- You are the owner of the Solo 401k plan, but not owner of the LLC. The LLC is wholly owned by the 401k and is thus a single member LLC.
- Your 401k can own 100% of the LLC, but it is important to understand this distinction between you as the owner of the LLC and your 401k owning the LLC.
- Your 401k becomes a member of an LLC through purchase of the LLC’s units.
- It is important that the LLC be newly formed and issuing units for the first time. If this is not the case, you may run into issues with prohibited transaction rules.
- Your LLC investments must retain the LLC name, not the name of yourself or the 401k.
- Your LLC account must remain entirely separate of any personal accounts.
New Mexico's LLC
Regardless of whether you have a QRP, New Mexico offers many unique benefits and advantages. We would be more than happy to assist you with forming an LLC. Just reach out and let us know if you have any questions.