THE BIG PICTURE
STRATEGIES: TAX ADVANTAGES
Should You Go Solo?
IF YOU’RE A SELF-EMPLOYED REAL ESTATE INVESTOR, YOU OWE IT TO YOURSELF—AND YOUR POCKETBOOK AT TAX TIME—TO CONSIDER A SOLO 401(K).
by Tyler Carter
s we move toward tax time, many real estate investors are reeling from the amount of money they owe Uncle Sam. I’m surprised they don’t spend more time doing something about it. I deal with real estate investors on a daily basis, and I’m always impressed with their creativity, in- dependence and persistence. It has become obvious that the most successful investors leave no stone unturned. They are interest- ed in leveraging every available resource to boost their returns. But many overlook the benefits of a Solo 401(k). By now, the word is out. Most investors know they can use a self-directed IRA to buy and sell real estate. They can make private loans and other sorts of alternative investments with all the tax advantages afforded by IRAs. However, while I think it’s great that self-directed IRAs have gone mainstream, many people would benefit from using a 401(k) instead of an IRA. Let me be clear, if you’re not self-employed, a self-directed IRA is probably your best option for owning tax-advantaged real estate. However, if like many investors you’re self-employed, you owe it to yourself to become familiar with this special type of 401(k). The type of account we’re covering goes by many names. You may hear them called Solo 401(k)s, Individual 401(k) or Uni 401(k)s. The key takeaway is that they’re all the same thing. Let’s compare the SEP IRA, a common type of retirement plan used by many self-employed investors, to the 401(k) A
plan. The maximum annual contribution to a SEP IRA for 2017 is 25 percent of your compensation or $54,000, whichev- er is less. Therefore, to max out the SEP IRA each year, you would be required to make $216,000. The SEP IRA is attractive to self-employed individuals because it functions much like a traditional IRA, but instead of being able to contribute only $5,500 (or $6,500 if you’re over 50) you can sock away up to $54,000 that will grow tax-deferred. The 401(k) plan allows for two con- tribution components. You’re able to contribute up to $18,000 of your salary each year, or up to $24,000 if you’re over 50. Your company is also able to contrib- ute to your plan up to 25 percent of your contribution, capping your total possible contribution at $54,000, or $60,000 if you’re over 50. To max out your 401(k), you would need to make $144,000 com- pared to $216,000 in the SEP IRA. The win here goes to the 401(k). One hot topic of debate in the self-di- rected retirement world is tax-deferred growth versus tax-free growth. In the SEP IRA, your money grows tax-deferred. In the 401(k), your company’s contribution grows tax-deferred, but your personal contribution can be made on a Roth-like basis. This means that the 401(k) allows the participant to invest three times as much money on a tax-free basis as a Roth IRA. This is extremely beneficial, as the 401(k) also allows for in-plan conversions, some-
thing you won’t find with the SEP IRA. If the ability to contribute more with a lower income and the opportunity for a good portion of the account to grow tax-free aren’t compelling enough, then consider the next advantage. Many people who work for large corporations partici- pate in large 401(k) plans, and one signifi- cant benefit is that they’re often eligible to borrow from their 401(k) plan. The rules stipulate that you can borrow up to half of your balance or $50,000, whichever is less. This comes in handy, particularly when you’re a real estate investor. The Solo 401(k) plan allows for loans for any purpose. The SEP IRA doesn’t allow for
42 | think realty magazine march :: april 2017
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