Tax Time IRA & Solo 401(k) Contribution Tips

taxes paperworkBuilding your retirement savings with your self-directed IRA or Solo 401(k) is not just about how you invest.  Making new contributions to your retirement plan is a key to creating long term wealth with these tax-sheltered vehicles.

As we approach the April tax filing deadline, it is important to consider the concept of plan contributions.  In addition to some basics on standard contributions, we also wanted to point out a few special tips that may be suitable for some investors.

Contribution Deadlines

calendar for deadlinesFor Traditional IRA and Roth IRA plans, the contribution deadline is April 15th or the first Monday following if the 15th falls on a weekend.  be sure to plan ahead, as you need to get the funds and appropriate deposit form to your self-directed IRA custodian with time for them to process the transaction ahead of this date.

For SEP and SIMPLE IRA plans, you have until the tax filing date of the business that sponsors the plan to make contributions, which would be September 15th  for pass through entities and October 15th for corporations.

Solo 401(k) plans can accept employer profit sharing contributions until the tax filing date of the sponsoring employer, including extensions (same Sept/Oct dates as above).  Employee contributions in a pass-through entity can also be made until the tax filing date.  If you operate a S-Corporation or C-Corporation and receive your compensation as W-2 wages, then employee deferrals would have needed to be completed by the last payroll of the year – so December 31st or a few days into January.

Making IRA Contributions

All IRA contributions must be sent to the IRA custodian.  You may not simply place new funds in the IRA-owned LLC, as that would break the reporting chain.  You can send funds to the custodian via check, wire or ACH.  The deposit should be accompanied by the appropriate Deposit form for the custodian you are working with.  Contact your custodian or your Safeguard consultant if you need specific assistance with the mechanics of making a new contribution.

Once funds have been deposited to the IRA account, you can then have the IRA custodian invest that new capital into the LLC or Trust entity.

Making Solo 401(k) Contributions

Making Solo 401(k) contributions is as simple as sending funds from the bank account of your sponsoring business to the Solo 401(k) participant account.  Be sure to keep a ledger of such plan contributions in your 401(k) records, but there is no plan-specific reporting that needs to be done.  You will report the contributions on your business and/or personal tax return.

Doubling-Up on IRA Contributions

Between January 1st and April 15th, you are eligible to make contributions to an IRA-based plan for both the prior and current tax year.  Some IRA account holders choose to double-up on their contributions and then go through the process of actually making contributions every other year.  This is a nice way to get as much capital into your plan as early as possible – and therefore maximize your ability to compound earnings over time.  This strategy also means you only need to go through the process of actually making the contribution every other year, and will reduce your processing fees with the IRA custodian (just slightly, but less fees is always a good thing).

one hundred dollar bills above an envelope

Back Door Roth IRA Contribution

For those who wish to make a contribution to a Roth IRA, but are over the income limit of eligibility to do so, the Back Door Roth Contribution may be an option.  Please note this is a complex strategy that you should discuss with your licensed tax advisor prior to executing.

This strategy applies to those with a 2021 adjusted gross income (MAGI) over $208,000 if married filing jointly or over $140,000 if a single filer.  In such cases, one would be ineligible to directly make a Roth IRA contribution.  The thresholds increase slightly in 2022 to $214,000 and $144,000, respectively.

In this case where a direct Roth contribution is unavailable, you have the option to contribute to a Traditional IRA.  Contributions to a traditional IRA are always allowed, assuming there is earned income with which to make the contribution.  The contribution would be deductible for a taxpayer with no access to an employer retirement plan such as a 401(k).  For a taxpayer with access to an employer plan, traditional IRA contributions are not deductible if 2021 MAGI is greater than $76,000 for a single filer or $125,000 for those married filing jointly.  Even if over the income limits, however, the contribution can be made, but no tax-deduction is taken.

Once funds are deposited to the traditional IRA on a deductible or non-deductible basis, those funds can then be converted to a Roth IRA.  There will be no tax implications of this conversion.  A deduction for a deductible contribution will just be negated by the Roth conversion, and since no deduction was eligible to be taken on a non-deductible IRA, that money has already been taxed and is not taxed again at the event of Roth conversion.

When pursuing this strategy, however, it is important to understand the rules about pro-rata distributions and step transactions, which may limit your ability to execute such a move.  When converting to Roth, you may not be able to only convert the newly contributed funds if you also have other tax-deferred IRA accounts in existence.  One also needs to be concerned with creating a step-transaction by making a new traditional IRA contribution and then immediately converting that to Roth status.  There is the risk that such back-to-back transactions could be viewed by the IRA as an intentional move to make a disallowed Roth contribution and therefore negated. This could result in a 6% excess contribution tax.

Again, this strategy requires a consultation with your licensed tax advisor.

Additional Resources

IRA contribution limits & deadlines by plan type

Solo 401(k) contribution limits

IRS Information on IRA Contributions Limits

Feed the Pig

Ultimately, the more you set aside into your tax-sheltered retirement plan, the greater the benefits over the long term.  By compounding the tax-deferred or tax-free Roth earnings of your plan over a period of years, you can mushroom your savings, and the more you have on the input side of the equation, the more you can expect to see on the output side in retirement.

This page updated 02-2020 to reflect current tax values and dates.

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