What is Self-Directed 401(k)?
A self-directed 401(k) is a private pension plan sponsored by your business. Hence this account type is also known as a self-employed 401(k). It is a qualified retirement plan approved by the IRS. It follows the same rules and requirements as any other 401(k) plan. These rules were initially established in 1981. In 2001 the EGTRRA law was passed. This is commonly referred to as one of the two “Bush Tax Cuts.” This act made significant changes to the IRS code lowering taxes for qualified plans such as a personal 401(k) plan.
Like a self-directed IRA, a self-directed 401(k) also enables you to direct your retirement savings into a host of investment avenues, such as real estate, ppm’s (private placements) money lending, precious metals etc.
With this plan, you have complete flexibility to invest in anything you wish – as long as it is legal. You simply have to write a check and make the investments – they are not confined or stifled as most people are with their traditional brokerage retirement accounts.
Self-directed 401(k)s are perfect for self-employed consultants, contractors, sole proprietors etc.
Self-Directed 401(k) Eligibility Criteria
To open a self-directed 401(k), you must have some self-employed taxable compensation during the current financial year.
- You, and not an employer, are responsible for your income. Small business owners without employees (though spouses can contribute if they work for the business), Sole proprietors, freelancers, and independent contractors, normally meets this requirement.
- You must have earned income that is verified through tax records.
Start investing in Self-Directed 401(k) today!
How Does Self-Directed 401(k) Work?
There are two types of Self-Directed 401(k) i.e self-directed 401(k)s with limited control and then there are true checkbook controlled self-directed 401(k) plans. Certain financial institutions will assist you to open a new self-directed 401(k) plan. But beware – you will only be allowed to invest in products they represent.
If you have a checkbook controlled self-directed 401(k) (the one we establish), the whole alternative investment world awaits. You can certainly invest in “normal” investment vehicles such as stocks, bonds and mutual funds. But you can also invest in alternative assets, including real estate, private placements, or small business. You have the freedom to direct your money how you see fit. This is a step-wise representation of how self-directed 401(k) works:
If you have no current entity in the form of an LLC, sole proprietorship, or a C-Corp, SD Retirement Plans can help create the appropriate entity in the state of your choice.
We will prepare the plan documents and file them with the IRS.
You can roll over your IRA or 401(k) to a self-directed 402(k) or simply contribute a standard IRA/401K contribution.
You can make investments in alternative assets, which include real estate, small business, or private placements.
How to Setup Self-Directed 401(k)
You can fund your self-directed 401(k) in 3 ways: transfers, personal deferrals (contributions), and profit-sharing are the primary funding sources.
an individual can transfer previous 401(k) funds, SEP IRA funds, SIMPLE IRA funds, and Traditional IRA funds – in fact, any previous “qualified” funds. Roth IRA funds cannot be transf`erred.
personal deferrals are determined by age. If a client is under 50, they can have a personal deferral of 100% of their self-employed income up to $19,500 for 2020 and 2021($19,000 for 2019). For catch-up contributions, which are available to anyone over the age of 50, the limit is an additional $6,500 ($6,000 for 2019), bringing the total contribution limit to $26,000 (up from $25,000 in 2019).
the self-directed 401(k) plans we establish are also PSPs or profit-sharing plans. The IRS publication 560 establishes the amount of profit-sharing allowed and includes a step-by-step worksheet. In general terms, the profit-sharing can be up to 25% of the sponsoring entities’ profit.
A self-directed 401(k) empowers a plan participant to invest in a diverse range of investment options such as Real Estate – residential or commercial – rentals, foreclosures raw land, Tax Liens, Precious Metals, Private Placements, Foreign Currency, Hard Money Lending, etc.
Need help in setting up you Self-Directed 401(k)?
Self-directed 401(k) plans allow account holders to decide how and where they can invest their pre-tax retirement contributions. With a self-direct 401(k) plan, you are not limited to the pre-approved funds generally offered by traditional 401(k) plans; rather, you get to choose exactly where you want to invest your money. Some of the permissible alternative self-directed 401(K) investments options are but not limited to: