Investing Options

[TQ258]

I just left a job that had a 401K and for the year I have put 6K Pretax into this account. I am now an independent contractor getting paid on a 1099. What are my options to invest money pretax? I don't qualify for a Roth as my income is to high. Also what options do I have with the 401K, can I leave it invested where it is?

[50Sense]

If you're receiving 1099 income, you are probably eligible to contribute to a SEP IRA.

Per the IRS:
The contributions you make to each employee’s SEP-IRA each year cannot exceed the lesser of:

25% of compensation, or
$51,000 (for 2013; $52,000 for 2014 and subject to annual cost-of-living adjustments for later years).


With the 401k that you have, since it's only 6k, I would probably look at rolling it into a SEP or a traditional IRA, but here some factors you may want to consider.

• In the 401k, since you're separated from the employer, you won't be eligible for partial distributions, if you ever need to take funds out it's all or nothing.
• 401ks are protected against creditors under ERISA. A rollover IRA may or may not be, depending on your state.
• You can't make additional contributions into the 401k.
• More investment options in IRAs.

Another strategy that some people do when they make too much to contribute to a regular IRA is to make a non-deductible contribution and then convert it to a Roth.

[TQ258]

Thanks for the response 50sense. I should have been a little more clear. The 401k balance is 200k+ I didn't know if it mattered how much I contributed this year. That's the 6k. It's in an ING account and I get some dividends from the stocks that I hold there. Do I have to do anything special to contribute to a Sep-Ira or can I just open one once I get a check as a consultant?

[autoxer]

If the 401k has low fees and good investment choices, then you can leave it where it is. You can do a backdoor roth ira contribution, but the taxes get complicated if you have money in traditional ira's. The SEP will probably give you the most flexibility.

[TQ258]

No money in any iras. I have been maxing out 401k the last few years. Just the 401k money and my spouse has a 401k. I could also get spouse to increase her 401k for more pretax. So I guess I can do $5500 for each of us to Ira then convert to Roth?

[autoxer]

No money in any iras. I have been maxing out 401k the last few years. Just the 401k money and my spouse has a 401k. I could also get spouse to increase her 401k for more pretax. So I guess I can do $5500 for each of us to Ira then convert to Roth?

You might as well get your spouse to increase her 401k to the max, because you are in one of the higher tax brackets. Your IRA contribution won't be deductible from your income tax, but you can immediately recharacterize it to a Roth.

[50Sense]

If the 401k has low fees and good investment choices, then you can leave it where it is. You can do a backdoor roth ira contribution, but the taxes get complicated if you have money in traditional ira's. The SEP will probably give you the most flexibility.

What he said!

Do I have to do anything special to contribute to a Sep-Ira or can I just open one once I get a check as a consultant?

As long as you have self employed income, you can open one up and contribute..banks offer them (as money markets or cds) or through a brokerage (if you want the funds to be invested). The major brokerage firms will let you set them up and manage them online like any other ira account.

With the Roth recharacterization strategy, I'll defer to someone else who has more tax knowledge, and can maybe go over the pros and cons of going that route -- hopefully we get more replies. I know that you can max out contributions to both a sep and a traditional, but when you try to do a sep and recharacterized roth your taxes can get REAL tricky.


You brought up a great point with having your wife max out her 401k. If you're close to the income limit on the traditional, you want to look at other ways to reduce your income - business income can be offset by certain expenses and you might qualify for other deductions, but that's another can of worms.

Interesting questions!

[YolandoAmaya]

If the 401k has low fees and good investment choices, then you can leave it where it is. You can do a backdoor roth ira contribution, but the taxes get complicated if you have money in traditional ira's. The SEP will probably give you the most flexibility.

Yes, exactly agreed, you can get the flexibility by SEP once your taxes get completed.

[jIM_Ohio]

If you're receiving 1099 income, you are probably eligible to contribute to a SEP IRA.

Per the IRS:
The contributions you make to each employee’s SEP-IRA each year cannot exceed the lesser of:

25% of compensation, or
$51,000 (for 2013; $52,000 for 2014 and subject to annual cost-of-living adjustments for later years).


With the 401k that you have, since it's only 6k, I would probably look at rolling it into a SEP or a traditional IRA, but here some factors you may want to consider.

• In the 401k, since you're separated from the employer, you won't be eligible for partial distributions, if you ever need to take funds out it's all or nothing.
• 401ks are protected against creditors under ERISA. A rollover IRA may or may not be, depending on your state.
• You can't make additional contributions into the 401k.
• More investment options in IRAs.

Another strategy that some people do when they make too much to contribute to a regular IRA is to make a non-deductible contribution and then convert it to a Roth.

You are getting accurate advice here, I think you need to dive deeper to get best answers.

First, 401k's have hidden fees. IRA fees are much clearer. Even if the ING 401k looks "cheap", I would still roll the 401k over. You would pay less to ING for the IRA than you pay to ING for the 401k. If you use Vanguard or Etrade/TD Ameritrade for the IRA it would likely be cheaper.

Second, the SEP IRA is a great option for 1099/self employment income. The Roth IRA is based on AGI, not gross income, so don't confuse Roth IRA eligibility with gross income. While gross income impacts AGI, they are not the same thing. A good CPA could likely find a way to maximize this.

For example, you could do a solo 401k and a Roth IRA
you might not be able to do a SEP IRA and a Roth IRA
The CPA could help you with numbers (they would need to estimate your AGI. The good news is you could make most of these decisions after Jan 1 (when all income is known). What you should do is research:

1) What are requirements to open a SEP IRA (is there a deadline, are you required to contribute each year, can you match)
2) What are requirements to open a solo 401k (is there a deadline, are you required to contribute each year, can you match).
3) What other options exist?

http://www.irs.gov/Retirement-Plans/Plan-Sponsor/Small-Business-Retirement-Plan-Resources

http://www.irs.gov/Retirement-Plans/Plan-Participant,-Employee/Retirement-Topics--401k-and-Profit-Sharing-Plan-Contribution-Limits

Overall limit on contributions
Total annual contributions (annual additions) to all of your accounts in plans maintained by one employer (and any related employer) are limited. The limit applies to the total of:
elective deferrals

employer matching contributions

employer nonelective contributions

allocations of forfeitures
The annual additions paid to a participant’s account cannot exceed the lesser of:
100% of the participant's compensation or

$51,000 ($56,500 including catch-up contributions) for 2013 ($52,000, or $57,500 including catch-up contributions for 2014)
There are separate, smaller limits for SIMPLE 401(k) plans.

http://www.dol.gov/ebsa/publications/choosing.html

Payroll Deduction IRA
SEP
Simple IRA Plan
Key Advantage
Easy to set up and maintain.
Easy to set up and maintain.
Salary reduction plan with little administrative paperwork.
Employer Eligibility
Any employer with one or more employees.
Any employer with one or more employees.
Any employer with 100 or fewer employees that does not currently maintain another retirement plan.
Employer's Role
Arrange for employees to make payroll deduction contributions. Transmit contributions for employees to IRA. No annual filing requirement for employer.
May use IRS Form 5305-SEP to set up the plan. No annual filing requirement for employer.
May use IRS Forms 5304-SIMPLE or 5305-SIMPLE to set up the plan. No annual filing requirement for employer. Bank or financial institution handles most of the paperwork.
Contributors to the Plan
Employee contributions remitted through payroll deduction.
Employer contributions only.
Employee salary reduction contributions and employer contributions.
Maximum Annual Contribution (per participant)
See www.irs.gov/retirement for annual updates.
$5,000 for 2012 and $5,500 for 2013. Participants age 50 or over can make additional contributions up to $1,000.
Up to 25% of compensation(1) but no more than $50,000 for 2012 and $51,000 for 2013.
Employee:$11,500 in 2012 and $12,000 in 2013. Participants age 50 or over can make additional contributions up to $2,500..
Employer:Either match employee contributions 100% of first 3% of compensation (can be reduced to as low as 1% in any 2 out of 5 yrs.); or contribute 2% of each eligible employee's compensation.(2)
Contributor's Options
Employee can decide how much to contribute at any time.
Employer can decide whether to make contributions year-to-year.
Employee can decide how much to contribute. Employer must make matching contributions or contribute 2% of each employee's compensation.
Minimum Employee Coverage Requirements
There is no requirement. Can be made available to any employee.
Must be offered to all employees who are at least 21 years of age, employed by the employer for 3 of the last 5 years and had compensation of $550 for 2012 and for 2013.
Must be offered to all employees who have earned income of at least $5,000 in any prior 2 years, and are reasonably expected to earn at least $5,000 in the current year.
Withdrawals, Loans and Payments
Withdrawals permitted anytime subject to federal income taxes; early withdrawals subject to an additional tax (special rules apply to Roth IRAs).
Withdrawals permitted anytime subject to federal income taxes, early withdrawals subject to an additional tax.
Withdrawals permitted anytime subject to federal income taxes, early withdrawals subject to an additional tax.
Vesting
Contributions are immediately 100% vested.
Contributions are immediately 100% vested.
Employee salary reduction contributions and employer contributions are immediately 100% vested.