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Defined Benefit Plan for Sole Proprietor

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  • Avatar Firefly 
    Participant
    Status: Physician
    Posts: 41
    Joined: 07/31/2018

    Hi everyone, I am 2 years out of training and plan to practice at most another 5 years.  We are following every piece of WCI advice to establish FI.  Despite making every single mistake as a resident that WCI advises against during 10 YEARS of training, we have turned the tide significantly and are looking for ways to put large fraction of my salary away in a tax deferred account during the short remainder of my career, thus we are looking into a solo DBP.  We started out -325K in debt and after 2 years of practice, we are now approaching a net worth of 480K, and at the end of next year we expect to have about 950K in tax advantaged and taxable accounts with no debt. (No mortgage, we don’t own a house, not important to us right now.  We actually lived in our camper the first 1.5 years after fellowship.)  I finished training late, graduated at 48, then promptly realized that I did not want to work until I was 80.  I like but do not love my work, and I plan to cut back at the start of 2020 and be free to not work around age 55 with the strategy below, and I welcome anyone poking holes and other wisdom:

    Right now : Age 50, salaried W2 income 830K going up to about 920K this year (I know. Surgical subspecialist with a lot of paid admin responsibilities.) We save >80% take home and by the end of 2019, we will have about 950 K in 403, 457 non governmental, backdoor Roth, HSA, and taxable accounts.

    2020: Stop or reduce W2 position and take on locums work, easily can make 300-400K a year part time with 1099 income, can dial this up or down. Can keep W2 for benefits with a few calls a month then do locums call another several days a month.  This is not a tiring as it sounds. Less work than I do now.

    Establish DPB for 5 years and put away $150K-200K/year and contribute maximum to solo 401K, up to 61K depending upon income and how I use 24,500 allotment.

    If I keep a part time W2 position, I can still max out 403B from W2 income, and will use 24,500 contribution to max employer match. Also will max the HSA.  Probably will lose 457 due to salary reduction (non governmental), but this is least valuable account IMO.

    Can always ditch the W2 position and keep only 1099 income. I do not see any problem with maintaining > 300K locums income.

    Then retire : ) Will roll over DBP into IRA.  Probably will work part time to cover living expenses and maintain a positive savings rate and let investments grow.

    We are obviously getting killed on taxes with our income and don’t need much for our simple and happy lifestyle, so a DBP seems like a good way to put away tax deferred money and let it grow over the few high earning years I have. We wont need this money for a decade or more.

    Questions:

    DBP seems designed for our situation, do you see any gaps in my thinking?

    I don’t totally have my head wrapped around the nuances of the max potential for tax deferred W2 + 1099 income, but I think the above is correct. Meaning I can still max 403b and solo 401K and DBP and backdoor Roth. I also don’t see a pro rata problem for backdoor Roth.

    Anyone recommend from experience where to open a solo DBP? I know Schwab offers this, and today, Vanguard told me they do offer this service under their Retirement Investment Program (known as their RIP for small businesses, no kidding).

    Thank you for any insights you have. After discovering WCI, I am a radical convert from spend thrifty ways and financial ignorance, and can’t thank WCI and the posters in this site enough for the collective wisdom.  I have been a long time nearly daily reader, and this is my first post.

     

    #140713 Reply
    Avatar docnews 
    Participant
    Status: Physician
    Posts: 412
    Joined: 01/09/2016

    You are the perfect candidate for a DBP. Super high income with goal of FI super quick. Most docs don’t have enough to max out i401k/bdRoth/HSA and then have it make sense to pay the fees for a DBP. If you going to have a long career with high savings you could foresee a situation where your tax amount is higher in retirement if you use a DBP, but this rare problem only needs mentioning on a forum like this.

    #140737 Reply
    Kon Litovsky Kon Litovsky 
    Participant
    Status: Financial Advisor
    Posts: 947
    Joined: 01/09/2016

    Hi everyone, I am 2 years out of training and plan to practice at most another 5 years.  We are following every piece of WCI advice to establish FI.  Despite making every single mistake as a resident that WCI advises against during 10 YEARS of training, we have turned the tide significantly and are looking for ways to put large fraction of my salary away in a tax deferred account during the short remainder of my career, thus we are looking into a solo DBP.  We started out -325K in debt and after 2 years of practice, we are now approaching a net worth of 480K, and at the end of next year we expect to have about 950K in tax advantaged and taxable accounts with no debt. (No mortgage, we don’t own a house, not important to us right now.  We actually lived in our camper the first 1.5 years after fellowship.)  I finished training late, graduated at 48, then promptly realized that I did not want to work until I was 80.  I like but do not love my work, and I plan to cut back at the start of 2020 and be free to not work around age 55 with the strategy below, and I welcome anyone poking holes and other wisdom:

    Right now : Age 50, salaried W2 income 830K going up to about 920K this year (I know. Surgical subspecialist with a lot of paid admin responsibilities.) We save >80% take home and by the end of 2019, we will have about 950 K in 403, 457 non governmental, backdoor Roth, HSA, and taxable accounts.

    2020: Stop or reduce W2 position and take on locums work, easily can make 300-400K a year part time with 1099 income, can dial this up or down. Can keep W2 for benefits with a few calls a month then do locums call another several days a month.  This is not a tiring as it sounds. Less work than I do now.

    Establish DPB for 5 years and put away $150K-200K/year and contribute maximum to solo 401K, up to 61K depending upon income and how I use 24,500 allotment.

    If I keep a part time W2 position, I can still max out 403B from W2 income, and will use 24,500 contribution to max employer match. Also will max the HSA.  Probably will lose 457 due to salary reduction (non governmental), but this is least valuable account IMO.

    Can always ditch the W2 position and keep only 1099 income. I do not see any problem with maintaining > 300K locums income.

    Then retire : ) Will roll over DBP into IRA.  Probably will work part time to cover living expenses and maintain a positive savings rate and let investments grow.

    We are obviously getting killed on taxes with our income and don’t need much for our simple and happy lifestyle, so a DBP seems like a good way to put away tax deferred money and let it grow over the few high earning years I have. We wont need this money for a decade or more.

    Questions:

    DBP seems designed for our situation, do you see any gaps in my thinking?

    I don’t totally have my head wrapped around the nuances of the max potential for tax deferred W2 + 1099 income, but I think the above is correct. Meaning I can still max 403b and solo 401K and DBP and backdoor Roth. I also don’t see a pro rata problem for backdoor Roth.

    Anyone recommend from experience where to open a solo DBP? I know Schwab offers this, and today, Vanguard told me they do offer this service under their Retirement Investment Program (known as their RIP for small businesses, no kidding).

    Thank you for any insights you have. After discovering WCI, I am a radical convert from spend thrifty ways and financial ignorance, and can’t thank WCI and the posters in this site enough for the collective wisdom.  I have been a long time nearly daily reader, and this is my first post.

     

    Click to expand…

    As a 50 year old, you can put away about $150k into a CB plan, and about $41k into the 401k plan.  You can only do 6% PS into a 401k plan with a CB in place, but that’s fine since your total contribution would be about $193k, and that would increase each year.  So if you are making salary deferrals elsewhere (such as 403b) you would need to coordinate your contribution if you open your own solo 401k.  It is definitely worth it depending on the numbers, and 5 years is probably the minimum that I would run a DB plan for.  With $300k in 1099 you can certainly max out your CB plan contribution.

    Also, with your own plan you can hire your spouse and put away even more this way. Vanguard does not do CB plans, not sure who told you that.  And it is VRIP, this is their trust account for such plans (that I don’t use anymore because of the administrative issues Vanguard has had in the past).  I don’t use Schwab, instead I prefer using an independent actuary/TPA who can help make sure that your plan is designed with your specific needs in mind (something Schwab would not do, that’s for sure).  Also, I prefer a certain type of investment management strategy for a combo plan because your CB plan can potentially be terminated at any time, so you have to be very careful in managing CB plan assets.

    Kon Litovsky, Principal, Litovsky Asset Management | [email protected]
    -401k and Cash Balance plans for solo and group practices, fixed/flat fee, no AUM fees

    #140753 Reply
    Avatar Firefly 
    Participant
    Status: Physician
    Posts: 41
    Joined: 07/31/2018

    Thanks for the replies.  docnews, planning to not have SO much socked away that we have the tax arbitrage problem : D and I anticipate a low-ish tax bracket when we start withdrawals.  Quite thankful for this potential first world problem, however.

    Kon, thanks for the numbers, I’ll be 52 when we roll out the job transition and DBP, so would be a little higher then? Anywhere $150-200K would set us on track to reach our target.  I would adjust my W2 and 1099 income to maximize contributions and minimize our tax bracket.  We need maybe 100K to live on and anything else would go into taxable.  I like your idea of hiring my spouse, and was seems we can do this as a sole proprietor rather than incorporating?

     

    I would prefer Vanguard investments.  What strategy would you recommend? Also after a lot of reading, its still not clear to me when a combo 401K/CB is favored over a CB and independent 401k.  I am a DIY and comfortable with determining our asset allocation and location, but always welcome hearing how others cut the cake.

     

    Thanks again.

    #140777 Reply
    Liked by docnews
    Kon Litovsky Kon Litovsky 
    Participant
    Status: Financial Advisor
    Posts: 947
    Joined: 01/09/2016

    Thanks for the replies.  docnews, planning to not have SO much socked away that we have the tax arbitrage problem : D and I anticipate a low-ish tax bracket when we start withdrawals.  Quite thankful for this potential first world problem, however.

    Kon, thanks for the numbers, I’ll be 52 when we roll out the job transition and DBP, so would be a little higher then? Anywhere $150-200K would set us on track to reach our target.  I would adjust my W2 and 1099 income to maximize contributions and minimize our tax bracket.  We need maybe 100K to live on and anything else would go into taxable.  I like your idea of hiring my spouse, and was seems we can do this as a sole proprietor rather than incorporating?

     

    I would prefer Vanguard investments.  What strategy would you recommend? Also after a lot of reading, its still not clear to me when a combo 401K/CB is favored over a CB and independent 401k.  I am a DIY and comfortable with determining our asset allocation and location, but always welcome hearing how others cut the cake.

     

    Thanks again.

    Click to expand…

    Yes, you can do it without incorporating. Of course Vanguard investments in all of them, that’s not an issue, a record-keeper allows you to select admiral shares without meeting breakpoints, so you can start with admiral shares immediately from the first $1. I also prefer access to all available funds (such as DFA, and potentially any competitors to Vanguard that offer low cost index funds down the line). You can’t have independent CB and 401k, once you have a CB plan, the 401k has to work with the CB plan.  Thus you can’t have a ‘solo’ 401k together with a CB plan, you need a coordinated plan document for each one, and you would want to anyway because that allows you a lot more flexibility (such as doing in-plan Roth conversions among other things, if/when necessary).

     

     

    Kon Litovsky, Principal, Litovsky Asset Management | [email protected]
    -401k and Cash Balance plans for solo and group practices, fixed/flat fee, no AUM fees

    #140788 Reply
    Avatar Traveldoc 
    Participant
    Status: Physician
    Posts: 22
    Joined: 02/06/2016

    I was in your situation, graduating late and having quite some catching-up to do. I started my DBP in 2010. It was not easy to get much info about it at the time, Schwab had just started offering it I think but I found that out after I started the process with the help of my accountant and an actuary.  In the end I think my fees were not dissimilar to Schwab’s but I liked access to my actuary, as Kon also pointed out.
    I had W2 and consulting income, my  W2 came with a 2% match so I just put enough in to get the match. The rest went in to my solo-401k as calculated by my actuary.  Indeed my DBP contribution went up annually. I never filled up my 401, the allowed contribution always came out less. I did use that space though to do a mega back-door Roth.

    Vanguard doesn’t do a DBP like Schwab as Kon said, but I used Vanguard for the (DBP and 401k) accounts and my actuary did the plan documents.  I had to teach Vanguard staff about a DBP when I started. Even a ML advisor with whom we briefly worked (costly mistake) had no clue what a DBP was and they didn’t offer one at the time.

    I just stopped my W2 job this month and went part-time: Pure bliss! I closed my DBP with 7 figures in it, final year 2017. We are FI and I continue to work as independent contractor and am now considering whether to do Roth conversions or continue to contribute to my solo401k for the next years until I completely stop. The former may be smarter. We anticipate a high(er) tax bracket at 70 so we will likely get hit hard then. We still have an annual income that is very comfortable but leaves room to fill up the 24% bracket.

    #140816 Reply
    Liked by docnews

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