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Individual 401k questions

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  • Avatar steffmo 
    Participant
    Status: Spouse
    Posts: 10
    Joined: 04/02/2016
    medical school scholarship sponsor

    I’m a spouse of a physician and I have about $75K in a rollover IRA.  I want to make backdoor Roth IRA contributions but I need to get rid of this Rollover IRA.  I’m a stay at home mom, so no income.  I’m not too excited about converting it over to a Roth and paying taxes right now because we’re in such a high tax bracket.

    I’m wondering about opening an Individual 401k.  I’ve read on WCI that you need very little business income in order to do this.  But my question is what happens in future years if you no longer make any business income?  For example, could I make $10 in income doing some online surveys in 2018, open my individual 401k, rollover my IRA into the individual 401k, then just let the balance ride in the individual 401K for the next 30 years or whatever without making any additional business income in 2019 and beyond?  Do I have to close the Individual 401k after I have a year or two of no business income?

    Also what kind of proof of income do I need, in case of audit?  In my experience, online surveys don’t really send out any kind of statement showing your income.  Instead of online surveys, could I sell a bunch of used baby clothes and make “business income” that way?

    Or should I just suck it up and pay the taxes to convert it all to Roth right now?

    Hopefully my questions makes sense.  Thanks!

    #98599 Reply
    Avatar spiritrider 
    Participant
    Status: Small Business Owner
    Posts: 1750
    Joined: 02/01/2016

    I differ significantly with WCI on this issue.

    IRS 401k regulations are very clear on this. In order to be considered a “self-employed individual” eligible to adopt/operate a one-participant 401k, you must be engaged in a trade or business and have earned income in the current or any prior year except for the fact the business did not have net profits.

    In my opinion $10 in survey income is not engaged in a trade or business and is only reportable as “other” income on Form 1040 line 21. Earned income from self-employment is business profit – 1/2 SE tax. So $500 is a much better minimum. That will require filing Schdules C and SE. This tax record is especially important if you are going to go many years without business profits.

    The IRS clearly anticipates from these regulations that many sole proprietorships may have intermittent business profits. Thus there is also no requirement to make contributions in any given year. There are the IRS hobby loss rules that generally require you to have a profit in a rolling three of five years. This only applies to the claiming of deductions/losses. So don’t do that.

    In other tax areas the IRS has held that a sole proprietorship generally exists as long as the sole proprietor or their inheriting spouse do not take active steps to terminate the business. Once that happens the one-participant 401k must be terminated within one year unless the plan is amended to a new business.

    I know of several one-participant 401k plans that have been in existence for 10 – 15 years with only 2 – 3 years of business profit/contributions. While I have never heard of the IRS terminating a sole proprietorship one-participant 401k for inactivity, I personally wouldn’t push the inactivity to 30 years.

    If you can find a way to generate $500 in SE income the first time, you should be able to do it once every several years.

    #98646 Reply
    Liked by Dr. Mom, jz, jfoxcpacfp
    Avatar steffmo 
    Participant
    Status: Spouse
    Posts: 10
    Joined: 04/02/2016

    Thanks for your viewpoint.  You bring up a lot of good points that I hadn’t considered.  This is why I asked the question!  It really sounds like I would be better off converting to a Roth slowly over a few years or waiting until my husband goes part time (maybe in 10 years if we can keep our savings rate up  😀  )

    Thanks again for taking the time to respond!

    #99030 Reply
    Avatar spiritrider 
    Participant
    Status: Small Business Owner
    Posts: 1750
    Joined: 02/01/2016

    I didn’t mean to discourage you. You have a substantial amount in pre-tax assets.

    You really should try to find a way to generate some self-employment income.

    If you have $75K in a rollover IRA, you must have some talents to generate the income necessary to make those contributions.

    #99065 Reply
    Liked by Dr. Mom
    dfw_pilot dfw_pilot 
    Participant
    Status: Other Professional
    Posts: 19
    Joined: 07/07/2017

    See what PoF said about this today.

    A clear conscience is a great pillow.

    #159325 Reply
    Liked by steffmo
    Avatar steffmo 
    Participant
    Status: Spouse
    Posts: 10
    Joined: 04/02/2016

    Thanks! That’s a great article. I’ve been doing just that – contributing to taxable instead of going through the trouble of removing roadblocks to contribute via backdoor Roth.

    #159870 Reply

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