Question: Trevor in Deer Park: I have a side business but also work for an employer during the week. Can I save money I make with my side business in my work 401(k)?
A: You should really keep those ‘buckets’ of savings separate. And there’s actually an easy way to do this, assuming your side business is comprised of just you: Use a ‘Solo 401(k).’
A Solo 401(k) is basically just as it sounds. It’s a 401(k) plan specifically designed for self-employed folks who don’t have any employees (the IRS calls it a one-participant 401(k)). With this type of plan, you play the role of both the employer and the employee, so your contribution limits are higher than a standard 401(k): In 2021, you can contribute up to $58,000, or, if you’re age 50 or older, you can contribute up to $64,500.
However, there are some tricky rules around earned income and compensation when you contribute as the ‘employer,’ so we highly recommend consulting with a tax professional or a fiduciary financial advisor if you decide to open one. Most brokerage companies and mutual funds companies offer Solo 401(k)s, but fees vary. You’ll also need a federal tax ID number (if you don’t have one, apply for free via irs.gov).
And here’s something else someone in your situation needs to keep in mind: Contribution limits for any type of 401(k) plan are per person (not per plan). This means that if you’re saving in your work 401(k) and in a Solo 401(k), the most you can contribute as an ‘employee’ this year is $19,500 combined (or, $26,000 if you’re 50 or older). So, for example, if you’re 48 and save $10,000 in your work 401(k), you can only save up to $9,500 in your Solo 401(k).
The Allworth Advice is that a Solo 401(k) is a great way for anyone with a side gig to set aside some of that income for retirement. If you’re looking for tax-free growth, a Roth Solo 401(k)s is also an option. Just be sure you’re carefully following the contribution rules no matter which you choose.
Q: Diane from Edgewood: Is now a good time to do a Roth conversion?
A: First, let’s make sure we’re on the same page about the basics of a Roth conversion: When you make this money move, you’re transferring money from a traditional IRA account (that’s not been taxed yet) into a Roth IRA account that will grow tax free moving forward, that will have tax-free distributions if certain conditions are met, and will not be subject to Required Minimum Distributions.
However, you’ll owe ordinary income taxes on the amount in the year you convert, so that brings us to our first question for you: Will you be able to pay this tax bill? If you don’t have the funds – or you would have to pull from the money you’re converting – it’s probably not the best time.
Second, what does your tax bracket situation look like? If you think you’ll be paying higher taxes in the future, then taking advantage of the historically low tax rates right now makes sense. If the opposite is true, you may want to reconsider. And third, what’s the state of your estate plan? Roth conversions can be especially useful if you would like to pass on tax-free money to heirs.
Here’s The Allworth Advice: Having access to tax-free funds can give you much more flexibility in retirement, so, the answer to your question is ‘yes;’ generally speaking, because tax rates are at historic lows, it’s an opportune time to do a Roth conversion. But, at the end of the day, whether you should actually proceed depends on your personal circumstance.
Every week, Allworth Financial’s Amy Wagner and Steve Sprovach answer your questions. If you, a friend, or someone in your family has a money issue or problem, feel free to send those questions to firstname.lastname@example.org.
Responses are for informational purposes only, and individuals should consider whether any general recommendation in these responses is suitable for their particular circumstances based on investment objectives, financial situation and needs. To the extent that a reader has any questions regarding the applicability of any specific issue discussed above to his/her individual situation, he/she is encouraged to consult with the professional adviser of his/her choosing, including a tax adviser and/or attorney. Retirement planning services offered through Allworth Financial, an SEC Registered Investment Advisor. Securities offered through AW Securities, a Registered Broker/Dealer, member FINRA/SIPC. Call 513-469-7500 or visit allworthfinancial.com.