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Withholding 20% Tax on Distribution

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I would like to take a distribution from my Solo 401k plan. How do I withhold and report the taxes to the IRS?

Answer:

As the plan administrator, it is your responsibility to withhold the taxes and report the distribution

You will need to do the following:

1.  Withhold the taxes and remit them using the Electronic Federal Tax Payment System (EFTPS) method

The EFTPS is a free service provided by the US Department of Treasury:

EFTPS: The Electronic Federal Tax Payment System

  • Enroll in the EFTPS system at: www.eftps.gov
  • Sign up and then make all your withholdings in the quarter in which you make a distribution. Taxes must be paid electronically.
  • Enroll as a "business" and use the name and EIN of the 401k
  • For your records, an Electronic Funds Transfer (EFT) Trace Number will be provided with each successful payment. The number can be used as a receipt or to trace the payment.
  • The taxes must be paid by the 15th of the month following the date of the Solo 401k distribution

If you do not withhold the mandatory 20% tax at the time of distribution, you would then pay the taxes with personal funds at the time of tax return.  But again, 20% tax withholding is mandatory.

2.  File Form 945 by January 31st to report and reconcile what you have withheld

Form 945 Instructions

See "Where To File" for information on how to file Form 945 electronically or via paper form. Only one Form 945 should be filed per year.

3.  Report the distribution by issuing Form 1099-R from your plan

The 1099-R is filed in the year following the year in which the distribution was performed (e.g. the 1099-R for 2022 is filed in 2023). There are two deadlines for the 1099-R:

  • The Payee/recipient copy must be received by January 31st
  • The electronic copy must be filed with the IRS by March 31st

You are responsible for the filing of the 1099-R by both deadlines.

Please contact your CPA for assistance in calculating the withholding and the reporting of federal income tax withholdings.

Is my Solo 401k plan covered under ERISA?

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Your 401(k) plan is a Qualified Plan. The DOL regulations provide that a plan that covers only partners or a sole proprietor is not covered under Title I of ERISA. Pursuant to Department of Labor Regulations 2510.3-3(c). However, even though a solo 401(k) plan is not subject to Title 1 of ERISA, the ERISA rules are still looked at as a reference because a solo 401(k) Plan is still a qualified retirement plan. 401(k) generally has greater protection than an IRA.

IRS Reminds Plan Sponsors of Plan Restatement Deadline

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April 30, 2016, is the deadline for employers using pre-approved retirement plan documents to sign an updated version of their 401(k), profit-sharing or other defined contribution retirement plans.

Retirement plan documents must be revised when the law changes. In an updated web page, the Internal Revenue Service (IRS) reminds plan sponsors that document providers who offer pre-approved plans update the plan in its entirety once every six years and request a new opinion/advisory letter from the agency. The IRS generally approves all updated defined contribution plans at the same time. Most opinion/advisory letters for the latest round of pre-approved defined contribution plans were issued on March 31, 2014. Employers have two years, until April 30, 2016, to adopt these updated plans.

After April 30, 2016, if a plan sponsor hasn’t adopted a restated plan, the plan does not comply with the tax laws and may be ineligible for tax benefits.

Providers should have sent plan sponsors a revised plan document, approved by the IRS, which complies with the Pension Protection Act of 2006 (PPA) and other law changes listed on the 2010 Cumulative List of Changes in Retirement Plan Qualification Requirements. Even if plan sponsors made amendments to your plan to reflect these laws as they became effective (interim amendments), they are still required to adopt a PPA plan document.

Most employers don't need to apply for a separate IRS determination letter for a pre-approved plan, and a plan sponsor who adopts a master & prototype plan (standardized or non-standardized) may not apply for its own determination letter. Instead, the plan sponsor should rely on the approval letter issued to the document provider.

Paying the fee to setup the plan from the plan

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Can the fee to set up the plan be counted as a plan expense and be paid for out of the plan?

Answer:

Generally, expenses incurred in connection with the establishment, termination and design of the plan relate to the employer's business activities and should not be paid by the plan. See DOL Advisory Opinion 2001-01A.

For example, if an employer has received a bill for attorney's fees related to a meeting to discuss whether a plan should be implemented and, if so, what type of plan should be established, that bill is a settlor expense and should not be paid by the plan that is established as a result of that meeting. However, once an employer decides to establish or terminate a plan, necessary administrative expenses incurred to implement and maintain the plan, or to complete the termination of the plan, could be paid from plan assets.

The following fees associated with the establishment of a plan are considered settlor fees and should not be paid with plan assets:

  1. Fees for plan design proposals
  2. Legal fees regarding corporate issues relating to the establishment of the plan
  3. Plan document fees

Recharacterization of Roth conversion

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Last December, my accountant grossly miscalculated my tax liability estimate, which led me to believe that a Roth conversion could be made with a manageable tax impact. Later, when she prepared my tax returns in April, I discovered that my tax liability was actually much higher, and that the tax impact of the Roth conversion was too great to make it worthwhile. Can the Roth conversion can be reversed through timely recharacterization within my Solo 401k plan?

Answer:

No.  You cannot undo the Roth conversion.

The "Participant's Election" section of the In-plan Roth Conversion Amendment states that the in-plan Roth conversion is irreversible and cannot be undone or recharacterized in any manner.  To not follow the terms of the plan (as stated in the amendment) would be an operational failure of the plan.

The Internal Revenue Bulletin: 2010-51 published December 20, 2010 (also listed as Notice 2010-84) provides Guidance on In-Plan Roth Rollovers:

https://www.irs.gov/irb/2010-51_IRB/ar11.html

In the Question/Answer section, it states the following:

Q-6. If a participant elects an in-plan Roth rollover, can he or she later unwind the in-plan Roth rollover, as can be done with rollovers to Roth IRAs?

A-6. No. The recharacterization rule in § 408A(d)(6) applies only to contributions to IRAs.

There is no way to reverse the Roth conversion.  You will have to declare that as your taxable income and pay the taxes. Please consult with your CPA for details.

Taking property out of a Solo 401k plan as an in-kind distribution

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My Solo 401k plan owns a real estate property. I would like to pull this property out after retirement as a distribution. Can I do that and what are the specifics?

Answer:

You can distribute the real estate property from the Solo 401k plan. This is known as an in-kind distribution.

An in-kind distribution is still subject to income taxes and early distribution penalties if you are under normal retirement age at the time of the distribution.  The end result is that you now own the real estate personally, outside of the Plan. You can thus use it personally (as residence or rental property, for example) because it is no longer held in the Solo 401k.

IMPORTANT: Before processing an in-kind distribution of real estate from your Solo 401k plan, the property must be appraised in order to ensure income tax and early distribution penalty is paid on the correct value. Not obtaining an appraisal on the property prior to the in-kind distribution may subject you to payment of back taxes if the real estate property was worth more at the time of the distribution.

Converting property in 401k to Roth

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My Solo 401k Trust owns a rental property.  If I determine that it is better to pay the taxes on the value in the 401k now, could I convert the property and other cash in the account into a Roth 401k without selling and liquidating the property?

Answer:

You can convert property and other assets in your 401k into Roth. This will be taxable event so I strongly suggest you discuss this with your CPA.

For a Roth conversion of property, you must use a licensed third party appraisal to determine the accurate value of the property.  The appraisal must be dated as close as possible to the taxable event.

You will then need to complete a Roth Conversion form (located in Miscellaneous Forms). Your 401k will need to issue a 1099-R to you in the year following the conversion, and you will have to declare that as taxable income on your tax return. You are responsible for filing 1099-R on behalf of your plan.

What happens if sponsoring company shuts down

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What are the options for my Solo 401K plan if the company that sponsors the plan shuts down (I am no longer self-employed)?

Answer:

A 401k plan is an employer-sponsored plan, therefore in order to maintain your Qualified Retirement Plan, you must maintain a small business or some sort of self-employment activity in some legitimate form. If you shut down your current entity, but continue another type of self-employment activity and make earnings then we can amend the plan to reflect the change.

If, let's say, you quit all of your self-employment activity and get a full-time job, and that is the only income you have (W2 wages working for someone), then the Qualified Plan must be terminated. You will then have the option of rolling over your account into an IRA.

What is the six-year restatement period?

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In the past the restatement cycles have been somewhat disorganized. The IRS has now created a systematic six-year cycle. Pre-approved plans must be restated every six years to incorporate the interim amendments and any discretionary amendments that have been adopted since the last restatement. At the end of this six-year period, there will be a two- year window in which to update the plan document.

What is a pre-approved plan?

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A pre-approved plan is one that the IRS has reviewed and approved all of the options that are available. The IRS issues an advisory or opinion letter as evidence of the plan's pre-approved status.

All employers who adopt a pre-approved plan covered by the IRS letter are entitled to rely on the approval letter issued at the “global” level without applying for their own, individual determination letter.

Our plan documents include the IRS letter.  It is typically sent as a link in the email which accompanies the plan documents.

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