The Most Elusive & Dangerous Self-Directed Solo 401k Practice – Part 2

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[Originally Published at JeffNabers.com]

In the last post, you learned about how doing an active “entrepreneurship-ish” deal inside your Solo 401(k) is an open invitation for the IRS to tax the hell out of you.

In this post, you’ll learn the solution.

  • The solution is not to avoid doing active deals.
  • The solution is not to stop pursuing massive profits or to lock away your talents and skill to be unused.

The solution is to structure both your active entrepreneurship and your passive investment activity in a way that that puts you in the most control. Put another way, avoid giving the IRS an open invitation to tax attack you.

I bet you can guess where this is going (one commenter had a pretty good idea on Part 1 of the post)…

Active Deal Structure

Run your active entrepreneurship activity (a.k.a. “business activity”) in your… (wait for it)… business! Your business can be a Sole Proprietorship or it can be more formally structured as an LLC or Corporation.

If your entrepreneurship needs a financial kickstart, borrow up to $50,000 (or $100,000 between you and your spouse) in the form of a “participant loan” from your pre-existing retirement funds. Do your business activity, generate massive profits, and contribute up to $54,500 (or $109,000 between you and your spouse) tax-deductible each and every year. That adds up quickly.

Passive Deal Structure

Run your passive investments through your Self-Directed Solo 401k (a.k.a. your investment account).

My God, that sounds too simple to be effective, you may think. Hey now, don’t fall into the “scheming pit.”

Over 95% of the Self-Directed Solo 401(k) conversations I see online are all about some sneaky structure to reign triumphant over the IRS, like a clever fox. Sounds like a good bubble to burst, so I don’t mind if I do…

The IRS doesn’t like being tricked. They can even be mean from time to time. I can’t help but to wonder how much profit would have been made if the millions of hours of sneaky scheming were to be replaced with taking action on making good investments with a non-risky tax approach.

Side Benefits

There are side benefits to this sound approach too. Many Self-Directed Solo 401(k) investors are doing active real estate deals inside their retirement plan. That introduces further limitations, especially with debt financing, such as:

  • Lower LTV (loan-to-value ratio) loan limits
  • Less lenders and loans available in the marketplace
  • Higher down payment (more cash investment required, which lowers cash-on-cash return)

Don’t get me wrong. Many healthy, profitable real estate deals are done inside retirement plans and with debt financing. But, not all real estate deals should be done either inside or outside of a retirement plan. It depends on the circumstances. If it’s truly a passive investment, go for it inside your plan. If it’s truly an active deal, go for it outside of your plan. If you want to pay cash or make a large down payment, that sounds fitting for inside your plan. If you want to invest as little cash as possible, that sounds fitting for outside your plan. So, I hope this helps you get your mental strategery in order. Like many lessons in life, the real progress is made in unlearning myths, deceptions, and bad information. I mean, it isn’t exactly earth shattering to stand up and say “Business activity goes in a business, and investment activity goes in an investment plan,” is it? Yet, after thousands of hours in the Self-Directed Solo 401(k) industry, it may make a big impact. ——

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