One of the key components of our financial independence project is saving as much as we can in pre-tax accounts. In previous years this meant trying to put away as much as we could in 403(b) 457, and IRA accounts. Last year my wife left her full time job to work for herself and opened a small business. She also has been making significant money working as an independent contractor since some clients insist on not going through our business and paying her directly. I also started working to make some money on this side which has led to a bit more complexity in how we save our money. We now have income coming in from one full-time wage job (mine), part time employment with a university (my wife), business income through our S-Corp, and money directly paid to us as independent contractors. To maximize our ability to save more pre-tax money, I have been working for the past two weeks to open individual 401(k) accounts for both of us. Because I contribute the maximum amount to my 403(b) (on the employee side) and IRA, I needed a new vehicle that would allow me to save additional money from the “employer” side of all of my additional income. My wife also needed something more than an IRA since she is now working for herself. For us, it is critical to keep our AGI as low as possible when it comes to federal taxes. We are right on the edge of being able to take advantage of things such as the child tax credit ($2,000 this year), deductions for traditional IRAs, and tuition deductions (for my wife’s Ph.D). The magic number for us would be to keep our AGI at or below $98,000 a year. In previous years this was not too hard since we made less money, but now with a business and side income we want to put as much away as possible to avoid losing some very nice perks.
In the past when I opened IRA accounts it has been a simple process that required maybe 10 minutes from start to finish. This time the process was a bit more complicated and took several weeks to get everything done because of how we wanted to use the accounts. These are the steps we took to get our plans in place:
- We had to obtain an EIN number for the plan itself since we are including all of our self-employment income in the plan and we are not using our S-corp business. We may add a retirement plan to our S-corp sometime in the future when the level of income coming directly to the business increases. Even if and when we do that we still expect to have self-employment income too, and will maintain these individual plans.
- We did a lot of research on how we wanted to structure the plan and settled on classifying the independent contracting work we do as a “qualified joint venture”. This allows us to split the income we receive evenly between the two of us without needing to add the complexities of forming a partnership or another entity like an LLC. If you plan to do this make sure you meet all the qualifications from the IRS. One of the key ones is that we both materially participate in the business.
- After doing some research on where to open our solo 401k we settled on Fidelity. They provide the options we need when it comes time for rollovers and had very minimal costs. The paperwork took a little bit of time and a few calls since some of the questions in their application are a little unclear when you are starting your plan as a qualified joint venture rather than an individual or formal business entity.
- Now that all the paperwork has been completed it is simply a matter of trying to maximize what we can contribute this year to these accounts to increase our savings and minimize our taxable income. My contributions will be limited to about 20% of the amount of money we take in due to my work-based contributions, but my wife will be able to contribute a total of $18,000 on the employee side and approximately 20% on the employer side.
So while it took a little while to get this setup (mostly due to research) we should be all set and ready to go. I will continue to update our progress each month including how we are utilizing all of our “retirement” accounts.