Profitable traders want to maximize pension contributions in trading activities and also in their full-time jobs. Traders are investment pros and understand the power of tax-free funding while saving for retirement. However, wages are necessary to contribute to a pension plan. Eligible active merchants tax status of the merchant (TTS) can use an S-Corp structure to pay themselves the necessary salaries.
Those with jobs besides commerce can double their retirement savings by maximizing their employer 401 (k) and contributing an additional $ 58,000 to an unaffiliated TTS S-Corp Solo 401 (k) or employee participation plan. profits.
The TTS S-Corp pays executive compensation, which generates the earned income required for employee benefit tax deductions, including health insurance premiums and pension plan contributions. Conversely, the exchange gains from more Article 475 ordinary income is considered unearned income, for which the IRS does not allow contributions to the pension plan.
An individual TTS trader deducts business expenses from Schedule C. However, a sole proprietorship TTS trader cannot arrange AGI deductions for health insurance premiums and pension plan contributions because the business earnings under- underlying is not self-employment income (SEI) or earned income. A sole proprietor of any kind cannot pay the payroll (wages) himself. It is also difficult for a TTS partnership to create SEI because the partnership fee and other expenses reduce it. While S-Corp payments do not reduce the SEI, making S-Corp the structure of choice for TTS traders for the organization of employee benefits.
In the examples below, full-time trader A contributes the limit of $ 64,500 to a Solo 401 (k) pension plan for 2021. Part-time trader B doubles his pension benefits, maximizing a 401 (k) plan ( k) from an unaffiliated employer for $ 19,500 and contributing up to the limit of $ 58,000 of its TTS S-Corp profit sharing plan. Unfortunately, the part-time Trader C is out of luck; his consulting firm is affiliated with his TTS S-Corp, so he must include the employees of the consulting firm in his retirement plan.
Full-time trader A
This person has a one-member LLC (SMLLC) taxed as an S-Corp, eligible for TTS business expense deductions.
In December 2021, based on sufficient annual earnings, a TTS S-Corp may pay a required maximum compensation of $ 154,000 to meet the Solo 401 (k) pension plan contribution limit of $ 58,000 ($ 64,500 for 50 years and over; limits 2021). Trader A’s Solo 401 (k) plan includes an amount of $ 19,500 optional postponement, $ 6,500 catch up optional deferral for people aged 50 or over, and $ 38,500 profit-sharing for an overall plan limit of $ 64,500.
Trader A’s W-2 salary statement deducts the Solo 401 (k) optional deferral amount of $ 26,000 from taxable income (box 1), and S-Corp deducts the profit-sharing contribution of $ 38,500 on form 1120-S. The profit-sharing contribution is 100% deductible, but it represents 25% of the salary, or $ 38,500 of agent salary (25% of $ 154,000). The optional deferral of $ 26,000 is 100% deductible and takes into account gross income. If the 401 (k) plan only provided for an optional deferral (no contribution to profit sharing), then Trader A would only need a salary (net of required deductions) of $ 26,000 before the contribution on a pre-tax base at 401 (k) (a higher amount may be required for a Roth IRA).
Alternatively, if Trader A did not make an optional deferral, TTS S-Corp could contribute $ 58,000 to the Solo 401 (k) plan out of an officer salary of $ 232,000 ($ 58,000 is 25% of $ 232,000).
Higher wages trigger an additional 2.90% Medicare tax (plus a 0.9% Obamacare Medicare surcharge against the ACA income threshold). The 3.8% Medicare tax on earned income (wages) often replaces the 3.8% Obamacare net investment tax for high income traders.
If Trader A is married and the spouse provides employment services to S-Corp, the spouse may also participate in the S-Corp pension plan. The same goes for children of working age who render negotiated services at arm’s length.
There is also an option for a Roth 401 (k) plan (after tax) for the optional deferral portion only. Suppose you are ready to forgo the initial tax deduction. In this case, you will enjoy permanent tax-exempt status on contributions and growth within the plan – subject to meeting certain IRS conditions – and minimum distributions at age 72. years are not required.
Of course, W-2 salaries are subject to social charges. For 2021, out of the base Social Security salary amount of $ 142,800, 6.2% of Social Security taxes are paid and deducted by the employer, and 6.2% are withheld from the employee’s salary. ’employee. Thus, in most cases, the taxpayer saves more in income taxes than he owes in payroll taxes while accumulating social security benefits for retirement.
Part-time Trader B working for Big Tech
This trader has a full time job at a large tech company and earns a W-2 salary of $ 300,000 per year. Trader B seeks to maximize participation in his employer’s 401 (k) pension plan, with an optional deferral of $ 19,500 (under 50), plus a matching employer contribution of 6%, which does not count. not within the limit of optional postponement.
Trader B also operates a TTS S-Corp and realizes $ 400,000 in capital gains for 2021. In addition to his employer’s 401 (k), Trader B wants to use a Solo 401 (k) pension plan to maximize his savings.
The crucial question is whether Trader B’s TTS S-Corp is affiliated with his employer. Assuming he is not an affiliate, Trader B can maximize the pension plans of multiple employers, with one key restriction: an individual cannot carry over the limit ($ 19,500 plus $ 6,500 of catch-up, whichever is greater. to 50), regardless of the number of regimes. So Trader B ignores the optional carry over in his Solo 401 (k) and contributes $ 58,000 (2021 limit) to his Solo 401 (k) plan or contributes to a SEP IRA. Trader B would need $ 232,000 in salary to maximize the profit sharing contribution of $ 58,000 ($ 232,000 divided by a 25% rate for an S-Corp). Trader B’s TTS S-Corp shows net income after deducting executive compensation and pension contribution. (See Retirement topics – 401 (k) and profit sharing plan contribution limits.)
When a taxpayer receives wages from more than one employer, there may be duplicate Social Security taxes for the employer’s share if it exceeds the basic Social Security wage amount. The individual tax return identifies surplus employee social contributions and reclassifies them as a federal tax credit, thus avoiding dismissal on the employee’s part.
Part-time C trading with an affiliate
This trader owns 100% of an S-Corp consulting company with 10 full-time employees. The consulting firm S-Corp does not offer a pension plan to its employees. Merchant C wonders if TTS S-Corp can set up a Solo 401 (k) plan and refuse participation by consulting with company employees. The answer is no because these two employers are affiliated.
The controlled group’s non-discrimination rules prevent an owner from discriminating against his employees by excluding them from pension benefits. It is wise to consult with an employee benefits lawyer about the acquisition and other ways to work within the boundaries of non-discrimination, controlled group, and affiliated service group rules.
Q&A with Benefits Lawyers
I posed the following questions to Benefits Lawyers Rick Matta, David Levine and Joanne Jacobson from Groom Law Group.
- Do you agree with the full-time Trader A retirement plan strategy? Yes, with the caveat that a TTS trader must have earned income (W-2 salary) for this retirement plan strategy.
- Can Trader B maximize his employer’s Big Tech 401 (k) plan while contributing the maximum allowed of $ 58,000 to a TTS S-Corp Profit Incentive Plan for 2021? Yes, as long as the two employers are not affiliated. Multiple employers may have various retirement plans, but a taxpayer is limited to an optional 401 (k) deferral limit.
- If Trader B contributes only $ 10,000 to his employer’s Big Tech 401 (k), can he contribute the remaining $ 9,500 to a TTS S-Corp Solo 401 (k)? If so, is there any formal integration required? Yes, the limit of $ 19,500 / $ 26,000 is based on the individual for all plans in which they participate. Therefore, coordination of these boundaries between plans is necessary.
- Do you agree that Trader C’s Board S-Corp is affiliated with its TTS S-Corp? How does membership restrict Trader C? Based on the facts presented, it appears they are affiliated and the IRS nondiscrimination rules could limit the amounts Trade C could save for retirement. However, it is essential to keep in mind that there are many ways in which “affiliation” can occur. For example, this may be due to common ownership (commonly referred to as a ‘controlled group’), shared services (commonly referred to as an ‘affiliated service group’), or even common governance or control (especially for non-profit organizations). Therefore, careful examination of each structure is essential to avoid potentially costly failures.
- Do you recommend that Traders A, B, and C also consider a non-deductible IRA if they are not eligible for deductible IRA contributions? Non-deductible IRAs are always on our list to consider when speaking with TTS traders having earned income.
- Do you support the conversion of IRAs and 401 (k) rollovers to Roth IRAs? These types of IRAs, called “Roth backdoor IRAs” by some in the industry, are popular planning tools. Although each individual’s tax planning varies, they are often seen as beneficial. We also note that there are Roth in-plan conversion opportunities in 401 (k) plans which may have other benefits that are worth considering.
- Are Defined Benefit Plans Appropriate For High Income TTS Traders? Defined benefit plans – when carefully designed – can be important tax-efficient savings vehicles and are almost always worth considering.
Many of our TTS merchant clients operate in an S-Corp, and they select a Solo 401 (k) retirement plan and execute the strategy through year-end payroll. Adding a traditional IRA, Roth IRA, or non-deductible IRA contribution by April 15 at tax time is usually a good idea as well.
Consider consulting with an employee benefits attorney to discuss multiple employer pension plans, affiliate service group rules, defined benefit plans, and Roth backdoor strategies.
Contributions from Adam Manning, CPA, and Groom Law attorneys Rick Matta, David Levine and Joanne Jacobson.