SEP-IRA, Individual-401K, Backdoor Roth: Contribution & Conversion Questions

[Lindley]

SEP-IRA, Individual-401K, Backdoor Roth:   Contribution & Conversion Questions

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We are looking for some advice with regards to SEP-IRA and Individual-401K contributions and conversions.

Here is some basic information to start with. Our income is generated by both self-employment as well as hospital employed positions.

We are almost 3 years out of residency and have been working hard while spending little, aggressively paying off debt, and saving up a nest egg for our long-term home (closing this week).

After some serious number crunching over the last few weeks our goal is to save a minimum of $200,000 towards retirement annually, beginning in 2016 and beyond.

First, we would also like to do what we can to maximize our tax-advantaged accounts for 2015.   The April deadline is approaching and I want to make sure we have our ducks in a row. I already screwed up and missed the December 31st deadline for the Individual-401K filing (hence the Vanguard SEP-IRA for 2015 instead). We are planning to open the Individual 401K as soon as we pick the right one to accomplish our goals (Vanguard vs. Fidelity at the moment)

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THE NUMBERS

 

2015 income (took a little dip with my wife having our baby last year)

• $630,000 = $295,000 from 1099 + $335,000 from W-2

 

2016 income (expected)

• $750,000 = $400,000 from 1099 + $350,000 from W-2

 

 

2015 retirement contributions thus far:

• SEP-IRA - $38,800 ($14,400 each for spouse and I)


• 457 - $18,000 (only one of us eligible)


• 401(a) - $8,000 (employee contribution not allowed)


• Backdoor Roth?  (We learned about the backdoor Roth last year but haven’t acted on it for 2015)

 

2016 Proposed accounts:

• Individual-401K – ($??)


• New employer 401K - (Their contribution + mine?)


• Rollover 457 ($13,000) into Individual-401K?? (Changing employers in August)


• Roll SEP-IRA into Individual-401K??


• Establish traditional IRA for wife and I ??


• Backdoor Roth? (we learned about the backdoor Roth last year but haven’t acted on it)

 

Older previously existing accounts:

• $20,000 in Roth IRAs leftover from residency (we learned about the backdoor Roth last year but haven’t acted on it)


• 457 deferred compensation plan also from residency: $15,000

 

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I have few initial questions that will likely lead to even more as my ignorance is exposed:

 

1) Do we still have time to do backdoor Roth for 2015? If so, how do we go about it with the existing SEP-IRA?

2) When should we convert the SEP-IRA into an Individual-401K? I hope Vanguard allows this.

3) When I am eligible in August, will I be able to roll the 457 into Vanguard’s Individual 401-K?

 

Thanks in advance to anyone that can shed some light on this for me!

[jfoxcpacfp]

 

Dirty Coast wrote:

I have few initial questions that will likely lead to even more as my ignorance is exposed:   1) Do we still have time to do backdoor Roth for 2015? If so, how do we go about it with the existing SEP-IRA? 2) When should we convert the SEP-IRA into an Individual-401K? I hope Vanguard allows this. 3) When I am eligible in August, will I be able to roll the 457 into Vanguard’s Individual 401-K?

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1. Yes, you do. The backdoor Roth is a 2 step process. You first contribute $5,500 to a TIRA, which is nondeductible. You have until 4/18 to do so for year 2015. The sooner the better as custodians are really slammed on the last few days of tax season. Step 2 is to convert to a Roth. This will be a 2016 transaction, but that is of no consequence to you tax-wise. The existing SEP is a business retirement account. The TIRA is a personal tax account and you can maximize both. [Suggestion: go ahead and make your 2016 TIRA contributions now so you can convert all early in the year.]


2. Convert the SEP to a SOLO-k before you convert to the backdoor Roths. Vanguard's SOLO-k does not allow incoming rollovers.


3. See answer above. You may be able to roll over to an IRA then roll into the 401-k, but I am not a Vanguard user so someone who is will have to chime in.

[Lindley]

Thank you, Johanna!

 

The clarification between business and personal was the missing link I needed to realize! (Duh   )

 

So do I have correct steps in order?

1) Contribute $5,500 (2015) and $5,500 (2016) to Traditional IRA

2) When eligible in August, roll 457 plan into SEP-IRA (If possible via Vanguard)

3) Convert SEP-IRA to a SOLO-401K

4) Convert the Traditional IRA to Roth IRA (It's okay if I convert both the 2015 & 2016 contributions after August 2016?)

 

This forum is great.  My CPA has either been too busy to answer or isn't familiar with the details of the Backdoor Roth. Thanks again for your assistance!

 

[jfoxcpacfp]

Dirty Coast wrote:

The clarification between business and personal was the missing link I needed to realize! (Duh   )

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A lot of people miss this, don't feel bad.

You should convert to the Roth sooner. Otherwise, you will be converting a different amount than your contribution, not ideal. This means that you need to go ahead and roll into the SOLO-k asap.

So I would change the above order to 1, 3, 4, 2. Make sense?

[Lindley]

Okay.  Yes, that does make sense.

I need to call and ask Vanguard about eligibility for rollover of the 457 in August, as that seems to be the potential hangup.  If I can't roll the 457 into the SOLO-401K, I wonder what my other options are?  Would I be able to move it into the SEP-IRA (which should have a balance of zero at that time after the conversion to a SOLO-401K).  Not sure if I can roll a personal 457 into the business SEP-IRA.

My wife also has a deferred compensation plan leftover from residency that is around $14,000.  It has been sitting with her previous employer's management firm since she left 3 years ago.  We need to do something with that as well.  So really, we need to do something with both of our deferred compensation plans.

Looks like I better get on the phone!  

Thanks again!

[jfoxcpacfp]

You can roll a 457b governmental plan into a SEP. If it is an NPO employer, I don't think you can do a r/o into a SEP.

You said you were considering Fidelity and, afaik, they will accept rollovers into a SOLO-k. You should probably figure out a good home for what you want to accomplish before starting the process.

[litovskyassetmanagement]

Dirty Coast wrote:

Okay.  Yes, that does make sense.

I need to call and ask Vanguard about eligibility for rollover of the 457 in August, as that seems to be the potential hangup.  If I can’t roll the 457 into the SOLO-401K, I wonder what my other options are?  Would I be able to move it into the SEP-IRA (which should have a balance of zero at that time after the conversion to a SOLO-401K).  Not sure if I can roll a personal 457 into the business SEP-IRA.

My wife also has a deferred compensation plan leftover from residency that is around $14,000.  It has been sitting with her previous employer’s management firm since she left 3 years ago.  We need to do something with that as well.  So really, we need to do something with both of our deferred compensation plans.

Looks like I better get on the phone!  

Thanks again!

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You can roll things into a Vanguard solo 401k provided you have a custom-designed solo 401k at Vanguard:

https://www.whitecoatinvestor.com/improving-the-vanguard-individual-401k-with-a-customized-plan/

This way you can roll anything into this account that's legally allowed (including a governmental 457, SEP IRA, etc).

Otherwise you'll need to try other companies (Fidelity, Schwab).

[Lindley]

Wow, Mr. Litovsky!

I feel like that article was written for me specifically. You have outlined the exact issue I was having.  After the previous recommendations above, I did reach out to Vanguard earlier this week and they indeed told me I would not be able to roll over my 457b, SEP, 401(a), etc. In fact it, the somewhat unhelpful person in the business investing department (), made it seem very restrictive as you described and didn't offer any further solution to my existing accounts.  So I was exploring other options and dreading the extra burden it would be to manage several accounts across multiple companies.

This seems like a BRILLIANT solution and one that I am definitely going to explore.

THANK YOU!!

[litovskyassetmanagement]

Dirty Coast wrote:

Wow, Mr. Litovsky!

I feel like that article was written for me specifically. You have outlined the exact issue I was having.  After the previous recommendations above, I did reach out to Vanguard earlier this week and they indeed told me I would not be able to roll over my 457b, SEP, 401(a), etc. In fact it, the somewhat unhelpful person in the business investing department (), made it seem very restrictive as you described and didn’t offer any further solution to my existing accounts.  So I was exploring other options and dreading the extra burden it would be to manage several accounts across multiple companies.

This seems like a BRILLIANT solution and one that I am definitely going to explore.

THANK YOU!!

Click to expand...

Vanguard can often be unhelpful, and unfortunately that comes from the fact that they have a low cost product that everyone wants, but they have grown way beyond what they can manage successfully, so it does take a lot of work on my part to make sure things work smoothly.  I know that other companies do offer such accounts, but personally, all of my assets are at Vanguard, and many of the doctors/dentists also want to consolidate at Vanguard. I've been using these VRIPs as both solo 401k plans and as pooled 401k plans for small practices, and they work extremely well because now instead of going through Vanguard, you basically have full access to the account.  You do have to be extremely careful to make sure that you don't mess this up though, so you will definitely need a TPA to administer the VRIP account because all of your rollovers and contributions will be commingled, so that's one downside for a plan that won't get much use.  However, those who are using it to the fullest (and especially those who want to potentially do solo DB plan as well) will absolutely benefit from the VRIP account.

[Lindley]

Kon Litovsky wrote:

However, those who are using it to the fullest (and especially those who want to potentially do solo DB plan as well) will absolutely benefit from the VRIP account.

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Thanks agin for the response.

How could a "defined benefit" plan help me in the situation outlined in the first post?

And how does one find a TPA (3rd party administrator, I am guessing) to setup and administer the VRIP account?  This sounds like a specialized service / skill-set.

A sincere "thank you" once again for all of the helpful advice from you and Ms. Turner thus far.

 

[litovskyassetmanagement]

Kon Litovsky wrote:

$400,000 from 1099

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"$400,000 from 1099" - that's a perfect candidate for a combo plan.  If you are older than 35 (ideally closer to 40, but any age between 36 and 40 is a good starting point, you can have a combo 401k/DB plan and contribute as much as $100k into this plan and possibly more (and the contribution increases with age as you get older).  In your situation, tax-deferred is the way to go.  The same TPA would manage both plans for you.  Yes, indeed, there are some TPAs who would administer your VRIP account, and they are around - it is possible to find one if you look hard enough.  At that point you might also get your adviser involved as this can get a little complex (I typically share responsibilities with my TPA - I assist with the opening of the VRIP accounts and also manage investments in both in a coordinated fashion, while she handles the administration and contribution calculations as well as actuarial certification, which would be required in a combo plan).

[Lindley]

I spoke with an advisor at Vanguard this week regarding a customized 401k plan (What they refer to as their "small plan 401k").   He told me that the management/administration fees for their Small Plan 401k would run about $3,400 annually.  And he questioned me further on the purpose of this plan rather than their off-the-shelf solo-401k.   Besides wanting to roll over our existing SEP-IRAs, 457, and deferred compensation plans into the Small Plan 401k, I really didn't have a good answer for him.   So it is hard to justify the $3,400 per year cost.

Bottom line, it seems like no matter how we slice it, ~$53,000 each ($106,000) will be the max my wife and I can contribute to tax deferred accounts from all sources of income combined.  That is only half our of our annual goal.    :?  Am I thinking of this wrong?

I still know next to nothing about DB (defined benefit) plans.  Need to do more research...

(BTW, I am 38 and she is 35 years old, so there will be no catch-up contribution limits to take advantage of either)

[litovskyassetmanagement]

Dirty Coast wrote:

I spoke with an advisor at Vanguard this week regarding a customized 401k plan (What they refer to as their “small plan 401k”).   He told me that the management/administration fees for their Small Plan 401k would run about $3,400 annually.  And he questioned me further on the purpose of this plan rather than their off-the-shelf solo-401k.   Besides wanting to roll over our existing SEP-IRAs, 457, and deferred compensation plans into the Small Plan 401k, I really didn’t have a good answer for him.   So it is hard to justify the $3,400 per year cost.

Bottom line, it seems like no matter how we slice it, ~$53,000 each ($106,000) will be the max my wife and I can contribute to tax deferred accounts from all sources of income combined.  That is only half our of our annual goal.      Am I thinking of this wrong?

I still know next to nothing about DB (defined benefit) plans.  Need to do more research…

(BTW, I am 38 and she is 35 years old, so there will be no catch-up contribution limits to take advantage of either)

Click to expand...

Vanguard does not administer or design 401k plans.  For that they use Ascensus.  If you have no employees, you have no need for Ascensus (which is a big record-keeper).  Vanguard simply provides investments for the Ascensus plan.

DB plans are not DIY - these would require a TPA/actuary.  You can't just open one, like a solo 401k. I'm working on an article on DB plans, but it is not ready yet, hopefully will be ready in a couple of months.

In short, this is how we structure combo plans (you need to be at least 35 years old, and 38 is probably an ideal age to start one):

1) VRIP (Vanguard custodial account) solo 401k plan where you can contribute $18k x 2 plus 6% x 2 in profit sharing.  Depending on how much your spouse is making, you can each have a combo plan (or the spouse can be your employee and participate in both plans).

2) VRIP DB plan with the remainder of your contribution, which will vary depending on the plan design.  At 38 you can probably contribute about 2x$53k into the combo plan just by yourself (not split evenly - most will be in the DB plan).

3) The TPA would create a custom plan document for both plans.  The TPA would have the plan design certified by an actuary, and provide administrative oversight and annual contribution calculations and valuation.  I typically provide fiduciary advice to both plans and manage investments (for a single flat fee) in a coordinated fashion depending on the goals of the plan.

The design of the combo plan has to be done very carefully, bearing in mind that if you contribute too much too fast, the DB part of the plan would have to end (with the maximum contribution of ~$2.5M each, adjusted for inflation).  However, that might be just fine with you, so you'll have maybe 10-15 years of contributions available to you (maybe longer for the younger spouse).

If you want to do it yourself, you'll need to spend quite some time doing research and learn about how these plans work (and you'll still need to pay the TPA/actuary), and figure out how to make it all work.  Your money would be well-spent hiring a team to administer/manage your plans because there are plenty of salespeople out there who'll sell you a plan regardless of whether this would be the best solution for you, so it is always the best idea to work with a fiduciary who is not going to try to sell you stuff (and whose compensation is not going to depend on the amount of assets under management).

[OneSizeFitsAll]

Hello,

I am new to the forum and have a quick question. I apologize if this has already been addressed elsewhere.

I have a SEP-IRA that I have contributed to in the past few years. I would like to open a Solo-401k and roll-over the SEP balance into the Solo-401k. However it looks like I will not have any self employment income for this year (2016). Can I still open the Solo-401k for purposes of rolling over the SEP balance into it? I will not be attempting to make any other contribution to the Solo-401k (unless my situation changes and I do end up with some self-employment income for this year).

Thanks in advance.

[litovskyassetmanagement]

If you don't have any SE income, you are not eligible to open a solo 401k.