Individual 401(k) Plans

Businesses, regardless of size, have long enjoyed the tax benefits provided from the creation of the 401(k) plan. For traders, an Individual 401(k), also known as a Uni-k or Solo 401(k) plan, which is basically a regular 401(k) plan combined with a profit sharing plan offers great flexibility in saving for retirement while reducing income taxes. These plans allow for an elective deferral contribution ($16,500 in 2009 and 2010), plus a $5,000 “catch-up” provision for individuals age 50 or older, along with an after-tax defined contribution profit sharing plan contribution of 20% of net self-employment income. The maximum compensation needed for the highest Individual 401(k) contribution was $171,400 in 2009 compared to $255,000 needed for a SEP IRA.. This is a huge benefit for traders.

It is important to note that individual 401(k) plans can only be established by self-employed business owners that have no full-time employees other than their spouses. Individual 401(k) plans are very similar to traditional 401(k) plans except that they contain certain relaxed rules. One of the relaxed rules is the ability to maximize your tax-deductible contribution with less compensation than is required for other types of retirement plans.

The advantages of employing an Individual 401(k) plan are as follows:

1 Avoid paying the 2.9-percent Medicare tax on the difference in the maximum required self-employment income between individual 401(k) plan and a SEP plan. This translates into $2,134 (2.9% multiplied on $73,600 – difference in compensation) in potential SE tax savings.

2 Traders with smaller retirement fund balances can “catch up” with higher annual contributions. Taxpayers are able to contribute $30,150 more than a Simple IRA and $44,000 more than a traditional or Roth IRA.

3 Traditional and Roth IRA options are available within these plans. Participants in an Individual 401(k) plan can elect to make after-tax Roth contributions with the salary deferral portion of the 401(k) feature. This means that withdrawals taken after age 59 ½ are tax free provided the “five year rule” is satisfied.

4 Traders may be able to make a qualified plan loan of up to $50,000 (or 50 percent of the plan’s assets, whichever is lower) to help fund their trading business entity. TD Ameritrade is one such brokerage, which offers a Mini 401(k) with this type of loan feature, which can prove helpful for traders wanting to form a new trading entity or fund existing business endeavors. There are strict rules regulating these types of plans so proceed cautiously and seek the advice of a qualified professional before proceeding.