Terminating Your “Solo” 401(k) Plan — IRS Requirements

You look this up on the IRS website (www.irs.gov) and you will see references that, while not required, the IRS takes the position that 401(k) plans are generally established to continue indefinitely.  This is understandable in how we look at a typical company-sponsored 401(k) plan…generally as long as the business continues its operation or its plan, it will operate somewhat indefinitely.

However, in the case of an individual one-participant plan, it would seem as a general rule that the plan will cease its operation at some point in time.  The common reason will be that the self-employed business owner who is operating a one-participant 401(k) plan (which can, if meeting all requirements, include a spouse as well) will actually retire and close down their business at some time.  Another example could also certainly be the individual business owner may not be successful in his/her business and close down the business.  In these cases, the 401(k) plan would need to be terminated as well as the plan must be sponsored by an on-going active business.

If you cannot continue the operation of the plan for the reasons stated, how will you go about terminating the plan?  What is expected of the business?

1)  When Must Plan Assets be Distributed?   You’ve closed down your business and, generally speaking, there would be a date in which your business activities terminated.  The IRS, as a general rule, requires that assets from the plan be distributed within one year of this date.  The distribution usually will not take one year, but the IRS has noted that the assets must be distributed as soon as administratively possible.

2)  What is a Distribution?  A distribution will mean that you are rolling over the assets from the terminated 401(k) plan into another plan (e.g., another 401(k), IRA), or you will taking a taxable distribution on the assets of the plan.  Also, while you will want to see the appropriate tax assistance, when plan assets are terminated, the plan must issue a Form 1099-R to the participant (you) for the reporting of the rollover.

3)  IRS Form 5500-EZ Reporting Requirements — A Form 5500-EZ is required to be filed in the final year in which assets from the plan are distributed.  Th

“Final Return — All one-participant plans should file a return for their final plan year indicating that all assets have been distributed.

Check box A(3) if all assets under the plan(s) (including insurance/annuity contracts) have been distributed to the participants and beneficiaries or distributed or transferred to another plan. The final plan year is the year in which distribution of all plan assets is completed.”

*Please note that many individuals believe that assets of an individual 401(k) plan do not need to be reported annually if the assets of the plan have a market value of under $250,000.  However, please note that when a plan terminates, the 5500-EZ must always be filed regardless of value.

4)  Responsible Party/Individual for Filing the 5500-EZ — Generally speaking, the 5500-EZ will be filed by the employer, plan administrator or Trustee.  Please note that, in many cases involving an individual 401(k) plan, the business owner is certainly the employer and most likely the Trustee.  And, the plan may not have a plan administrator.  So, it is very important that you take this responsibility seriously….remember, it is your plan.

Finally, keep in mind that if you have an individual plan, you most likely have secured your plan documents through a third-party.  It is your responsibility to update that third party informing them of your intent to terminate your plan.  They are required to keep information active in their files as well.

As always, the information provided is for educational purposes and is never intended, nor should it be interpreted as, any form of tax, legal, financial or investment advice.  You must always consult your respective professional in all such matters.