The IRS states that 401(k) plans are created with the intent of continuing in perpetuity; however, for the self-employed person with the individual 401(k) plan, terminating your Solo-K plan is not, per se, an “if”, rather a “when.” As the Trustee of your Solo 401(k) plan, you fully understand this. Therefore, it is incumbent upon you to understand that there are proper steps to follow in terminating your Solo-K plan. Think of this concept: your 401(k) plan is like a person’s life…it has a birth, life and death.
When terminating your Solo-K plan, there are a few steps you will want to make sure you take to correctly close out and terminate the plan and move its assets. Unfortunately, individuals sometimes believe that the only thing they need to do is simply rollover the assets of the plan elsewhere…bing, bang, done. This is not the case. Further, it is PGI’s opinion that a 401(k) plan should be terminated as soon as administratively possible when the self-employed individual is no longer operating the business. This concept should make sense as your Solo-K plan must be sponsored by a business and, if there is no current business in operation, how can your self-directed 401(k) plan still be sponsored?! There are some self-directed companies that believe you may continue to keep your funds in a 401(k) when the business sponsoring the plan has ceased to exist/operate…..PGI does not share that same opinion.
Basic Steps to Close Out & Terminate Your Solo-K
- As Trustee, you will request termination of the plan through your plan document sponsor (e.g., PGI). The plan needs to be registered as terminated and the effective date of that termination.
- As you will be rolling over funds from the plan to another type of plan (e.g., IRA (self-directed or not), the plan needs to issue a distribution for funds leaving the plan by preparing a 1099-R and coding the distribution with a “G” to indicate that it is a non-taxable rollover from the 401(k) plan. The 1099-R is issued by the plan to the participant (you or you/spouse).
- As the participant in receipt of the distribution, you will need to report the rollover of the 401(k) funds on line 16 A & B on your 1040 tax return. You indicate the amount of the rollover and amount that is taxable. If you are rolling over all funds (which is most likely for most of you), your taxable amount should be $0. The IRS wants you to write, “ROLLOVER” in the left margin and attach a brief note to accompany your return with an explanation that a non-taxable rollover occurred from the plan.
- You will rollover the funds as soon as administratively feasible after or in conjunction with the termination date.
- The IRS requires a plan to prepare and submit a final 5500-EZ within 7 months after the termination of the business/plan. Please note that some companies contend that the 5500-EZ needs to be prepared and submitted by July 31 of the following year….which is correct IF the plan terminated on December 31 of the preceding year. However, if the business/plan terminates on any date outside of 12/31, the 5500-EZ must be submitted within 7 months from that date. For example, if terminating your plan occurred on July 31, you would need to submit the final 5500-EZ 7 months after July 31.
The next blog posting will address how to prepare and submit your 5500-EZ. It is important to note that since the 5500-EZ is a tax form, you should always review (or have prepared for you) the 5500-EZ form with your tax professional before submission.
As always, the information provided is intended to be educational in nature. It is not intended, nor should it be interpreted as, any form of tax, legal, financial or investment advice. You must always consult with your respective professional in all such matters.