Super Charged 401(k) Contributions for Alternative Investments

When I have written blog posts, I have rarely used “hype” words.  You know them:  “super”, “new”, “improved”, “secret”, “top 10 reasons”, etc.   We know why bloggers use them, but many times we feel suckered when the content of the blog doesn’t live up to the hype of the blog title.  Well, I must admit that I am going to use a bit of hype related to some upcoming blogs on the topic of…super-charged 401(k) contributions for alternative investments.  More specifically, the ability to make after-tax contributions to your 401(k) plan, and the significant, potential benefits of doing so.

After-Tax Contributions – The Unknown Contribution

After-tax contributions are easy to forget as you rarely hear about them for many reasons.  However, they are not “new” or “secret”….heck, they’ve been around forever.  On the surface they may not have the “pizzazz” of Roth contributions.  Even when I am visiting with a prospective client who is interested in a self-directed 401(k) plan (also commonly referred to as Uni-K, Solo-K, Individual 401(k) and self-administered 401(k) plans), I rarely refer to after-tax contributions.  I even forget about this option!

You are setting up your Solo-K plan and want the ability to make pre-tax elective deferrals…check.  How about participant Roth elective deferrals…check.  Business profit sharing contributions…check.  And, for most individuals who are rolling over funds into the new pan, a rollover contribution account…check.  Bottom line:  you have the ability to make different types of contributions, but we often forget to discuss after-tax contributions, and we shouldn’t!!

What if you could realize some of these potential benefits by making after-tax contributions:

  • Potentially maximize your contributions to your 401(k) plan faster;
  • Potentially  maximize your contributions to your 401(k) plan with less income (less income than you might think);
  • Take money out (distribution) from your 401(k) plan without penalty;
  • Take money out (distribution) from your 401(k) plan without exercising a 401(k) participant loan requiring a repayment schedule;
  • Convert your after-tax contributions to Roth funds and realize huge potential benefits in doing so;
  • Super-charged 401(k) contributions for alternative investments which potentially will result in you experiencing investments free of any taxes (e.g., capital gains, ordinary income tax).

    No Taxes on Your Investment?

After-Tax Contributions Defined

How does the IRS define after-tax contributions:

“After-tax means the employee paid taxes on the money when it was contributed, that is, the taxpayer has a cost basis in the plan.”

And, folks, that is probably the easiest and shortest definition the IRS has ever provided on any topic.  But, after-tax contributions are not Roth contributions!  Yes, you heard that correctly, after-tax contributions are not Roth contributions.  But, after-tax contributions can be converted to Roth funds within the plan.  And, yes, you also heard that correctly.  So, are you confused?  Don’t feel bad if you are….it is definitely a new concept to most.  The use of after-tax contributions can be so much of a benefit, I am going to do a few blogs on various aspects of after-tax contributions and their benefit to you.  After-tax benefits, whether you should keep them as after-tax, whether you should convert them to Roth.  There are many benefits of after-tax contributions….and having options, wonderful options, with these contributions!

P.S. — A bit of a teaser, the benefits of after-tax contributions can be significant….but, for real estate investors who were planning on using non-retirement funds for real estate investments, you may find out that you want to contribute as much as you legally can into after-tax contributions.

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.  One must always consult with their respective professional in all such matters.