Gyroscopic Investing

I have been self-employed for about 2 years now, and I'm currently moving my savings into the HB PP using ETFs.  I've accumulated all of my savings (about $150k) from my business profits of the last 2 years.  I run a sole proprietorship.  Anyway, last year I had a pretty big tax burden because I chose not to open an individual 401(k).  My reasoning at the time was that I didn't want to lose control of my money for 30 years just to save some money on taxes.  But then I read about using a 72(t) to start extracting money from a 401(k) early without the 10% penalty.

Another thing I want to try this year is a Roth IRA.  Forgive my ignorance, but I've only recently started researching my options on the tax reduction front.  So, I have two basic tax questions for the PP guys in this forum.

A)  Does anyone have a suggestion for which company to use for opening an individual 401(k)?  What exactly should I be looking for in a company?  Do they typically offer more options for an individual 401(k) than for an employer-sponsored 401(k)?  If so, why would a company want to restrict their employees' 401(k) investment options?

B)  If I was to desperately need money from my 401(k) before retirement, the worst case scenario is that I would have to pay income taxes on what I withdraw, plus 10% of the value of what I withdraw?  Isn't that just one year's average HB PP return?

C)  If I understand a Roth IRA correctly, you get taxed as your money goes into the account, but there are no more taxes after that (on dividends or capital gains).  And, you can withdraw from a Roth IRA at any age, not just during retirement?  So, put simply, it's basically a special account that's sheltered from capital gains and dividend taxes?  Or am I misunderstanding something here?

I hope this is on-topic in this forum.  I considered putting the questions in the "Other" forum, but it is a financial question so I wasn't sure it belonged there either.

I opened a solo 401K at TD Ameritrade several years ago. I can invest in anything I want in this account--I have mostly individual LTTs in it now, but stocks, ETFs, mutual funds, etc. are all available.  This is why I chose TDA over Vanguard--at Vanguard you're restricted to Vanguard funds in an individual 401k.  This year I rolled a traditional and a SIMPLE IRA into the TDA 401k so now I have more room to deploy my HB PP in this single tax sheltered space. I find it very convenient and have no complaints about TDA.

TDA also offers a Roth option for their individual 401k. Don't know much about it since I didn't choose that option, but apparently you can split your contributions between the pre- and after tax options.  I don't know how the Roth option works for early withdrawals, though. 

I believe you can borrow from your 401k, but other more experienced investors will know more about what that entails. 

Hope this is useful.

Maggie

Wow, you should definitely look into a SEP or Simplified Employee Pension.  In my opinion, it is the single greatest tax break for investment available right now.  You can contribute 25% of your income up to a yearly maximum of $49,000 tax free!  With my 9 to 5 corporate job and my yearly $16,500 401k contribution I envy you...  Imagine if you could contribute the maximum for 10 years straight and put it all in the PP.  You'd probably be set for life.

Definitely look into SEP and good luck to you!

edsanville wrote:
C)  If I understand a Roth IRA correctly, you get taxed as your money goes into the account, but there are no more taxes after that (on dividends or capital gains). 

Yes.

edsanville wrote: And, you can withdraw from a Roth IRA at any age, not just during retirement?  So, put simply, it's basically a special account that's sheltered from capital gains and dividend taxes?  Or am I misunderstanding something here?

1. You can withdraw the contributions at any time without any limitations.

2. You can withdraw the earnings (capital gains and dividends) after the age 59 1/2. Otherwise you pay 10% early withdrawal penalty.

There are some special occasions when you can escape the penalty, e.g. the 72(t) withdrawal - when "substantially equal periodic payments" are made over the life expectancy of the IRA owner.

Thanks for the responses, they were all helpful in different ways.

In the end, I decided to set up a Roth IRA and a SEP IRA per Storm's suggestion.  I was able to set both accounts up easily with my existing Fidelity account (the only reason I'm with Fidelity is because my previous employer used them and I have a Fidelity 401(k) account already).  I was astounded by how easy it was to open both of those accounts.  I looked at the paperwork process for opening an Individual 401(k), and it seemed like a logistical nightmare for me.

The only drawbacks of a SEP compared to a Solo 401(k) are apparently:

a)  You can borrow from your 401(k)
b)  The 401(k) allows a larger contribution ($16k more for me)

Maybe next year I'll open a Solo 401(k), to take advantage of those two things.

The Roth IRA seems particularly interesting.  There doesn't seem to be any reason why a person shouldn't open one of those up.

Another tax-saving idea: if your medical insurance has high deductible I would also recommend opening an HSA account. You can set aside pretax up to 3K a year for single coverage ($6,150 for family). There are providers that allow you to invest your money, or you can just save them in a high-yield FDIC-insured account (mine earns 3% APY). The good thing is after the age 65 you can use the money for ANY purposes, like traditional IRA.

Storm wrote: You can contribute 25% of your income up to a yearly maximum of $49,000 tax free!  With my 9 to 5 corporate job and my yearly $16,500 401k contribution I envy you...  Imagine if you could contribute the maximum for 10 years straight and put it all in the PP.  You'd probably be set for life.

You'd have to earn $200k to be allowed to put $49k in, since the 25% of your income is the limiting factor.

If I could earn $200k a year, for 3 years, I could be set for life, living frugally, according to Early Retirement Extreme Standards.

Also keep in mind that you're going to be paying a metric shit ton of taxes on the $150k that isn't shielded by the SEP because you will be "wealthy" and not paying your fair share otherwise.

Personally, I think the best "deal" in taxes today, would be to get a high earning potential, but then work part-time, so you can earn about $35k per year. If you can do that working 10 to 20 hours a week, that would be amazing, and you have flexibility in your life to enjoy it.

$35k salary, minus $5k IRA = $30k minus $17k 401k = $12k minus $10k standard deduction/personal exemption = $2k minus HSA deduction = $0.

You will qualify for a $1k refundable savers tax credit, and you might also get Earned Income Tax Credit.

You will pay no taxes.

You of course would have to live on $10k per year, but if your house is paid off, and maybe you have some cash savings before going into this part-time work arrangement, it's sufficient if you live frugally.

A good plan for me would be to earn $100k+ for 5 to 10 years, save a lot of your income, max out retirement accounts, pay off a modest home, build up a taxable cash savings.

Then work part time another 5 to 10 years, for 10 to 20 hours a week, for $35k a year, and pay nothing in taxes. Then do a 72T and pull out only $10k per year, (selectively segregating your retirement accounts so the SEP triggers $10k per year as the amount) - which will be tax-free. So you NEVER paid taxes on that 401k because you got the deduction going in, and then took standard deduction/personal exemption coming out.

The goal of this strategy would be to pay the least amount of taxes over the course of your life time, and maximize your after-tax net income, for the minimum amount of work. You'd have to forgo buying a new iPhone every year, but to have the flexibility of working part time when you're in your 30s, and retiring comfortable in your 40s, and having the knowledge that you aren't contributing to unconstitutional bullshit like the Patriot Act or non-Congressionally mandated "Peace Strikes" on foreign countries, is worth it.

Every $1 of taxes you pay, 40 cents goes to murdering innocent people overseas. Every $1 of taxes you shield, those innocent lives are saved.

Ethical Dilemma test: "What if everyone did this?"

Then Congress would have to really manage the budget since there would be significantly less budget to waste. In my mind, everyone SHOULD do this, and the country would be better off. People would be healthier because they wouldn't be eating junk fast food and getting obese (a byproduct of working 60 hours a week and not having time or energy to cook). People would be less stressed out and have more time to do stuff for themselves and not need to rely on government handouts.

In summary, SEP is not as good as 401k, because you can theoretically work part-time, get $30k to $40k in income, and pay $0 in taxes because 401k is not based on a ratio of your earned income.

edsanville wrote:
C)  If I understand a Roth IRA correctly, you get taxed as your money goes into the account, but there are no more taxes after that (on dividends or capital gains).  And, you can withdraw from a Roth IRA at any age, not just during retirement?  So, put simply, it's basically a special account that's sheltered from capital gains and dividend taxes?  Or am I misunderstanding something here?

In order to withdraw money from Roth IRA without incurring any penalty, you should be above 59.5 and have a Roth IRA for at least for 5 years.

maraba wrote:

edsanville wrote:
C)  If I understand a Roth IRA correctly, you get taxed as your money goes into the account, but there are no more taxes after that (on dividends or capital gains).  And, you can withdraw from a Roth IRA at any age, not just during retirement?  So, put simply, it's basically a special account that's sheltered from capital gains and dividend taxes?  Or am I misunderstanding something here?

In order to withdraw money from Roth IRA without incurring any penalty, you should be above 59.5 and have a Roth IRA for at least for 5 years.

From what I've read, you can withdraw direct Roth IRA contributions at any time.  It's only the Roth earnings that are withdraw-able only after age 59.5.

http://en.wikipedia.org/wiki/Roth_IRA#Advantages