Removing Ineligible Roth Deferral from Solo-K
Client setup a solo-k in 2011 and make roth employee contribution for 2011. She is now doing her 2011 taxes (extension) and her CPA told her that the income she thought justified setting up the plan is non-employment income. She has also made a 2012 roth employee contribution. These are the only contributions made to the plan. Since client was ineligible, she must remove all dollars from the plan account. What are the tax/penalties faced at this point? Is any penalty alleviated since she has not passed the “filing deadline including extensions” for the year contributed or is that not the deadline in this circumstance? Thank you!
Permalink Submitted by Alan Spross on Thu, 2012-07-12 23:42
This does not sound like your typical excess deferral under Sec 402g, ie. exceeding the 17k deferral limit. Perhaps this was simply a lack of taxable compensation from which to make any deferral. So I am not sure if the corrective method is the same for this situation.
IF all types of excess deferrals are to be treated the same, then 4/15 was the deadline date to do a timely corrective distribution. The Roth deferral would not be taxable in 2011 because it was already after tax, but would be fully taxable and subject to penalty when distributed with allocated earnings after the due date. This is where the double taxation comes in, ie the Roth was originally made after tax so when it is taxable upon distribution, it is effectively taxed a second time.
If a large professional custodian is being used here (eg Fidelity of Vanguard) perhaps they can help. The corrective measures should be covered by EPCRS which is issued by the DOL, but I did not see anything specific in Notice 2008-50.
Also, see
http://www.mhco.com/Library/Articles/2006/ACorr_Chart_041306.html
Permalink Submitted by Denise Appleby on Fri, 2012-07-13 14:05
The treatment is the same . This is an excess of the 415 limit.
See 6.06 of Rev. Proc. 2008 – 50 – and Appendix A.04
Permalink Submitted by Michele Meyers on Mon, 2012-07-16 18:49
We have gotten more information. The client believes she was not eligible for a Solo-K because her CPA believes she is not eligible. She has a 1099 Misc which shows “Nonemployee Compensation”. She does not have a Schedule C on her tax return, but her tax return includes payment of Self-Employment tax on this income. Can you see any reason that she could not count this income as the earned income for eligibility for a Solo-K? Thank you!
Permalink Submitted by mk foss on Mon, 2012-07-16 22:02
Self-employment income does not have to be reported on Schedule C to make her eligible for a Solo-K. The 1099 income can be placed on Schedule C if that will make her CPA count her as eligible. There are inbdividuals who have set up solo K plans for the fees they receive as corporate directors and do not report on Schedule C.