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Solo 401(k) Prohibited Transaction Rules

Know the Prohibited Transaction Rules of a Solo 401(k)

The Solo 401(k) Prohibited Transaction Rules are transactions you cannot make with a 401(k) Plan. Your Solo 401(k) plan gives you great flexibility in what investments you can make with your retirement funds. The U.S. government created the Solo 401(k) so individuals can save a substantial amount of money for retirement. However, it’s the duty of the IRS (Internal Revenue Service) to ensure that individuals do not take advantage of the tax benefits provided to them.

As a result, the IRS reviews the investments you make with your 401(k) to determine if the investments benefit the savings within your retirement account. The goal of the retirement account is for the accumulation of retirement funds. Therefore, if you do something with your assets that the government does not believe aids in said accumulation, you will have to pay tax on that money. And, if you’re under 59 ½, you may also pay a penalty.

Prohibited and Non-Prohibited Solo 401(k) Transactions

The IRS (and Department of Labor) do not state what investments you can make or how best you should use your assets. The IRS only tells you what investments you cannot make. This is the same with a Self-Directed IRA LLC. Every retirement account has limits and restrictions; in other words, “prohibited transactions.” In the case of a Solo 401(k), there are essentially two types of investments you cannot make: collectibles and prohibited transactions under IRC 4975. Collectibles include:

  • Works of art
  • Stamps
  • Baseball cards
  • Gems
  • Jewelry
  • Certain coins

Some Metals and Coins are Permitted

The IRS allows a 401(k) plan to own certain precious metals and gold coins.

  • American Gold Eagle coins or coins that are least 99.5% pure
  • One-ounce silver coins minted by the Treasury Department
  • Coins issued under the laws of any state
  • Platinum coins described in 31 United State Code Service (USCS) 5112(k)
  • Gold, silver, platinum or palladium bullion of a certain fineness and is in physical possession of a financial institution

Note: All metals and coins approved by the IRS must be held at a depository.

The Solo 401(k) prohibited transactions are set in place to benefit the retirement account and protect the IRS revenue generating distribution rules. You can use the funds in your Solo 401(k), but if you are not at retirement age (59 ½), beware that you will be taxed on the money you distribute, and you will have to pay a penalty.

Additional Prohibited Assets of a Solo 401(k)

You can find Solo 401(k) Prohibited Transaction Rules under IRC Section 4975. However, the above collectibles and works of art are not the only rules that the IRS prohibits. There are a few additional investments that are not permitted, which fall under IRC Section 408. You cannot use the funds in your retirement account to invest in the following collectibles:

  • Metal or gems
  • Alcoholic beverages
  • Rugs and antiques
  • Stamps
  • Most coins

You can invest in:

  • 99% pure gold, silver or platinum bullion
  • American Eagle coins
  • State-minted coins

Disqualified Persons of a Solo 401(k)

If you perform a restricted transaction with your Solo 401(k), then it likely involves a disqualified person, which the IRS prohibits.  This decision came from a congressional assumption that certain transactions between certain parties are inherently suspicious and should not be allowed. The definition of a “disqualified person” extends into a variety of related party scenarios, but it generally includes:

  • The plan participant (You)
  • Your ancestors and lineal descendants
  • Entities in which you or other disqualified persons hold a controlling equity or management interest

Direct Prohibited Transactions

There are two types of prohibited transactions: direct and indirect. A direct prohibited transaction is the easiest to uncover.

A direct prohibited transaction generally involves the direct (sometimes indirect) sale, exchange, leasing or property, lending of money, extension of credit, the furnishing of services, or the transfer of the income or assets of a 401(k) plan to a disqualified person. For example, the IRA holder removes funds from his or her Solo 401(k) to pay a credit card bill. This is a transaction that directly benefits you and does not profit your retirement account.

Indirect Prohibited Transactions

An indirect prohibited transaction generally involves a disqualified person dealing with the income or asset of the 401(k) for his or her own interest. It may not appear to benefit you upfront. For example, you take money from you Solo 401(k) plan to make an investment in a company that you own 15% of. Although it doesn’t directly benefit you, as a disqualified person, this is an indirect prohibited transaction.

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