S Corp Tax savings with Solo 401K

[sunshine]

I made 200K as a self-employed consultant for Year 2015. I formed a single-owner S-Corp and pay myself 100K as W2 wages and the rest 100K is passed to me as dividends that I believe is not subject to payroll tax.

I want to put away $25K as part of retirement savings. I opened up a Solo-401K with ETrade and I am allowed to contribute $18K as 'employee pre-tax salary deferral' and 'employer' can contribute upto $25K (25% of my W2-wages) as profit-sharing.

My question: Does it matter what split I use to make up a total of $25K for my 401K? My CPA suggests that the split be salary deferral: $1K and employer contributed profit-sharing: $24K

1. Do I save any FICA or self-employment tax by having 'pre-tax salary deferral: 1K and employer profit sharing:24K' versus say 'salary deferral: 18K and employer profit sharing contribution: 7K'. My CPA claims I can save some on FICA by having 1k:24k split but I don't understand how and he don't have much experience with s-corp/solo 401k

2. Is it legal and OK to have 'Salary deferral: 1K and profit sharing:24K'?

My solo 401k plan document from etrade says Employer Profit Sharing Contributions will be allocated to all Qualifying Participants using a pro rata allocation formula. Its a single-employee s-corp.

My CPA has to run the appropriate payroll for whatever salary deferral I chose, so am stuck and racing against time at this point. Any help is much appreciated.

[Lou S.]

Salary Deferrals are subject to FICA taxes.

Employer contributions from corporations are not subject to FICA taxes

Your CPA sounds correct in his analysis given your stated facts and desire to contribute exactly $25K.

In fact if you only want to contribute 25K you don't need any salary deferral, you can simply make a 25K PS contribution since you have 100K in w-2 wages.

If you want to contribute more than 25K, then you could make an additional salary deferral of up to $18K ($24K if you are age 50 or older), though that needs to run through payroll and time for that is getting a bit short.

edit - though in the long run it doesn't matter if your gross w-2 wages are $100K you will pay the same FICA taxes if your salary deferral is $0 or $18,000.

The difference will be whether you have more pass through income reported to you and a lower taxable wage on your W-2 or a higher less pass through income and higher taxable wage in your W-2.

Now if you have to raise your income to $118,000 to make an $18,000 deferral that would change my answer.

[ETA Consulting LLC]

If you pay yourself $28,000 in W-2, then you may defer $18,000 and contribute $7,000 in Employer Contributions in order to get to the $25,000 amount. 'Compensation' must be reasonable so your CPA can provide you the minimum W-2 he would recommend taking from your business.

There are potentially unlimited combinations of Deferral and Employer Contributions that can be done in order to get to $25,000 at Compensation levels above $28,000. You'd be fine with any deferrals of $18,000 and below plus any employer contributions limited to 25% of salary; as long as your overall contributions do not exceed 100% of your W-2.

Good Luck!

[Soundbc1]

ETA -

Yes there are multiple combinations of deferral, profit sharing and wages, I think you miss the point the CPA is making. He appears to want to minimize the amount of taxes, including FICA, thereby retaining maximum earnings. They should find a wage were he will be able to put $25,000 in to the plan with minimizing all taxes. The CPA should have all the information to determine that.

Forgive any misspellings, my glasses are in the car.

Happy holidays!!!

[ETA Consulting LLC]

That amount would be $28,000. It's the lowest salary that would get you to $25,000 in contributions (assuming he's not age 50 or above). This would save the 15.3% in FICA on Compensation between $28,000 and $100,000. The potential issue is that Compensation must be reasonable.

At $100,000 in Compensation, it's a wash (any combination of deferrals and employer contributions would be a wash).

Good Luck!

[Belgarath]

As a matter of curiosity only - why would you have a 401(k) if you have $100,000 in W-2, and wish to contribute exactly $25,000? I should think a SEP would be the better choice. Granted that you have no 5500 forms until your assets are high enough, the document/amendment/update requirements alone would seem to tip the scales in favor of the SEP. But perhaps the investment choices are better in the 401(k)?

Just wondering...

[brent311]

I have a similar question as the original post. Are the employee 401k salary deferrals included into the compensation that the company side can use to calculate the 25% contribution?

lets say someone pays themselves 100k for W2 earnings, but has it set up in payroll for defer 10% of that as employee deferral to 401k. When the company contributes a 25% contribution, do they use the 100k or 90k(100k minus the 10k employee deferred to the 401k) to calculate that 25%?

Thanks

[Bill Presson]

As a matter of curiosity only - why would you have a 401(k) if you have $100,000 in W-2, and wish to contribute exactly $25,000? I should think a SEP would be the better choice. Granted that you have no 5500 forms until your assets are high enough, the document/amendment/update requirements alone would seem to tip the scales in favor of the SEP. But perhaps the investment choices are better in the 401(k)?

Just wondering...

Many times a 401(k) will be a better choice than a SEP. But it doesn't look like this is one of them. I agree with Belgarath.

[ETA Consulting LLC]

I have a similar question as the original post. Are the employee 401k salary deferrals included into the compensation that the company side can use to calculate the 25% contribution?

lets say someone pays themselves 100k for W2 earnings, but has it set up in payroll for defer 10% of that as employee deferral to 401k. When the company contributes a 25% contribution, do they use the 100k or 90k(100k minus the 10k employee deferred to the 401k) to calculate that 25%?

Thanks

Yes, the deferrals are included in Compensation used for the 25% deduction. So, if you pay yourself $100,000, then you may defer $18,000 plus make an Employer Contribution of $25,000 for a total of $43,000.

Good Luck!

[spiritrider]

Also, if the OP wishes to do backdoor Roth IRA contributions, having other pre-tax IRA assets are included in the pro-rata calculation. All pre-tax retirements assets in 401ks, clean conversion.

[sunshine]

As a matter of curiosity only - why would you have a 401(k) if you have $100,000 in W-2, and wish to contribute exactly $25,000? I should think a SEP would be the better choice. Granted that you have no 5500 forms until your assets are high enough, the document/amendment/update requirements alone would seem to tip the scales in favor of the SEP. But perhaps the investment choices are better in the 401(k)?

Just wondering...

Many times a 401(k) will be a better choice than a SEP. But it doesn't look like this is one of them. I agree with Belgarath.

I chose solo-401K plan (from etrade) over SEP-IRA as 401K allows me to take a loan up to 50% of the amount without penalty. I'd prefer SEP if not for the loan provision.

[Belgarath]

A good reason. Thanks.