Latest / The High Net Worth Podcast with Fexingo: Wealth Management, Tax Strategy, and Affluent Finance / How Ultra Wealthy Families Use Self-Directed Solo 401(k)s for Alternative Investments
Transcript
- Lucas: If you are self-employed or run a small business, your retirement account options are actually more flexible than most people think. We're talking about the self-directed solo 401 — a vehicle that lets you invest in things like private real estate, private company equity, even crypto, all inside a tax-advantaged shell. Luna: I've heard the term 'solo 401' thrown around, but honestly I assumed it was just a lower-limit version of a regular 401. What makes it self-directed? Lucas: That's the key. A standard 401 from a big provider like Fidelity or Vanguard limits you to their menu of mutual funds and ETFs. A self-directed solo 401 — often offered by custodians like Rocket Dollar or Quest IRA — gives you what's called 'checkbook control.' You can write checks from the account directly into investments that would never appear on a brokerage platform. Luna: So instead of picking from a list, you can buy a rental property or lend money to a private business? Lucas: Exactly. And crucially, the solo 401 is only available to business owners with no full-time employees other than a spouse. So it's for consultants, freelancers, sole proprietors, and partnerships. If you have W-2 employees who work more than a thousand hours a year, you can't use this structure. Luna: What about contribution limits? I imagine they're higher than a traditional IRA. Lucas: Significantly. For 2026, the employee deferral limit is $23,500, plus a catch-up of $7,500 if you're over fifty. Then the employer profit-sharing contribution can bring the total up to $70,000 — or $77,500 with catch-up. That's per person, which means a married couple who both work in the business can each have their own plan, potentially doubling those numbers. Luna: So a husband and wife team could put away nearly $155,000 a year in retirement accounts, all self-directed? Lucas: Yes, and with full control over where that money goes. I know a consultant in Austin who rolled her old 401 from a corporate job — about $180,000 — into a solo 401 at a self-directed custodian. Then she used that money to invest in a private real estate syndication that was buying apartment complexes in the Southeast. The projected return was 14 percent, and she avoided the capital gains tax she'd have paid if she'd just liquidated the account. Luna: That's an $18,000 tax saving just on the rollover, assuming a 10 percent penalty and ordinary income tax. What about borrowing from the account? Lucas: Another advantage over a traditional IRA. The solo 401 allows a participant loan of up to $50,000 or 50 percent of the account balance, whichever is less. You can use that loan for any purpose — say, to fund a business expansion — and you pay the interest back to yourself. But you have to follow strict terms: a five-year repayment schedule, quarterly payments, and the interest rate must be market-rate, currently around prime plus one or two percent. Luna: I know that in a self-directed IRA, you're prohibited from using the account to buy real estate that you personally use or from lending money to yourself or your family. Are those same rules for the solo 401? Lucas: Yes, the prohibited transaction rules are identical. You cannot buy property you or your family will use, nor can you lend funds to yourself, your spouse, your parents, or your children. You also cannot invest in a business in which you or a disqualified person owns more than 50 percent. Break those rules, and the IRS treats the entire account as distributed — you owe tax plus a 10 percent penalty on the whole thing. Luna: Ouch. So the freedom comes with a strict line you cannot cross. What about using the solo 401 to invest in a business you own? I've seen some talk about that. Lucas: That's actually one of the most interesting use cases. You can invest plan assets into your own business, as long as it's a C corporation and you hold the shares inside the plan. But if you're a sole proprietor or an LLC taxed as a partnership, investing plan money into your own business is likely a prohibited transaction because it's considered a transaction between the plan and a disqualified person — you. So you have to structure carefully. Luna: So the workaround is to form a C corp and funnel the investment through that? That seems like extra complexity. Lucas: It is, but it can be worth it if the business is high-growth. The returns grow tax-deferred inside the plan, and eventually you can do a Roth conversion and pull them out tax-free. Some aggressive planners use this as a way to build a tax-free retirement nest egg from a business they control. Luna: Let's talk real estate. I know a lot of high-net-worth individuals use self-directed IRAs to buy rental properties. What's the solo 401 advantage there? Lucas: Three things. First, the solo 401 allows you to use leverage — you can take out a non-recourse loan to buy property within the plan. With a self-directed IRA, there's a tax on unrelated debt-financed income, called UBIT, that applies to the portion of income from borrowed money. The solo 401 is exempt from UBIT because it's a qualified retirement plan under ERISA. So you can borrow to buy real estate and not pay the extra tax. Luna: That's a huge advantage. What's the second? Lucas: Second, the solo 401 can invest in real estate partnerships alongside other investors, like the syndication I mentioned earlier. You can be a limited partner in a deal and the plan holds the partnership interest. With a self-directed IRA, that's also possible, but the solo 401 has higher contribution limits, so you can put more money in faster. Luna: And the third? Lucas: The checkbook control. With a solo 401, you can open a checking account in the plan's name at any bank, and you write checks directly from that account. You don't have to go through a custodian for every transaction, which can take days and cost fees. For someone who wants to act quickly on a deal, that's a real edge. Luna: Okay, so let's talk about the downsides. What's the catch? Lucas: The biggest is administrative burden. You are the plan administrator, which means you have to file Form 5500-EZ once the plan assets exceed $250,000. That form is not terribly complicated, but it requires an annual accounting of plan assets and transactions. If you miss the deadline, the penalties can be steep — up to $2,500 per year. Luna: Also, you mentioned that you can't have any employees. What if you start a business that grows and you need to hire someone? Do you lose the plan? Lucas: Not immediately. The solo 401 is specifically for a business that has no eligible employees. Once you hire someone who works more than a thousand hours a year, you have until the end of the following plan year to amend the plan or set up a different one. You can't just keep using the solo 401 with employees. But you could switch to a regular 401 plan, which still allows self-directed investing if you use the right provider. Luna: So it's a strategy for a specific stage of your business. You're a solo operator, you want maximum control and maximum contribution, you use this. Then if you scale, you pivot. Lucas: Exactly. And there's one more nuance: the Roth option. Most solo 401 plans let you make Roth contributions — after-tax dollars that grow tax-free. That's separate from the traditional pre-tax contributions. You can also do what's called a mega backdoor Roth, where you make after-tax contributions beyond the regular limit and then convert them to Roth. That's a powerful way to accumulate tax-free wealth if you have high income. Luna: I want to circle back to something you said earlier about cryptocurrencies. Can you really hold Bitcoin in a solo 401? Lucas: You can, but you need a custodian that allows it, and you need to be careful about valuation and prohibited transactions. The IRS treats cryptocurrency as property, so if you buy it inside the plan, any gains are tax-deferred until distribution. But you cannot use the crypto to make personal purchases or lend it to yourself. As long as the plan owns it and the trustee manages it, it's allowed. Luna: Is there any case of someone using a solo 401 to invest in a startup? I know angel investing is hot among the affluent. Lucas: Absolutely. The plan can invest in private equity, including startup shares. You can buy equity in a private company, and if that company goes public or gets acquired, the gains are inside the plan. The key is that the investment must be at fair market value, and you cannot invest in a company where you or a family member are a majority owner or have significant control. But a third-party startup? Yes, perfectly fine. Luna: Let's talk about the practical steps. Someone listening right now is intrigued. How do they actually set one up? Lucas: Step one: establish a business. You need a sole proprietorship, LLC, S corp, or C corp. If you have self-employment income, you're good. Step two: adopt a solo 401 plan document. Providers like Rocket Dollar or Solo 401k.com offer pre-approved documents that comply with IRS rules. Step three: set up a trust or account for the plan. Checkbook control means you'll also open a bank account in the plan's name. Step four: fund the plan with contributions or rollovers from other retirement accounts. That's it. You're ready to invest. Luna: One thing I've seen people trip up on is the rollover. If you have a traditional IRA, you can roll it into a solo 401 to get the checkbook control. But you have to be careful about the timing and make sure it's done as a direct rollover. Lucas: Right. You want a direct rollover — the IRA custodian sends the funds directly to the solo 401 plan. If you take a distribution and then deposit it, you have 60 days to complete the rollover, and you can only do that once per year. Also, if you have a Roth IRA, you cannot roll that into a solo 401 because solo 401 Roth contributions have different rules. So keep your Roth IRA separate. Luna: What about fees? I assume it's not free. Lucas: Setting up a solo 401 through a provider usually costs between $50 and $200. Some charge annual fees of $100 to $300. Then if you buy assets like real estate, there may be transaction fees. But compared to the potential tax savings and the control, it's negligible for most high-income earners. Luna: This really does feel like a secret weapon for the self-employed. It's like having a corporate 401 but with the keys to the whole investment universe. Lucas: Yeah, and that's the point. The same structures that big companies use for their retirement plans — the ability to invest in alternative assets, to borrow, to use leverage — are available to you if you set up the right plan. The solo 401 democratizes access to institutional-quality investment strategies. Luna: Speaking of access, you know what's interesting? A lot of our listeners are the kind of people who run their own businesses or have side hustles. And they're always looking for ways to optimise their tax situation. I think a lot of them might not know this exists. Lucas: That's exactly why we're covering it. And if this conversation has helped you think about a decision differently, or given you a concrete next step, that's the whole point. We keep this podcast ad-free and listener-supported, and a handful of listeners chip in monthly through Buy Me a Coffee — that's buy me a coffee dot com slash fexingo — and that literally funds making this many of these episodes. Luna: Yeah, it's a small number of people making it possible for us to dive into these niche topics without any sponsor pressure. So thank you to those folks. Lucas: Alright, back to the solo 401. One final point I want to make: this isn't for everyone. If you're comfortable with the standard menu of index funds and ETFs, a regular 401 is simpler and fine. But if you have a high income, a business, and a desire to invest in things that aren't in the S&P 500, the self-directed solo 401 is worth a look. Just talk to a tax professional or a financial advisor who understands these rules before diving in. Luna: And remember the prohibited transaction lines. Don't buy a vacation home for yourself with it. Lucas: Right. Don't do that. Keep the plan assets working for retirement, not for current personal use. That's the deal. Luna: I think the big takeaway is: if you're self-employed, your retirement account doesn't have to be boring. You have options. Lucas: Exactly. That's the high net worth mindset: knowing what's available and using it intelligently. Thanks for listening, and we'll see you next time.