Is the profit sharing contribution limited by earned income for a self employed business owner? I contributed $24,500 as an employee and $7500 as an employer.

[ClareCA]

I work as a Notary, and so I am exempt from self-employment tax.  I would like to know if I overcontributed to my 401K.  I am over 50 and contributed $24,500 as an employee and $7500 as an employer.  I am uncertain if the employer matching contributions have to be 20 or 25 percent of the net earnings.  I have my own unincorporated business.  My net earnings are $26,624.  I called my custodian to see if I could withdraw some of the employer matching contributions, but apparently, it is difficult to do, and I could be charged a 10% penalty for the excess contribution.  I tried to work with the Keogh Sep Worksheet but found it difficult to estimate the adjustment amount. Thanks in advance for your help.

[MarilynG · Accepted solution]

Employer matching contributions can be up to 25%, so using $26,624, that amount would be $6,656.

Employee contributions can be 100% of income (up to $18,500, plus $6,000 catch-up if over 50), for a total of $24,500.

Click the link for a more detailed article self-employed retirement savings.

[ClareCA]

Thank you, MarilynG.  That link didn't work.  Would love to read it if you can re-post the link.

[MargaretL]

The link has been fixed...

[dmertz]

With net profit of $26,624, the deductible portion of SE taxes being $0, a regular elective deferral of $18,500 and a catch-up elective deferral of $6,000, your maximum permissible employer contribution is :

($26,624 - $0 - $18,500) / 2 = $4,062

This is due to the section 415(c)(1)(B) limit which stipulates that your employer contribution cannot be more than 100% of income which is your net profit minus the sum of the deductible portion of SE taxes plus your regular elective deferrals and employer contributions:

$26,624 - ($0 + $18,500 + $4,062) = $4,062

TurboTax will calculate this automatically when you mark the Maximize box for an individual 401(k).

[dmertz]

Also, if the excess is retained in the plan, the 10% penalty is reportable on Form 5330.  Form 5330 is not supported by TurboTax, so you'll have to prepare it by hand and mail it separately from filing your tax return.  See the Form 5330 and its instructions:

<a rel="nofollow" target="_blank" href="https://www.irs.gov/pub/irs-pdf/f5330.pdf">https://www.irs.gov/pub/irs-pdf/f5330.pdf</a>
<a rel="nofollow" target="_blank" href="https://www.irs.gov/pub/irs-pdf/i5330.pdf">https://www.irs.gov/pub/irs-pdf/i5330.pdf</a>

[ClareCA]

Thank you so much for your help, dmertz.  And so, if I am understanding right, the amount contributed as an employee of $18,500 is fine, but the amount contributed as an employer is equal to the amount contributed for catch-up, $4062, and so I've overcontributed to both.  I know I can reverse the excess for the employee contributions, but my custodian seemed to suggest that it wasn't as easy to remove the employer contributions.  Thanks for your help.

[dmertz]

Your stated $24,500 of regular and catch-up elective deferrals is fine.  Your stated $7,500 of employer contribution exceeds your maximum permissible employer contribution of $4,062 by $3,438.

I think what you are trying to do is say that you contributed only $4,062 of an employer contribution and that you made elective deferrals of $27,938.  That's a bit iffy, particularly if you designated to the plan custodian that $24,500 was elective deferral and $7,500 was employer contribution as would be done with the custodian that I use for my individual 401(k).  The election to defer a particular amount must be made by the end of the year for which the contribution is being made, and allowing yourself to elect a $27,938 deferral seems sketchy.

[ClareCA]

Hi again, I answered you, but somehow my answer disappeared.  I wasn't suggesting that the amounts or designations are different than stated.  I definitely contributed $24,500 as an employee and $7500 as a employer with my custodian.  When I called them today to see if they could reverse some of the employer contribution, they seem to suggest that both the employee contributions together with the employer contributions had to be equal to or less than my net income of $26,624, and so they seem to suggest that I had contributed too much to both.  They said that the employee contributions could be easily reversed but that employer contributions could not.  They did mention a suspension account in which the excess could be applied to 2019 taxes, but I think the 10% penalty still applied.  Thanks for your time and assistance.

[dmertz]

I forgot to factor in the same limitation that TurboTaxMarylinG mentioned, that your total contributions are also limited to net profit (minus $0 of deductible SE taxes), so the total contributions cannot exceed $26,624.  So if you made $4,062 of employer contributions your elective deferrals would be limited to $18,500 of regular elective deferrals and $4,062 of catch-up.  After reviewing this again, I think that's what you were saying and is what TurboTax should be calculating.

Yes, whatever portion of the contribution is not deductible, is retained in the account and 10% penalty paid with Form 5330 can be applied toward your 2019 contribution.  But with your contributions totaling $5,376 more than permitted, you might have to have a bit higher income in 2019 to be able to apply all of that as an employer contribution for 2019.

[ClareCA]

I understand.  Thank you so much for your answer and for staying up late last night to help me.  I think I can withdraw the excess of the catch up of $1938 without too much difficulty, but the employer contribution over payment of $3438 I guess will have to remain with the 10% penalty.  Do I file the form 5330 that you linked to above with this year's taxes?  Many thanks again.  I'll never contribute to my 401k again at any other time of the year except after computing my taxes!

[dmertz]

The instructions for Form 5330 say to mail it to Ogden, UT.  In an earlier comment I provided the link to these instructions.

[ClareCA]

Many thanks again for your assistance.  One more quick question if you have the time.  Schedule 1, Line 27 is showing a deductible part of SE tax, but I have no self employment tax as a notary.  Should that be there?  It doesn't look like there is a Schedule SE.  Do I need one?  Many thanks again.

[dmertz]

Go to Business -> Business Income & Expenses -> Business Taxes -> Self-Employment tax, click Make Adjustments, then enter your net income as a Notary Public (from Schedule C, line 31, assuming on other SE income on that Schedule C).

One thing that bothers me is that TurboTax puts on Part III, line 2a of the Keogh/SEP Wks the amount of SE taxes that would be deductible if you were subject to SE tax.  I don't understand why it does not have $0 there and on line 2c.  I only get the result I described above if I override line 2c with $0.

[ClareCA]

Perfect.  I did that, and TT does already show that I pay $0 se tax, and it does have my net income on the adjustments part, and when I checked back, Schedule 1 was fine.  Yes, on the Keogh/Sep Worksheet, I couldn't get the adjustment right, and so I did an override on lines 2a, 2b, and 2c and put my net earnings on line 3.  What I don't understand is why Line 21 is different from Part V, line 1 and 2.  Line 21 says my max contribution is $26,624, my net come, but Lines 1 and 2 of Part V say $24,743.