Profit Sharing Plans

Question 1

Types of Profit Sharing Plans

Answer 1

Stock bonus plan

Profit sharing plan

ESOP

401k

Thrift Plans (after - tax)

Question 2

Profit Sharing Plan characteristics

Answer 2

DC Plan

EE participates in profits

Uses definite predetermined formula for allocating contributions (must nondiscriminatory)

Either Noncontributory or contributory

Question 3

Profit sharing plan Contributions & Deductions

Answer 3

Contributions are discretionary, but must be “substantial & recurring”

Company doesn’t need profit for contribution

Limited to 25% of total ER covered comp

Limited to lesser of 100% of comp or $66,000 per EE per year

Question 4

401k Vesting

Answer 4

EE’s contributions 100% vested

ER match:

2 to 6 graduated (0,20%,40%,60%….)

Or

3 year cliff

Question 5

ADP Test (Actual Deferral Percentage)

Answer 5

Limits EE elective deferrals for the HC based on elective deferrals of the NHC

Ensure the HC aren’t taking too much more advantage of the plan than NHC

Question 6

ADP Testing Rules for HC and NHC percentages

Answer 6

If ADP for NHC is:

0-2% > HC is 2 x ADP for NHC

2-8% -> 2% + ADP for NHC

8% and over -> 1.25 x ADP for NHC

Question 7

If you fail the ADP test: Correct by any of these?

Answer 7

Corrective Distributions
- decreases ADP of HC

Re-characterization: change from pre-tax to after-tax contributions
- Decreases ADP of HC

Qualified Non-elective contributions
- increases ADP of NHC
- 100% vested

Qualified Matching Contributions
- Increases ADP of NHC
- 100% vested
- Made only to EEs who elected to defer in current year

Question 8

ACP Test (Actual Contribution Percentage)

Answer 8

Determined utilizing:
- EE after-tax thrift contortions
- ER matching contributions

Uses same scale and corrective procedures as ADP

Question 9

Safe Harbor 401k

Answer 9

ER contributions are 100% vested at all times!

NOT required to pass ADP or ACP tests

ER must do 1 of following:

3% non-elective contribution to all eligible EEs

Matching contribution
- 100% of EE contribution up to 3% and 50% of EE contribution from 3% to 5%

Question 10

Stock Bonus Plan - NUA

Answer 10

Lump Sum

In-kind distributions of ER securities (ESOP or Stock Bonus Plan)

FMV at Date of distribution
Less: Value of stock at date of ER contribution = NUA

Question 11

NUA: Tax status in year of Distribution of ER stock?

Answer 11

Ordinary Income
- value at date of ER contribution

10% penalty if under age 59.5

Deferred Long-Term Capital gain (NUA)

Question 12

NUA: Tax status At Date of Sale of ER stock?

Answer 12

Recognized deferred
Long-Term capital gain
(Regardless of holding period)

Any subsequent gain/loss short/long term capital gain is based on holding period since date of distribution

Question 13

NUA: Peter sell stock 6 months after he received it as a distribution from stock bonus plan. When it’s distributed, it had a NUA of $7,500. He also had ordinary income from the distribution of $29,000. FMV of stock at time of sale was $81,000. How much of the sale price is subject to Long-Term capital gain?

Answer 13

ONLY the $7,500 is
Long-term capital gain

$81,000 - $29,000 =
$52,000 gain above basis

$52,000 - $7,500 =
$44,500 Short-Term capital gain

Question 14

ESOP

Answer 14

Seller can defer gains if proceeds reinvested within 12 months

Is a DC Profit Sharing Plan
- established as a trust

Question 15

ESOP Voting Rights

Answer 15

Public Company = Participants have voting rights and earn dividends

Private company = Participants must be allowed to vote in major corporate decisions
(M&A, liquidation, sale..)
(Trustee of the ESOP votes in all other matters)

Question 16

ESOP Contributions

Answer 16

Cash: used to buy ER stock, or to pay bank debt (Leveraged ESOP)

Stock: ER gets Tax deduction for value of stock or the cash at date of contribution.
- Subject to 25% of ER covered comp limit
- Dividends paid are deductible

Question 17

ESOP Allocations

Answer 17

Age-based

Can NOT use SS integration

401k, 403b, Simple’s, can NOT use SS integration.
(The profit sharing piece of a 401k CAN use SS integration, CODA portion can’t)

Question 18

ESOP Distribution Options

Answer 18

Lump Sum, then use NUA

Substantially equal periodic payment requirement option
(Can demand equal distributions for no longer than 5 years, unless account is more than $1,330,000 in which case the period can be extended by 1 year for each additional $265k up to total of 10 years. Can’t do NUA)

Question 19

ESOP Put Options

Answer 19

EE can make ER to repurchase stock at FMV on the distribution date

• w/in 60 days after distribution
  Or
• w/in 60 day period during following plan year

Reduces EE’s risk, but increases ER’s cash requirements

Question 20

ESOP Diversification Requirement

Answer 20

Qualified Participant can force diversification in his account during qualified election period

Is the 6-plan year period after becoming a qualified participant

Question 21

ESOP Qualified Participant

Answer 21

At least age 55

Completed 10 years participation in the plan

Question 22

ESOP Diversification Requirement: Amounts and time line?

Answer 22

Can diversify 25% of post-1986 stock balance for first 5 years

And

50% of post-1986 stock balance during 6th and final year