Retirement Flashcards
Needs Analysis
Step 1: Inflate using inflation
Step 2: “I Need” - Use real return to get PV (begin mode for retirement payments or education payments)
Step 3: PV to FV to find either the PMT or PV needed using the rate of return
Assumptions for Retirement Planning
Inflation:
- Rate of inflation can vary from person to person depending on personal inflow and outflow.
- Retirees may be more sensitive to inflation because they are more dependent on services and medical costs.
Retirement Period and Life Expectancy:
- Always good to add 5-10 years to be sure they can live longer
- Sometimes longer if a younger spouse to if they need to retire early
Lifestyle
- Really need to understand the lifestyle expenses of the client, in retirement too. Helpful tools include a percent of earning like 75% of current income and needs to be monitored periodically.
- Factors: where they live, travel, LTC, part-time work, extra care, special needs of others.
Total Return
- Need a return that works with the client’s risk tolerance
- Questions on this often are unrealistic to either just assume a higher return or get riskier to get a higher return because it is not always plausible.
Income Sources
- Equity in home, assets, and SS can be great
Financial Needs
Living costs
Charitable objectives
Medical costs
Straight-line vs probability analysis
pure annuity vs capital preservation
pension maximization strategy
Alternatives to projected cash shortfalls
Save more
Work longer
Increase investment risks (be careful with this on questions since it is seldom realistic)
Programs under SS
Social Security (OASDI)
Medicare
Unemployment
Supplemental Security Income
Fully Insured vs Currently Insured
Fully Insured is someone who has gained 40 credits. Max you can earn is 4 credits in one year.
Being fully insured qualifies you for SS retirement and survivor benefits.
Currently insured is 6 credits. Eligible for lump-sum ($255) death benefit for spouse or dependent, surviving spouse’s benefits (if kids under 16), or a dependent benefit
Railroad workers
Have their own SS payment system but share Medicare.
Eligibility for SS Retirement and Disability Benefits
Retirement: Need to be at least 62 or older
Disability: Under 65, cannot have gainful activity with a disability that has, or will expect to last 12 months or more, or result in death. (5-month waiting period)
Eligibility for Spousal Benefits of a Retired or Disabled Worker
- Over 62
- Have a qualifying child under 16
- Have a child that was disabled before 22
Eligibility for Spousal Benefits of a Deceased Worker
- Over 60
- Have a qualifying child under 16
- Have a child that was disabled before 22
Eligibility for Spousal Benefits when Divorced
Need to have been married for at least 10 years, never remarried, and separated for 2 years before claiming benefits
- Over 62 (other worker does not have to have started taking payments yet)
- Have a qualifying child under 16
- Have a child that was disabled before 22
If divorced spouse died then the survivor can take at 60
Eligibility for Dependent Benefits
- Under 19 and a full-time student
- Over 18 but disabled before 22
Lump-Sum Death Benefit
Spouse who was living in the same household of deceased OR dependent child will get $255
Social Security Benefits Calculation
Primary Insurance Amount (PIA) is used to determine the amount of each monthly benefit payable under SS.
Spouse is entitled to the minimum of 50% of the workers PIA.
Benefits before FRA
If taking before FRA (67) then the benefits are reduced
Reduction Calculation: ((number of months before / 180) * PIA) - PIA
Working After Retirement vs Income Tax of Benefits
Working after retirement reduces the amount of your SS benefits received.
Income taxation depends on your MAGI plus 1/2 of your SS benefits to see how much of the SS benefits are included in taxable income.
Withdrawing a SS Application
Can only change your election once within 12 months of the initial claim and need to repay the entire amount (interest not needed).
Qualified vs Nonqualified Plans
Qualified:
- No discrimination
- ERISA requirements
- Immediate tax deduction for employer
- Earnings grow tax deferred
- Distributions are taxable as ordinary income (Not NUA or 10 year average)
- vesting
Nonqualified:
- Discriminate
- No ERISA
- Employer gets tax deduction when employee is taxed
- Earnings are taxable to employer
- Distributions at ordinary income
- no vesting
Defined Benefit vs Defined Contribution Plans
All Qualified Plans
DB:
- $345k max salary contributions can be based off
- $275k max benefit in retirement
- technically no limit on contributions by employer
- has guarantees
DC:
- Max contribution of 25% of employee pay (25% max deduction)
- max contribution of lesser of 100% of pay or $69k
- no guarantees
Cash Balance Plan
- Favors younger employees
- Need stable cash flows
- Past service credits allowed (not required)
- Forfeitures MUST reduce employer contributions
- PBGC insured
- Contribution and interest rate are guaranteed, benefit is NOT
Forfeitures for DB vs DC Plans
DB plans MUST reduce employer contributions
DB plan provides a specified payout amount, the rest of the pension plans annuitize the end balance (money purchase, cash balance, target benefit)
DC plans MAY either reduce employer contributions OR go to employees
Money purchase and target benefit pension plans
These have mandatory contribution requirements.
Target benefit requires actuary initially for base employer contribution
Investment risk falls on employee here
Solo 401(k)
Solo 401k:
- No coverage testing and no nondiscrimination
- Can do elective deferral AND employer contribution with age 50 catch up.
- Only permitted with one or two people (spouse)
- Could be larger than SEP contribution for self-employed
Safe Harbor 401(k)
- Automatically satisfies the nondiscrimination tests and top-heavy rules
- Either a non-elective 3% OR 100% on first 3% match and then 50% on next 2%
Deductibility of Stock bonus plan dividends
Need to be:
- paid in cash to participant or beneficiary
- distributed to participant or beneficiary
- used to make payments on loans
- paid to plan and reinvested
ESOP diversification
If 55 or older and you have been there 10 years, you have the right to diversify up to 50% of the balance. Need to be offered 3 investments or cash it out.
Cross-Testing (Age-weighted)
Plan is to provide a max benefit to HCE while benefits for other employees are designed to provide the minimum. Basically its trying to separate classes to then give the classes more benefits.
New Comparability: Managers are separated and they have a specific formula used for their contribution.
Cross testing (Not ESOPs):
- Tests DC plans for nondiscrimination on basis of benefits and DB plans on basis of contributions.
- no fixed formula, instead, the plan is designed to provide max benefits to HCE and lowest to NCHE.
- Needs to be the lower of 5% or 1/3 of HCE benefits
- If age-weighted, need to have an average difference of 15 years between NCHEs and HCEs
Cross tested DC plans are tested in terms of benefits and DB are tested in terms of contributions.
Choosing the best plan
Money Purchase
- Want stable work force, simple plan, stable cash flow, young employees
Target Benefit
- alternative to a DB plan but has lower cost and more simple
Profit-Sharing
- profit varies from year to year, wants a qualified plan, employees are young
401k plan
- provide a salary deferral option and can afford minimal expenses, increase savings on a tax deductible basis
ESOP and Stock Bonus
- broaden ownership, create a market, give employees a sense of ownership and a way to acquire stock
DB plan
- maximize employer benefits and to older employees
Cash balance
- more simple DB plan, lump sum payout is lower and benefit is annuitized at the end
412(i) Plan
DB plan funded completely with insurance, life and annuities. Exempt from minimum funding standards.
This is best for those that needs life insurance.
Fluctuations in Plans
Most DC plans:
- will contribute the same amount regardless of market returns, salary changes will change contributions and so can forfeitures
DB plans:
- need to fund depending on returns
DB Plan Payout Formulas
Max payout is lower of $275k or average of three last years salaries capped at $345k
Unit benefit: Percentage of earnings per year of service formula (takes into account years of service and pay and is one of the best)
Final average: Average over a number of years - usually 3 to 5
Past service credit: for those that worked before the inception of the plan and important for NEW plans
DB and DC (qualified plans) vs SIMPLE and SEP (nonqualified)
Qualified
1. ERISA
2. Age and service eligibility
3. Top heavy rules (Key)
4. Vesting schedules
5. Coverage testing / ADP & ACP testing
6. Cross testing (not ESOP)
7. Integration (not ESOP)
8. Aggregate deferrals and annual additions (same)
9. investment options
10. lump-sum distribution (10-year)
11. rollover
12. distributions (20% withholding and possible 10% penalty)
13. QP penalty exceptions
14. RBD (73)
15. QJSA / QPRA / QDRO
16. Creditor protection (ERISA)
17. Deductibility of contributions
18. Need to establish in tax year for which you want to take deduction
Nonqualified
1. No ERISA
2. SIMPLE and SEP have eligibility
3. None
4. None
5. None
6. None
7. Integration is SEP only
8. Aggregate deferrals and annual additions (same)
9. investment options (IRA rules / no life insurance)
10. None
11. rollover - IRA rules
12. distributions (possible 10% penalty)(SIMPLE 25% first 2 years)
13. IRA penalty exceptions
14. RBD (73)
15. None
16. Varying creditor protection
17. Deductibility subject to phaseout
18. Establishment date varies by type of plan
Qualified Plan Eligibility Flow-Through
First is the age and service requirements
then
Coverage requirements
then
Minimum participation for DB plans
or
ADP/ACP testing for DC plans for failed coverage requirements
Coverage Requirements Test
Ratio Percentage Test
- Plan must cover a percentage of NCHEs that is at least 70% of HCEs who are covered.
Average Benefit Test
- Average benefits for all NCHEs must be at least 70% of those for HCEs.
If failed, then you move to ADP/ACP
If failed, company will need to take corrective steps to get back in
Minimum Participation for DB plans only
Must benefit the lesser of:
- 50 employees
- Greater of 40% of all eligible employees or 2 employees (1 if there is only 1)
Top-Heavy Plans
A plan is top-heavy is more than 60% of its aggregate accrued benefits are allocated to key employees.
Vesting speeds for employee retention
If the goal is to RETAIN employees then choose the 2-6 or 3-7 graded vesting schedule, if not to retain then choose the cliff.
Family Attribution Rules
This can affect anyone that is a key employee or HCE that has more than 5% ownership.
Employees who are the family of this 5% or more owner Key or HCE are deemed to be Key or HCE employees themselves because of their relationship even if they don’t meet the requirements.
This includes spouse, parent, child, or grandparent of >5% owner.
Can be child under 21 if the parent is the owner.
Not siblings
ADP / ACP Testing
401ks, ESOPs, and 403(b)s are not tested on discrimination rules but must satisfy ADP and ACP testing which are both focused on contributions.
NHCE: 0%-2% then HCE can contribute a max of x 2%
NHCE: 2%-8% then HCE can contribute a max of + 2%
Deferral and Employer Contribution Max (Controlled Groups)
Deferral is capped no matter how many different places you go to work.
Contributions can be applied separately to each unrelated employer plan so you could have max employer matches at unrelated places. Max of 100% of salary or $69k per employer for DC plans.
Controlled Groups that are considered “related”
- Parent-Subsidiary: One entity that owns at least 80% of another entity.
- Brother-Sister: Five or fewer owners of two or more entities that own 80% or more of each.
- Affiliated Service Group: Apply primarily to service organization that provide professional services in the field of health, law, accounting, engineering.
- Employee Leasing: Reduce discrimination potential from an employer leasing an employee rather than hiring outright.
If working between any of these “related” companies, than the aggregate limits for the employer apply the same.
Deduction and Contribution Limits
404(c) limits the max deduction and contribution to 25% of eligible salaries
You can contribute more than that per person if you have more than one employee (more to one and less to another)
415 limits additions (contributions, deferrals, and forfeitures) to the lesser of $69k or 100% of salary
If excess additions are received, you can reallocate, apply in later years, or use to reduce plan contributions
Definition of Compensation
Taxable compensation paid or accrued during a tax year. Also includes elective deferrals under 401ks and 457s in addition to salary reduction by a 125 plan.
Elective deferral max with more than one employer
401k / 403b / SIMPLE - $23,000 + $7,500
SIMPLE and another SIMPLE - $16,000 + $3,500
Keogh plans
These are qualified plans for sole proprietors and partnerships
Top heavy plans effect on contributions or benefits
Need to provide a minimum benefit for non-key employees if top heavy
DB Plans: Need to provide a 2% of compensation * years of service (max of 10 years) (B is 2nd letter)
DC Plans: Need to provide a 3% employer contribution of each non-key employee’s salary (C is 3rd letter)
Loans from Qualified Plans
Can borrow tax free if:
- Loans are under a legit agreement
- Total loan is less than 50% or vested balance up to $50k. Can borrow more percentage wise if under $10k
- Loan is repaid over 5 years unless used for personal principal residence. Does not need to be pledged as security to pay over 5 years.
- Payments are to be made in level installments at least quarterly.
Need spouse approval if married
Loan needs to be secured
Tax free and penalty free from a plan.
Interest on Qualified Loans
Never deductible for key employees and treated as consumer interest unless:
- Loan is for participant’s primary residence
- Loan is secured by primary residence
(Cannot be a key employee)
Qualified plans are not required to provide loans but can. IRAs, SEPs, SIMPLEs, and Roth accounts are not permitted.
Loans need to be available to all participants
Percentage of salary for SEPs
If a self-employed person, than it is 20% (.1859)
If in a corporation with 1 person then 25% of salary
IRA Basics
Max contribution is $7k with a $1k catch up over 50
Need compensation to contribute, and that is counted as wages, salaries, tips, professional fees, bonuses, alimony and separate-maintenance payments are counted (pre-2019)
If retired, they do not have income
Spousal IRA
If married person does not work they can still contribute if the couple have enough collective income
Roth IRA for Singles and Eligibility
Single: $146k-$161k
MFS: $0-$10k
Eligibility does not matter for Roth, only for deductibility. Can always make a nondeductible contribution if active.
Active means you are receiving additions in your account. Employer, employee, or forfeitures.
$7k limit is between deductible and Roth. No mandatory distribution from Roth. Contributions can be made after 73.
Borrowing from an IRA
NOT ALLOWED
If all or part of an IRA is pledged as security for a loan, that portion is a distribution.
It can disqualify the IRA
Roth Conversions
No income level to make a Roth conversion.
Roth conversion does NOT satisfy a RMD.
Distributions (60 days) from a regular IRA or SEP, SIMPLE, 403b, or Governmental 457 can be converted to a Roth.
Non-spouse beneficiaries inheriting a Roth IRA
Any non-spouse beneficiary who inherits a qualified plan can convert it to an inherited Roth IRA. Needs to be a direct transfer.
Needs to be distributed within 10 years.
Roth Account Distribution Penalty Order
First: Contributions (never taxed or penalized and can be pulled whenever)
Second: Conversions: (never taxed)
- Held for 5 years: No penalty
- Held for less than 5 years: If for a qualified reason then no penalty. If not a qualified reason, penalty.
Third: Earnings: (can be taxed and penalized)
- Held for 5 years: If for 59-1/2, death, disability, or first home, then tax and penalty free.
- Held for 5 years: If for any other qualified reason, no penalty but taxed.
- Held for less than 5 years: If qualified reason, then no penalty but taxed.
- If no reason whether held for 5 years or not, then it is penalized and taxed.
Roth IRA of a deceased owner
Need to:
- Distribute within 5 years if no designated beneficiary
- Need to distribute over 10 years by designated beneficiary
- If spouse, they can wait until the deceased would’ve been 73 and take RMDs (with an inherited IRA based on survivor life expectancy) or rollover to their own account and treat as their own (no distributions).
- EDB over their lifetime.
Re-Characterizing Roth Contributions
This is when you have excess contributions into a Roth IRA.
When you contribute early in the year and your AGI is over the phaseout, you can undo the contribution by changing it to a traditional IRA.
Need to get the trustee to change it.
Roth 401k
Only 401k, 403b, and Governmental 457 plans can offer Roths. Same max deferral and no income limits.
Rollovers are only into other Roth accounts.
For Roth 401k, the distribution must be made after the 5-year period and either for 59-1/2, death, or disability (no first home).
Subject to normal in service distribution rules and NO RMDs.
Employer match can be Roth or pre-tax.
ABLE Accounts
Can contribute $18k annually. Distributions for qualified disability expenses are not included in gross income if the person was disabled before 26. Exempt from $2k limit for Medicaid.
Can rollover 529 to ABLE and it counts as a contribution as long as for the same beneficiary.
SEPs
Contributions must be the same for employees as it is for owners.
Part time workers count
Completely at discretion of employer
This is a great option for those without many short-term workers, but if you have a lot, you will have to contribute for them
25% for employees and 20% for employer if self employed
Very easy and inexpensive to start
SARSEP
No more than 25 employees
50% of eligible employees must participate
Deferral limit is $23k
New employees can be grandfathered in
SIMPLE Plan Details
$16,000 max deferral with $3,500 catch up over 50 (technically it is $10k indexed)
No nondiscrimination testing. Fully vested
Employer needs to either make a 2% non-elective contribution or match 100% on first 3% (can drop down to 1% in no more than 2 out of 5 years)
Eligible employees are those who have worked there for 2 years and earned $5k and will earn $5k this year
Cannot offer any other plan at the same time.
Fully vested and additional 25% penalty if taken out in first 2 years.
SIMPLE 401k adopts the SIMPLE format but for a 401k. Exempt from ADP and ACP and from top-heavy. It is an ERISA plan (exempt from creditors) but may not choose 1% match election.
Most people choose SIMPLE IRA
Not integrated with SS
Max employer contribution is 3% up to $533,333 so $16k
403(b) Plans
Age 50 catch-up of $7,500 and and additional $3k contribution for those who have worked there for 15 years in addition to the catch up.
Limited to annuity contracts, life insurance or mutual funds. NO individual securities.
Cannot be a government directly.
For charities and schools mainly
457 Plans
Government units, NOT churches.
Max of $23k deferral.
Final three years you can contribute lesser of amount you did not max last year or $23k.
Only greater of that amount or age 50 catch up of $7,500 is allowed.
457 plans are NOT coordinated with other plans, so you can have this too. Does not count for active participation for IRA deductibility.
Governmental 457s can be rolled over, nongovernmental 457s cannot be.
Subject to QDROs.
Subject to SS and withholding when paid out.
ERISA and Fiduciary Definition
All the details and requirements for qualified plans.
Imposes duties, standards, and prohibitions on plan fiduciaries.
Fiduciary:
- Anyone who renders investment advice for a fee directly or indirectly.
- With respect to money or other qualified plans.
DOL Regulations
Investment Advice (2 parts)
- Value of advisability or investing in property
- Regularly gives advice to the plan written or not on the plan assets either with direct or indirect control over a plan.
DOL recognizes that broker/dealers give a lot of research. Their position is that the provision of research is not itself the rendering of investment advice unless done pursuant to a mutual agreement.
Fiduciary liability
ERISA standards:
- Solely for the beneficiaries interest
- For exclusive purpose of providing benefits to beneficiaries
- With prudence
- Diversification
Prudence and diversification are very big in this. Not a test of performance but of prudence and diversification.
Fiduciary cannot receive anything from the plan or deal with the assets in its own account.
Qualified Plan Regulators
ERISA is a big player.
DOL enables ERISA.
PBGC governs DB plans.
IRC does the tax side of stuff for qualified plans.
PBGC Benefits
Guarantees DB and Cash balance pension plans. Guarantees a monthly benefit and covers non-forfeitable benefits and pension benefits and only vested benefits.
DB plans can be voluntarily terminated by the company (if they have enough assets to pay) or involuntarily terminated by the PBGC if:
- Employer is in a bankruptcy liquidation
- Employer is in a bankruptcy reorganization
- Employer can prove the plan needs to end
Only PBGC can involuntarily terminate a plan.
Establishing a Qualified Plan
Plan documents need to be established within the tax year when you want to take the deduction for its contribution.
Safe harbor 401ks need to be adopted before the beginning of the plan year.
Standard 401ks with deferrals need to be established before the first deferral can be made.
SIMPLE 401ks may be adopted anytime on or after Jan 1st but not after October 1st.
SEPs can be set up after the tax year until finishing the return.
UBTI
Unrelated business taxable income that exceeds income is subject to income tax in that year.
UBITA is only from limited partnerships and margined accounts.
Taxation of Life Insurance in a Qualified Plan
Pure death benefit (death benefit - cash value) is excluded from income.
Pure insurance portion (cash value) is taxed as ordinary income.
Qualified plans can hold disability insurance.
Only profit sharing plans can hold second-to-die policies
Secure Act 2.0 Highlights
Catch-up contributions for those making over $145k has to be Roth.
Can convert 529 balances to Roth up to a lifetime amount of $35k and can only contribute the limit each year. Must be opened for 15 years and can’t contribute anything from past 5 years.
Premature Distributions
In-Service Distributions from Qualified Plans
These are distributions from a qualified plan WHILE still working. Allowed only in 3 situations:
1. Attainment of age 59-1/2 for DC plans
2. Attainment of age 62 for DB plans
3. One of the hardship withdrawals
Hardship is immediate and heavy needs to meet needs test (actually need it) and resources test (don’t have the resources currently)
Hardship Withdrawal Safe Harbor Reasons
- Medical expenses for participant or dependents
- Tuition, room, board, for post-secondary education
- Funeral expenses
- Purchase a primary residence
- Prevent eviction from primary residence
- Repair damage to primary residence
Cannot be in excess of immediate need and limited to vested amount.
Does not mean it will not be subject to tax and 10% penalty!
Participant cannot be forced to take a loan or stop contributing to 401k
Can also take hardship for other reasons but those are safe harbor reasons. Can take hardship if you have an immediate and heavy financial need. The reasons automatically qualify but I guess it can be others also.
Substantially Equal Payments Section 72t
Exception to 10% penalty
Payments need to be:
- Paid at least annually
- Greater of 5 years or to age 59-1/2
- Based on reasonable life expectancy
- Based on reasonable interest rate
- Based on reasonable mortality
If changing the payments at all, then all the amount previously paid are taxed and subject to 10% penalty at anything before age 59-1/2.
QJSA, QOSA, and QPSA
QJSA: Post-retirement death benefit for spouse. (has to be the spouse) Qualified pension plans (money purchase and target benefit too) are required to provide this and must not be less than 50% or more than 100%
QOSA: Optional survivor annuity, must be at least a 50% benefit and participant can elect out of only with written spousal consent. Election must be made during 180 day period prior to annuity start date.
QPSA: Preretirement benefit for participant’s spouse paid on death of someone before the start date of the QJSA. Can’t be less than QJSA.
Rollovers
QDRO has to go into another plan.
SIMPLEs can only be rolled over after 2 years or go to another SIMPLE. SIMPLE also has to be 2 years old to accept a rollover.
Nondeductible IRA contributions cannot be rolled into a qualified plan.
IRA owner can withdraw the balance and reinvest within 60 days without a penalty. Once per year.
Direct Transfer vs Direct Distribution
Distributions from qualified plans are subject to a 20% automatic withholding. Check is payable to the participant. It is tax free if transferred into another qualified plan or rollover IRA within 60 days.
Direct Transfers go directly from a qualified plan to the rollover account or another qualified plan. Employees cannot take a direct distribution.
Conduit IRAs
Great way to temporarily hold qualified assets between going from one qualified plan to another. Can hold at a conduit IRA.
RMD for people still working
If still working and NOT a 5% owner of a company, then you can defer that qualified plans RMDs.
RMD for younger spouses
Divide the balance at the end of last year by the age factor.
If spouse is more than 10 years younger, then you can use a lower number and a longer distribution period.
Penalties for RMDs
25% penalty if you don’t take it
10% if you take it within 2 years
QCD
Charitable distribution from your qualified plan to a charity to a max of $105,000 annually.
Can start at 70-1/2 and no charitable deduction but also not included in income. Satisfies RMDs.
Spouse Beneficiary
Same for Death before and after the RBD
- Keep assets in the owner’s IRA and treat as theirs still (take RMDs when deceased would’ve turned 73 based on surviving spouse’s life expectancy)(take RMDs the year after death)(rolling into an inherited IRA for early withdrawal) or 5 years if that is longer
- Roll assets into your own IRA and take based on your life
If taking RMDs at deceased spouse age you still use your life expectancy
With deceased spouse of qualified account you can roll into your IRA, or roll into your qualified account, or into inherited IRA.
Non-Spouse Beneficiary (not eligible designated beneficiary)
Death before the RBD:
Take within 10 years (no RMDs)
Death after the RBD:
Take over 10 years (RMDs)
Non-Spouse Beneficiary (eligible designated beneficiary)
Can take RMDs based on their life expectancy for these five situations:
1. Spouse
2. Child under 18 (becomes 10 years once 18)
3. Disabled person
4. Chronically ill person
5. Person who is not more than 10 years younger
Non person beneficiary
Death before the RBD:
Take within 5 years (no RMDs)
Death after the RBD:
Take over 5 years (RMDs)
Beneficiary before 2020
Take RMDs based on your own life (Roth too) or within 5 years
Spouse can take based on their life expectancy, based on when deceased would have to start taking payments or move to their own account
Year of Death RMD
If before RBD: No RMD
If after RBD: RMD needs to be taken
Rolling over Inherited Account
If a non-spouse then you need to:
- arrange for a direct transfer (if the money is sent to you then you pay tax on it even if quickly deposited)
- set up an inherited IRA (if you deposit in your own IRA it is taxable)
If a spouse:
- can roll into your own IRA or keep in theirs (inherited Roth IRA)
Retiring early
Separation from service at 55 is a way to avoid the 10% penalty from 401ks.
But this is not the case with IRAs. If you rollover your 401k and need a distribution before 59-1/2 then it will be taxable and penalized.
QDRO
Cannot reassign retirement plans unless:
- IRS collects taxes
- Spouse attached a qualified plan through QDRO
QDRO cannot require the trustees to make a cash payment if there is no language in the plan.
Cash distribution can be made at the earliest that they were originally supposed to with the spouse.
Only for qualified plans.
Public service employees
Firefighters and public safety can receive benefits after separation from service at 50.
Distributing taxes
Avoid penalty by taking annuity distributions.
Spread distributions out to lower tax
Use after-tax investments first for retirement
Salary Reduction Plans
Pure deferred comp plans use some of the employees compensation to fund the ultimate benefit.
Salary Continuation Plans
Employer contributions are used to fund the plan.
Unfunded Plans
Unfunded plans can be a naked promise or informally funded with life insurance, annuities, mutual funds, or others.
With this, assets are both owned by the company AND subject to creditors.
No deduction for contributions until employee is taxed.
Life Insurance vs Section 162
162:
Employee is owner and insured and names beneficiary, premiums deductible by employer and taxable to employee
Deferred Comp:
Employer is owner and beneficiary of employee who is insured. Premiums not deductible and death benefits not taxable. Benefits paid to dependents are deductible and taxable income. Included in gross estate.
Secular Trusts
Irrevocable trust established for employee.
Funds are beyond creditors and taxed when funds are placed in the year the funds are placed in the trust. This is funded. Creditor protection.
Income Taxation for Informal Funding
Funds are taxed in the plan and the income generated is taxed to the employer.
Constructive Receipt / Substantial Risk of Forfeiture / Economic Benefit
Constructive Receipt: Cash is taxable to a person in the year received.
Risk of forfeiture: If the right to something is conditioned on the performance of services and also if (1) employee relationship to stockholders or (2) relationship to officers
Economic Benefit: Economic or financial benefit is received by a person then it is taxable to them.
Vesting & Expiration
When the options are allowed to be used.
Expires usually within 10 years
Cashless Exercise
Selling the shares to cover the cost of the options and the taxes due.
ISOs
Only first $100,000 of ISOs that VEST in one calendar year are entitled to ISO treatment. Options granted over $100,000 are NSOs.
Corporation does not receive a tax deduction for ISO but do for NSOs.
Bargain element is AMT add back.
NSOs
Right to buy a number of shares at a specified price.
Two determinants of taxation:
- Free transferability
- Substantial risk of forfeiture expiration
If either of these happen then NSOs are taxed to employee.
Taxation of NSOs and ISOs
If exercise in one year and sold in another then no FICA tax.
If exercised and sold in the same year then ordinary income and FICA tax.
Upon exercise of NSO the gain is ordinary income.
Upon exercise of ISO the gain is not income unless disqualified.
When sold the gain is LTCG or STCG for NSOs
When sold the gain is LTCG for ISOs (the entire amount)(Sales price less exercise price)
For NSOs, the difference between grant price and exercise price is ordinary income.
83(b) Election
for NSOs
Employee elects to recognize the tax at the time of award instead of at exercise.
Any appreciation after that is not taxed until sold.
Great if a lot of appreciation.
Restricted Stock Units (RSUs)
Vest after a certain period and once they vest, the employee receives shares of the stock.
Value of the shares are taxed as compensation (FICA) and taxed as capital gains on the difference between sales price and value of shares upon selling.
Stock Appreciation Rights and Phantom Stock
SARs are rights to be paid the difference between value of a specified number of shares on date of grant and date of exercise.
Phantom stock is a right to a cash bonus based on performance of shares of a corporations common stock.
SARS have a choice to exercise, phantom does not.
SARs are granted with options.
Phantom usually carries dividend rights.
These are best to offer when wanting to share economic value without actual equity, can create measurement of equity, nonprofit or government, or S-Corp that cannot offer conventional shares.
Junior Class
Offered as a lower tier and convert into regular shares.
ESPP
Section 423 stock purchase plan, can offer 15% discount on stock’s market value.
No tax consequences on purchase, taxes are paid on sale. Treatment is similar to ISOs.
Must be available to all employees.
Deferral Plans Subject to Tax
With deferral based plans, the deferral is subject to FICA tax.
Trust as beneficiary
For IRAs you cannot name a trust as beneficiary except if the trust meets the requirements to be named a beneficiary.
For qualified plans you can!
RMDs from multiple IRAs
Need to calculate aggregate amount and then find the RMD from that. Can take from one IRA to satisfy the RMDs of all the accounts.
This applies to IRAs only, not qualified plans.
Choosing the right plan questions
If you don’t hear anything about deferrals, then probably rule out deferral options.
If the goal is to save more, always look for catch up contributions because that is a huge advantage to 401ks
Look at how much can be contributed, profit sharing 401ks give a huge jump
Tandem plans
Not used anymore.
NUA definition
Difference between employers cost basis and market value at lump sum distribution to employee.
Profit Sharing Plans
Can provide hardship provisions and do allow loan provisions.
Only if they have 401k provisions for hardship withdrawals but they can allow loans without
Factors that Influence Target Benefit and Money Purchase contributions vs end balance:
End Balance:
- age
- salary
- actuarial determined amount (more for target benefit)
- investment performance
Contributions:
- salary
- age (target benefit)
- where forfeitures go
- NOT investment performance
Contributory meaning on disability policy
Means that the employee is contributing
Horace cannot save enough in time for his desired retirement based on the life expectancy he believes he may have because he and his wife’s family has lived long. Should he retire at an older age or buy a single life annuity?
Retire at an older age. This will give him more time to save up and decrease his retirement time.
A single life annuity will give a level payments with no inflation hedge or value for his wife if he were to die.
Beverly’s father lost all his money in the great depression when his bank collapsed. What is his daughter most likely to invest in between US securities and CDs and savings accounts?
US treasury securities. They may not trust banks anymore but may invest in US securities.
Mr Axel employs his daughter (16) in his business and pays her $5k a year. Does he have to withhold any taxes?
No SS taxes because it is a self employed business with a child under 18 working for their parent.
He will not have to withhold federal tax because it is lower than her standard deduction.
When do you take retirement payments?
AT THE BEGINNING OF THE MONTH
Bob and Mary expect to have $300k in retirement and expect to need $22k/year for 21 years with a return of 8.5% and inflation of 3%
Do they have enough saved up for that?
Yes, they need about $288k for the living expenses listed here
If you are projecting $200k need but only have $150k how much more do you need
$50k
Husband makes $1M per year and wife makes around $200k should the wife wait to take her SS benefit or 50% of the husbands?
She should take hers. Hers will probably be significant and more than half the husbands.
Waiting till FRA (67) is almost always smart because of how much more benefit you get
Mrs. Kittel is fully insured, who will receive social security benefits?
Mr. Kittle age 55
15 year old daughter in school
Ex-husband married for 10 years who is 62
19 year old son
Mr. Kittle
Daughter
Ex-husband
Ruth’s employer wants to make sure she has $970k in her account balance in 10 years. Assuming a 7% interest rate, what is the most they can put in for her?
$69k
Technically it would be $70,206 but max is $69k
Sal has a salary of $420k, is the company provides a 15% money purchase plan what is the most that can go in for him?
$345k * 15% = $51,750
What is the most serious disadvantage to an employee who has an employer offering a profit sharing plan?
Contributions are discretionary or…
Benefits at retirement are unpredictable
Benefits are unpredictable is the serious disadvantage.
Which type of business is prohibited from establishing an ESOP?
Corps can, S Corps, C Corps, Closely held Corps
Partnerships cannot create an ESOP
Do inherited Roth IRAs require RMDs?
No, just need to be taken within 10 years
EDBs can take over their life expectancy to be started by Dec 31st of year following death
How do ESOPs and stock bonus plans differ from traditional profit-sharing plans?
Stock bonus and ESOPs are a means to finance company operations while profit-sharing plans are not viewed as a means to finance company operations.
Employer contributions to an ESOP or stock bonus are usually made in cash and then the plan uses the cash to buy shares from the company, funding operations.
How much can profit sharing plans invest in company stock?
10%
If the XYZ pension provides a life annuity equal to 3% of earnings up to 30 years, what is the defined benefit an employee with an average annual comp of $400k receive after 30 years?
3% * 30 years = 90%
$345,000 * 90% = $310,500
Max benefit = $275,000 (max allowed)
Max salary cap is $345k, max benefit is $275k
What effect does employees that stay less than one year have on defined benefit contributions?
Has no effect because they never actually participate in the plan
What factors impact employee’s benefits in a DC plan?
Years to retirement
Investment returns
Salary levels
Employer contributions
Forfeitures
Limits on retirement plans
Highest salary they can use: $345k
Highest benefit for a DC plan: $69k
Highest benefit for a DB plan: $275k
Do ESOPs require employees to take distributions in employer stock?
NO
What is the max amount you can contribute to a DB plan?
Technically there is not max amount to contribute, max salary it can be based off is $345k and max end benefit cannot be more than $275k
If a company cannot afford ANY pension plan, what should it do:
Switch to cash balance
Switch to money purchase
Switch to target benefit
Freeze the plan
Freeze because the rest of those are pension plans so if it cannot afford any then don’t do any!
If forfeitures are not reallocated to participants in a money purchase plan, what is the effect on employer contributions?
It would decrease since it would be used to decrease employer contributions.
Least appealing to an employer that wants to benefit older employees, provide secure benefit, and tie employees to the company?
DB, cash balance, target benefit, or profit sharing?
Profit sharing
What plan would give the most flexibility with contributions?
DB, profit sharing, money purchase
Profit sharing
Unit benefit formula
Average pay of $100k, 30 years of service, 1.5%
1.5% * 30 = 45%
.45 * $100k = $45k benefit
What is the most stringent service requirement for a pension plan?
2-year / 100% schedule
the other ones, 3 cliff and 2-6 are vesting requirements
What is the max salary limit that is used to look at top-heavy calculations?
Max salary that you can take into account for a key employee is $345k
ADP/ACP Testing
HCEs rate must be both:
Not more than 125% of the NHCE rate (ADP is 8% or greater) or…
Not more than 200% of the NHCE rate and not more than 2 percentage points greater than NHCE rate (ADP is between 2% and 8%)
If NHCEs deferral is 4%, what is the max HCE deferral for Ray who makes $350k
$345k * 6% = $20,700
If he were 50 he could also do the catch-up so it would be $28,200
Alex owns Apple Inc. and Apple buys 90% of another startup. Apple also makes a $69k money purchase contribution for him.
Can the other startup also contribute for him?
No because of parent-subsidiary control groups
If entity buys it then it is parent
If owners buy it then it is brother sister
SS Integration Formula
Base percentage + permitted disparity = excess percentage
permitted disparity = lesser of 5.7% for DC or base and lesser of 26.25% for DB or base
If $345k salary (max that can be used) and base of 17% then it would go as follows:
$345,000 - $168,600 = $176,400
$168,600 * 17% = $28,662
$176,400 * 22.7% = $40,043
total = $68,705 (would be capped at $69k)
DB Plan has base of 24.25%, what will the excess percentage be?
24.25 + 24.25 = 48.50%
Are profit shares contributions definite and predetermined?
No, they are flexible and not determined until year end
ESOP, 401k, 403b testing
ESOPs, 401ks and matched 403bs are not tested on a benefits basis but must satisfy ADP and ACP tests which focus on contributions.
How will cross-tested profit sharing plans be tested?
Cross-tested profit sharing plans are tested in terms of benefits
Purpose of SS integration
Equalize the employer’s contributions for higher and lower paid employees.
Without that, employer contributes a higher percentage for lower paid employees.
When in doubt which vesting schedule should you choose?
Graded schedule to help retain, unless specifically told that you don’t want to retain
If a manufacturer is always laying employees off and has a top heavy profit sharing plan, what vesting schedule should they adopt?
3 year cliff, no indication that the company wants to retain employees and the forfeitures will be allocated to long-term employees
Are SEPs and Stock bonus plans integrated with SS?
Yes
SEP/Keogh vs Solo 401k vs Money Purchase between sole proprietor and corporation
In a sole proprietorship:
- SEP/Keogh: Based on 20% of net income less half of SE tax which comes to 18.59%
- Solo 401k: Same as above for the employer contribution part, and you can defer into the plan
- your employees in these plans get 25%, but you technically only get 20%
In a Corporation or S Corp:
- SEP/Keogh Plan/Money Purchase: Based on 25% of SALARY (not distributions)
- Solo 401k: Based on 25% of salary and can defer into the plan
If employee receives annual additions that exceed the 415 limit what can the employer do?
- Reallocate among other employees
- Apply in a later year to the same employee
- Can be used to reduce future plan contributions
Spike earns $200k in his one-employee corporation and wants to do a solo 401k, what is the amount he can put in?
Max employer contribution is 25% so $50k
Max deferral would then be $19k for the limit of $69k
Net earnings definition
Determined after claiming all allowable business deductions including the deduction for the employee only retirement contribution
SE contribution or benefit is based on net earnings
How should plan loans be available to participants
Should be available to all participants on a reasonable equivalent basis and must not be available to HCE in an amount greater than the amount made available to NHCE
Is deferred comp a qualified income source for IRA contribution deducitbility?
When it is constructively received then yes but when you are deferring it then it is not income yet
Peter has a $30k IRA balance and needs cash quick, if he takes a $15k collateralized loan and pledges the entire IRA balance, what does that do to the IRA?
Disqualifies the entire IRA because the entire account was pledged.
If only $15k was pledged then $15k would be taxed and penalized.
Roth IRA RMD Rules
Very similar to traditional IRA with EDB able to take RMDs over their life expectancy or within 10 years
Non EDB can take within 10 years
Option if your AGI exceeds limits for Roth contributions
You may recharacterize the Roth contribution to a traditional non deductible IRA contribution
No reconversions
Can a disabled person be the beneficiary of only one ABLE account?
Yes
Are there income restrictions with Roth 401ks?
NO
What plans can offer Roth 401ks?
401k
403b
457
When can a Roth IRA be closed with no adverse tax consequence?
When the owner has waited 5 years AND is 59-1/2
Seth, 42, is married and is contributing to his 457 plan and has an AGI of $162,000
How much of a deductible IRA contribution can he make?
$7,000
457 plans do not count as active participation
SEP eligibility requirements
21 years old to be a participant
Worked for the employer for at least 3 of the immediately preceding 5 years
Earn $750 in the current year
Do SEPs have to be stand-alone plans like SIMPLEs?
No
Are SIMPLE 401ks and IRAs exempt from ADP/ACP and top heavy testing?
Yes
No nondiscrimination testing for SIMPLE IRAs
What can IRAs invest in?
They can invest in annuities, US Government minted gold coins
But NOT life insurance, collectibles, and no loans
Fully vested
SIMPLE IRA and 401k max deferral
SIMPLE IRA: 3% up to $533,333 to a total of $16,000 ER and $16,000 EE
SIMPLE 401k: 3% up to $345,000 for a total of $10,350 ER and $16,000 EE
Do SIMPLE 401ks have the same service eligibility requirements as other ERISA plans?
YES
Choosing retirement plan for company
SIMPLEs have a lower limit
SEPs are very easy and are a GREAT option
Profit sharing is similar to SEP but a qualified plan
The rest have specifics of their own to look for
Can you roll a non-governmental 457 into an IRA or Roth IRA?
No
A governmental 457 can be rolled into those but not a non-governmental plan
Are SARSEPs under the section 415 rules (additional lesser of $69k or 100% of pay) and/or have to stay under 25 employees?
YES to both
Max deferral is $23k and 100% vested
What plan contributions are not subject to FICA tax?
SEP because it is entirely funded by employer contributions
Deferral plans do have FICA on the deferral portion for employees
What is the max plan contribution for a 55 year old sole proprietor?
If they have enough income, solo 401k to get the full $76,500 because you get the catch-up here as well
If net income exceeds $300k
Employer contribution is high AND
Employee contribution plus catch up
SEP would only have employer contribution
Profit sharing plans vs 401ks regarding fiduciary responsibilities
Profit sharing plans are funded solely with employer funds so the participants can’t argue that the investment manager was negligent.
Plan calls for prudent investments, fiduciary is not required to be successful in managing the plans assets.
Because a 401k if funded with employee contributions, the participants CAN argue against certain funds.
If a 401k provider offers highly volatile funds and participants lose money on these funds, what happens?
Fiduciary may be liable under the prudent person rule.
Highly volatile may not be considered prudent.
If the plan only offered four non-equity investments, answer would reflect that the fiduciary is responsible because there was no diversification.
What can participants do in a profit sharing plan with only T-bills, bonds, and money market funds?
Nothing because they are employer funds
If you do not have the funds available to fund a profit-sharing plan but it will help a lot what should you do?
Borrow from a bank if you are profitable OR wait until you file to make the contribution
What qualified plan can hold second-to-die life insurance policies?
Profit sharing plans
What qualified plan can hold disability insurance?
All qualified plans
Incidental safe harbor rules for death benefits in retirement plans
Concern life insurance
Mrs. Adams just lost her husband who had $1.5M in a retirement plan. She is 65 and they both have very little invested outside that plan. She has no investment knowledge and has trouble making decisions. What should she do with the retirement plan?
- Roll into her IRA and hire a competent money manager
- Roll into an IRA and take a guaranteed lifetime income option
Better to roll into an IRA and take a guaranteed lifetime income option
She has trouble making decisions and this would help to not force a decision on her. She also needs benefits now.
Mr. Platte owns a profitable company and found out that he made too much money at year end. He has a bunch of part time workers and wants to deduct a retirement plan contribution with last year’s profits. What should he do?
- Establish a profit sharing plan
- Establish a SIMPLE
- Establish a SEP
Establishing a SEP is his only choice. Because it is the year after, he can establish the SEP up until his company files its return to get a deduction for the profit of last year.
The other two would have to be established last year.
He will have to contribute for the part-timers.
Funding vs Establishing Plans
Most plans can be funded up until the tax return
Most plans need to be created in the year they want to claim the tax deduction, including profit sharing, SIMPLE (by October 1st), Safe harbor (before year starts)
Exceptions are SEPs which can be made before the return is filed
Which entity imposes extensive reporting and disclosure requirements on DB plans?
ERISA
What amount of death benefits are taxable from a qualified plan?
Pure death benefit is not taxable
Cash value is taxable
When are in-service withdrawals allowed?
DC plans - 59-1/2
DB plans - 62
Hardships withdrawals
How much employer stock can a profit sharing company hold?
10%
Can a profit sharing plan allow in service withdrawals and hardship withdrawals?
YES
If you have 401k provisions
When can I make in service withdrawals from a 401k plan?
Any time before termination for financial hardship.
IRA 60 day rule
You can withdraw the balance and as long as you reinvest it in another IRA within 60 days there is no taxable event. Can only happen once a year.
Can SIMPLEs move around to other plans?
YES
If it has been under 2 years since established and you are moving the SIMPLE to another qualified plan then it will have a 25% penalty.
You NEED to wait 2 years before moving any qualified plan into a SIMPLE. Cannot do that unless the SIMPLE has been established for 2 years.
Bill is 59 and works for Apple, what can he do with his large 401k plan?
NOTHING because he still works there. He cannot rollover or take a distribution or anything because he is still there. That would be a in service withdrawal and not allowed unless for 1 of the 3 reasons.
If he leaves he can, or when he turns 59-1/2 but until then he can’t do anything with the money. (Also could take it out for hardship)
457 Plans interesting things to note
- In-service withdrawals start at separation of service or age 70-1/2
- 457s are not qualified plans so they are not subject to mandatory withholding rules (20%)
If you are working for a company with a SIMPLE and contributing to the plan at age 73, will you have to take your RMD for that year and going forward while you work there?
YES, IRAs have a RBD of April 1st of the year following the year your turn 73 regardless of whether or not you work and are contributing to a plan.
For qualified plans if you are not a greater 5% owner you can hold off on RMDs while you work there and contribute but not with IRAs.
What happens if you die with no specified beneficiary?
It goes to a person who then has to take it out within or over 5 years.
Needs to be taken out by 5th year after the year in which the holder died. If Pete died in 2024 and it went to his estate, the entire balance must be withdrawn by December 31st 2029.
Does NUA constitute IRD?
Yes, there is a tax deduction for the amount of estate taxes paid for the NUA portion if any
What happens if you change any of the equal payments from an IRA?
Any payments received before 59-1/2 will be penalized
Norton owns a company and establishes a SEP that has grown very large. A financial planner tells him to create a profit sharing plan to defer taking his RMDs for as long as possible. Norton comes to you for advice, what do you tell him?
He can rollover the SEP into the profit sharing plan.
BUT…
He is a greater than 5% owner of the company and therefore whether he has his money in a qualified plan or an IRA, he will have to take RMDs at his RBD.
Can IRAs have trusts as the beneficiary?
Yes as long as the requirement for a trust to be beneficiary are met.
Is a qualified plan loan exempt from the 10% EWP penalty?
Yes
ESOP taxation
Basis is ordinary income, after that NUA is taxed at LTCG and after that depending on how long you held it
In informally funded life insurance, is the premium deductible by the company?
No because they get the death benefit
In what situation would rabbi trusts not be appropriate?
Bankruptcy because it is subject to creditors
Which forms of business can offer nonqualified deferred comp plans?
All of them but corporations make the most sense because they can be deducted when included in income.
All the other forms are pass-through entities so owners will have to report the amount contributed on their tax return so that does not really make sense.
Dad was granted ISOs at $15 strike and transferred the shares a year later to his daughter when they were at $19. What happens if she exercises them at $25 two years later?
The $10 of gain is ordinary income to the dad. This was a disqualifying disposition.
ISO cannot be transferred by the optionee. During their lifetime, option can only be exercised by the optionee so all income goes to them.
Exception is if the transfer before exercise is when dad dies before he can exercise, then the options maintain their ISO status.
Fred receives 10,000 ISOs to buy Acme at $10/share. Within two years of grant he exercises them at $25/share and then a few years later sells them for $100/share. What is his tax?
Because $100,000 of ISOs were VESTED they maintain ISO status.
There is capital gain on $1,000,000-$100,000 = $900,000 LTCG
If you are granted 100 ISOs, exercise all but only sell half as a disqualifying disposition what happens?
Then only the half that is a disqualifying disposition are treated as NSOs, the rest still maintain their ISO status.
When are ISOs disqualified per the over $100k rule?
When over $100k ISOs are VESTED
So if you are granted $120k of ISOs, $20k are NSOs
If you are granted $75k in 2023 that vest in 2025 and granted $85k in 2024 that vest in 2025, then in 2025 $100k are ISOs and $60k are NSOs. The amount of NSOs stay NSOs regardless of when they are exercised.
The value of ISOs granted in a single year does not cause the ISOs to lose their ISO status, but depends on when they vest. If a lot are granted one year but vest periodically, they maintain their ISO status. Max that can vest in one year and maintain their status is $100k
Ellen was granted ISOs valued at $75k in 2019 which vests in two years and was granted $85k in 2020 that vest in one year. She exercises the options as they vest, what is the tax situation here?
There will be an income tax liability on the NSO portion and a bargain element add-back item for AMT purposes on the ISO portion.
For this type of problem, look for an answer that includes both an income tax liability and a possible AMT bargain element (preference item).
Do SEPs and SIMPLEs count as active participation?
YES
Amount of pay that can be taken into account for a SEP
$345k is the max for a contribution of up to $69k
Between nonqualified deferred comp plans, ISOs, phantom stock, and section 162 life insurance, what can not for profits offer?
Of this list they can only offer phantom stock and section 162 life insurance.
They cannot offer nonqualified deferred comp or ISOs.
If you are not an active participant can you contribute to a deductible IRA at any income level?
YES
ABC, Inc. is trying to entice John to stay but he is unhappy with the 401k program because of the limiting ADP test. What could they do?
- Salary continuation plan with variable annuity
- Increase in contributions to 401k
- Secular trust
- Split dollar
- Pure deferred comp with VUL policy
Best answer is the salary continuation plan because it is not taxed to him now but provides him with a benefit.
There is nothing about him needing life insurance so the two life insurance answers are a no.
Cannot increase 401k contributions and secular trust would be taxable to him.
Harry is granted $250k ISO options that vest in one year. If next year he exercises $150k what is the result?
$100k remain as ISOs as the max
$50k are exercised as NSOs
Dr. Teal opened up a NEW practice that has been successful and wants to keep and retain young employees, what plan should he set up? Cash balance or money purchase?
Because the plan is NEW he should set up a money purchase. There is more flexibility here than under cash balance plans.
Can an employer maintain a profit sharing plan and contribute more than 25% to one person?
Yes to a max of 100% of salary or $69k and as long as the total company contributions do not exceed 25% of all eligible pay.
Small moves has 12 employees, 3 part time, 2 full time under 21 with part timers earning $1k or less. They want to install a retirement plan that is easy to set up, what should they do:
- SEP
- SIMPLE 401k
- SIMPLE IRA
SEP is the best answer, they may have to contribute for some of the part timers but that would not be a lot. There is nothing said about wanting to have deferrals so keep it with SEP.
SEP is the most simplest plan.
Max employer match under a SIMPLE
$16k
Mary Jane’s who is 52 and not sure if she wants to work much longer had her husband died last year and she wants to rollover his qualified plan, what should she do?
She should direct roll it over into her qualified plan so that she has the option to distribute at separation of service at 55. If she rolled it into an IRA then it would penalized unless after 59-1/2.
Most comment asset to pledge as collateral for a margin account?
Common stock
Bills AGI
If MFS, the capital loss limit is $1,500 and don’t forget to deduct (above the line) any medical expenses for health, dental, or qualified LTC if sole proprietor, partnership, or greater 2% S Corp owner.
Also look at alimony and if they are paying for life insurance that qualifies as alimony. Pre 2019 is deductible.
Why should Bill put his wife on his payroll?
Because they are both living together, decreasing his income and shifting income to her in a lower tax bracket would help their cash flow.
MFS Roth and Deductible IRA AGI levels
Phaseout is $0-$10k if active and for Roth
Only option if you have income in this case would be a nondeductible IRA.
Bill has low levels of malpractice insurance and is concerned. What would benefit him:
- Invest future earnings into a variable annuity
- Take all profits as salary each year
- Raise deductible and increase coverage
- Use earnings to buy cash value life insurance
ALL of these would be good options. The main issue here is to get profits out of the business so that if malpractice does come up, it is limited to the business only (S-Corp).
Annuities and cash value life insurance get profits out and are creditor protected.
Dan (51) and Jane (45) estimate that they need a lot more in retirement and that their current assets are not enough. They will need to save $50k+ per year to meet their goal. What plan is most appropriate for that?
- Money purchase
- Target benefit
- Profit sharing 401k
- LESOP
Best answer would be Profit sharing 401k. The reason for this is that this plan allows Dan to make the highest contribution for himself. He can go up to $76,500 with the catch up of a 401k and can contribute the max to himself with a profit sharing plan because he has other employees and it has to stay at 25% of all eligible compensation.
Sound Terrific adopts a money purchase plan with a graded vesting schedule. Under ERISA rules what is the most stringent eligibility requirements under this plan?
Because this plan has a graded vesting schedule, the most stringent is 21 and 1.
If the plan didn’t care about a vesting schedule the most stringent eligibility would be 21 and 2.
Dan does not start taking RMDs until 75, what is his penalty?
25% penalty on all the RMDs he should’ve taken since 73.
How many employees are needed for COBRA to be required?
20
Can 457s take loans and get employer contributions?
Yes
How are DCs tested with discrimination vs cross testing?
For discrimination they are tested on contributions
For cross testing they are tested on benefits
When do RMDs start for those that inherited IRAs?
December 31st of year following death
When do RMDs start for those that inherited IRAs?
December 31st of year following death
Hardship withdrawals and loans
Any qualified plan can offer loans but need 401k for hardship withdrawals
Difference between Medicare and SS Benefits eligibility
Medicare:
1 - Retired 65 eligible for SS payments
2 - Retired railroad
3 - Disabled receiving SS disability for 2 years any age
4 - Disabled railroad worker
5 - Disabled widow above 50 with qualified worker
6 - Disabled before 22 any age
SS Benefits:
1 - Age 62 fully insured
2 - SS definition of disabled
3 - Spousal options for retired, disabled, or deceased worker
4 - Dependent survivor benefits
Sue’s PIA is $500 and Mike’s (her husband) is $1,500.
What is her PIA at FRA and what would it be if Mike died?
Her PIA at FRA would be the greater of her or 1/2 of her husbands, so $750.
If he died she would take the greater of hers or his, so in this case it would bump up to $1,500.
Joy began receiving SS benefits of $1,200/month at 62 and also earned $27,320 that year, how much of her SS benefit is withheld?
She earned $5,000 over the wage base of $22,320 so the Government will withhold $1 for every $2 above the wage base of her earned income.
That means that the Government will withhold $2,500 of her benefit.
Alan will reach FRA in Nov of this year but has already started collecting SS benefits. In the months prior to his reaching FRA, he earned $70k. How much of this benefit is withheld?
Because he has earned income above $59,520 and also has started receiving SS benefits the Government will withhold $1 for every $3 above the SS wage base that he is at. Since he is $10,480 above that, they will withhold $3,493.33 of his SS benefit.
These apply to survivor benefits also.
Linda is receiving $1,000/month in survivor benefits and her kids are receiving $1,200/month. Along with that Linda receives a 1099 for $18,000. How much of her SS benefit is taxable?
$6k + $18k = $24k which is under the $25k limit so none of the SS will be included in her gross income or taxable.
The benefits to the kids will be added to their other income to calculate their taxable portion (usually 0).
Mr. Toole receives $1k/month in SS benefits and Mrs. Toole receives $500/month. In addition they have a $500/month pension and $36k in Muni interest. How much of their SS benefits are taxable?
85% is taxable because $9k+$6k+$36k = $51k
Muni interest is added and they are above the $44k threshold.
Kate had a salary her past three years of $90k, $110k, and $140k. What is her max benefit under a DB plan?
($90k+110k+$140k)/3 = $110k
If Kate had annual comp of $250k, $280k, and $400k her last three years, what would her max benefit be?
($250k+$280k+$345k)/3 = $291,667
But the max benefit that can be provided is $275k so that is her max.
Additions vs Deferrals vs Contributions
Max additions is $69k
Max deferrals is $23k ($7,500 catch-up is considered a contribution NOT deferral)
Max contribution is 25% of salary
25% Deduction limit
Assume the max they can make for an employee is 25% of salary unless explicitly told that it is including less than 25% for other employees
Can a profit sharing plan have hardship withdrawals?
NO only if it has 401k provisions.
Can take vested amount and elective deferrals.
10% penalty will apply along with tax but no penalty if for one of the exceptions.
403(b)s can have hardship withdrawals too.
John is 55 at has a 403(b) account. If his salary is $50k what is the most he can contribute?
$30,500
Clara earns $40k a year, her employer’s TDA provides for salary reduction and discretionary employer contributions. She elects to defer $10k, how much can her employer contribute for her?
Employer can contribute $30k.
No 25% limit for 403(b)s I believe.
A company has stable profits and is expecting to only generate more revenue, what kind of business form should they choose?
C Corp
A company man wants to set up a new retirement plan. He does not want a lot of expenses unless it really benefits him. He has about $200k of wages and his business has about $700k of total wages. What plan should he choose?
- SIMPLE
- Profit sharing 401k with a 50% match
- SEP 20%
- Profit sharing 20%
Best would be profit sharing 401k with a 50% match. He could get $23k in with a 50% match and have a vesting schedule along with integrate it with SS.
A SIMPLE cannot integrate with SS and immediately vests and limits his employer match.
Nonqualified deferred comp only works with what business form?
C Corp
Can ALL qualified plans and 403(b)s make loans?
YES
What is the only plan that has hardship withdrawals?
401ks and 403bs
Subject to 10% EWP if not for qualified reason and income tax.
Are there forfeitures in solo 401ks?
NO
How many shareholders does an ESOP count as?
1
Is NUA always LTCG?
YES
After the NUA treatment any gain thereafter is treated by its holding period.
If a lady in an ESOP took stock or cash from their retirement plan at separation from service at 55 what is the tax treatment?
The distribution of cash would be withheld at 20% but the stock in the form of a NUA distribution would not be withheld.
Can I take a 72(t) distribution rather than a full distribution of company stock and still maintain NUA status?
No, need to take the whole thing.
How to handle employer stock and other stock in employer plan?
Take the company stock as NUA and roll the other stock to IRA.
Do not roll NUA to IRA. Has to be to taxable account.
ESOP distribution
Need to be careful that you are over 55 and retire or 59-1/2 to avoid 10% penalty applied to the basis.
Where do SEP/Keogh and IRA contributions go?
Front of the 1040 as an adjustment to income if you are SE.
25% and 15% contribution for SE
18.59% and 12.12% up to $168,600
SEPs max
$69k
25% of salary
$345k of salary used
No recurring and substantial rule
Do SARSEPs require hardship withdrawal to take from the account?
NO
Treated the same as IRA distribution in terms of penalties and tax
Max contribution for someone over 55?
$30,500
Deferral would be $23,000
Max employer contribution for Clara who defers $10k and has a salary of $40k?
$30k
Profit sharing vs SEP
Profit sharing are more complicated to install and they can exclude part time employees
SEPs cannot exclude part timers but are very easy to set up.
Generally if simplicity is all they need and nothing is stated about duration of employee working time, SEP is good.
Do Stockbrokers and Doctors count as fiduciaries?
YES
When is a fiduciary liable under ERISA rules?
Can be personally liable for all losses through improper use of plan assets.
Service Rule eligibility vs Vesting
21 and 1
21 and 2
are service requirements
vesting is the cliffs or graded schedules
to have vesting you need 21 and 1
Top heavy plan
When 60% of benefits or account balances are allocated to key employees
Are profit sharing plans subject to minimum funding standard?
No but they have substantial and recurring
Who is subject to ADP and ACP testing?
401k and 403bs and ESOPs
What plans cannot be integrated with SS?
SIMPLE and ESOP
Cross tested plans
Age-weighted and new comparability
Meant to provide the most amount of benefit to higher paid employees and minimize lower paid employee contributions
Lesser of 1/3 of HCE contribution or 5%
THIS PROVIDES THE MOST GENEROUS BENEFIT TO OLDER EMPLOYEES OR OWNER
Two times the 20% withholding will not apply to qualified plans?
RMDs and equal payments.
How many days from direct distribution to move funds over to IRA?
60 days
Direct distributions
If from a QUALIFIED plan then it is always withheld 20% unless for one of the other reasons if a direct distribution.
If a rollover or direct transfer trustee to trustee then there is 0% withholding.
403(b) early withdrawal penalty exceptions?
Same for qualified plan
One time election for annuitized qualified plans?
Switch from annuity or amortization to RMD method.
Named beneficiaries for RMDs of inherited IRAs
Taken over their lifetime
Plan loans
Lesser of 50% or $50k
Up to $10k you can take all of it
Are direct payments from QDROs subject to 20% withholding?
Yes if a direct distribution
No 10% penalty
Does the QDRO plan have to pay out the assets?
Yes if it allows but no if it does not allow, the money is placed in a separate account.
James is single, 65, and has an AGI of $100k. Can he contribute to an IRA?
We are not told if he has any earned income so NO.
Also if not told that they are active participants do not assume they are.
Can I continue Roth IRA contributions after age 73?
Yes if I still have earned income.
Also not impacted by active participation.
Are 457 plans subject to creditors?
Yes because they are deferred comp.
457 deferrals also NOT subject to FICA tax because it is deferred comp.
Is deferred comp subject to FICA?
NO
Art Klein died at age 69 and his wife Patsy is age 60. She worked for the Midwestern railroad company for 35 years and will be eligible for railroad retirement benefits of around $2k/month. Art had been receiving SS benefits of $800/month. What benefit is Patsy eligible for now?
- Eligible for the SS widow benefit
- SS retirement benefits based on her work
- Medicare benefits
- $255 lump sum death benefit
She would be eligible for the $255 lump sum amount.
A surviving spouse can’t get SS benefits AND a railroad benefit so she will just get the lump sum. She is not entitled to Medicare until 65.
Stanley is in an ESOP funded with company stock and mutual funds. He is concerned with phantom income when he retires, what should you advise him to do to reduce his phantom income tax exposure?
- Take a 72(t) distribution in the first year of retirement
- Take full distribution of account balance
- Take distribution of company stock
- Roll the whole thing to an IRA
- Roll the mutual funds to an IRA
To avoid phantom stock it would be best to roll the entire balance over to an IRA and take a 72(t) distribution in the first year.
This would mean he loses NUA eligibility but he would avoid any phantom income because he would be receiving payments.
Karl, age 55, has developed a really cool product that will make him millions. He has a Corp with 2 younger employees. Karl is unhealthy and tried to buy life insurance but declined the offers because he was rated and didn’t want to pay the premium. He would like to fund the max in a qualified plan to reduce income taxes, benefit his spouse, and have liability protection. What should he do?
- DB plan
- 412(e)3 plan
- Target benefit plan
He should choose the 412(e) or 412(i) plan. This would be a fully funded DB plan. Assumptions are usually lower than plan assumptions which means more contributions. The premium will be paid by the plan.
Death benefits above cash value is excluded from income tax only if insurance cost was under the Table 2001 rate (standard rate) and has been paid with nondeductible contributions or has been taxable to the employee.
Is is December 24th and Kate walks into your office. She tells you that her husband died this year and she inherited his $2M IRA. She wants to make a full Roth conversion this afternoon, what is the most important info you need before helping?
- Age
- AGI
- Will she remarry?
- CPA’s name
Most important factor is age right now. She cannot convert to Roth without taking a RMD if she is 73 or older. First dollars withdrawn are deemed to be the RMD until that amount is distributed. Once complete, then the remaining balance can be converted.
Is there an age, or AGI barrier to Roth conversions?
No penalty, age, or AGI requirements.
What can be taken out for hardship withdrawals?
Vested account balance and elective deferrals.
Does the SIMPLE 401k allow for a special match election like SIMPLE IRAs?
NO
Have to do 3% match
Which Roth accounts are not subject to RMDs?
Only Roth IRA and inherited Roth IRA by spouse.
John and Mary hired you for retirement planning and want to take out $150k post tax. They have a lot of Roth, deductible IRA, and taxable account (50%) basis assets. What should they take from?
- $200k from Traditional IRA
- $150k from Roth IRA
- $100k from taxable account and $80k from traditional IRA
- Work longer
Taking from the taxable will give a tax of ($50k15%) = $7,500 and the IRA would be ($80k20%) = $16k
$180k - $23,500 = $156,500 so that is around the amount they are looking for.
Better to let the Roth grow.
Are 457s subject to creditors?
Yes
Also not subject to creditors
The participant in a Rabbi trust has the same access to the funds as what?
An unsecured creditor.
Life insurance in deferred comp included in employees estate?
PV of payments to surviving beneficiaries is included in estate because the employee had a right to name beneficiaries under the deferred compensation plan (incident of ownership)
403b Facts
No 25% restriction
Can have hardship withdrawals
20% withholdings for direct distributions
Do 401ks, 457, and 403b have QDRO?
Yes
Is NUA LTCG?
Yes!
But growth after you transfer it out is STCG if sold within a year.
What happens to SS disability benefits at 65?
They become retirement benefits
NO DISABILITY BENEFITS AFTER 65
PIA reduction
First three years of reduction is 5/9
From 66, 65, 64 resulting in 6.67% decreases per year
Next two years are 5 full percent decreases for 63 and 62 for a total of 30
Do you get disability SS payments after 65?
NO
Features of cash balance plans
They have hypothetical accounts for each employee.
Interest rate and contributions are guaranteed.
Do 403bs have QDROs?
Yes
Does each Roth contribution have its own 5 year rule? How about conversions?
Contributions start their 5 real rule from the start. Once you wait the first 5 years you are good with contributions. Conversions each have their own 5 year waiting period. So every new time you convert the 5 year timer starts for those assets.
