Retirement Planning & Employee Benefits | Lesson 5: Deferred Compensation & Employee Benefits Flashcards
Which of the following is false regarding a deferred compensation plan funded using a rabbi trust?
- Participants have security against the employer’s unwillingness to pay.
- Rabbi trusts provide the participant with security against employer bankruptcy.
- Rabbi trusts provide tax deferral for participants.
- Rabbi trusts provide the employer with a current tax deduction.
a) None; they are all true.
b) 2 and 4.
c) 1, 2, and 4.
d) 1, 2, 3, and 4.
Answer: B
Rabbi trusts do not provide security against employer bankruptcy or a current tax deduction for the employer.
Which of the following is accurate regarding employer contributions to secular trusts for employee-participants of a non-qualified deferred compensation agreement?
- Participants have security against an employer’s unwillingness to pay at termination.
- Participants have security against an employer’s bankruptcy.
- Secular trusts provide tax deferral for employees until distribution.
- Secular trusts provide employers with a current income tax deduction.
a) 3 only.
b) 1 and 2
c) 1, 2, and 4.
d) 1, 2, 3, and 4.
Answer: C
Secular trusts are similar to rabbi trusts except that participants do not have a substantial risk of forfeiture and thus, do not provide the employee with tax deferral. Secular trusts offer the employer a current income tax deduction for contributions. Secular trusts protect the participant from employer unwillingness to pay because they are funded, and they protect from bankruptcy because there is no risk of forfeiture.
Preston receives stock options for 12,000 shares of Burke Corporation with an exercise price of $10 when the stock is trading on the national exchange for $10 per share. The Burke Corporation plan is an incentive stock option plan. Which of the following statements are true regarding the options?
- Preston will be required to hold any ISOs for more than a year after exercise and more than two years from the grant date to have long-term capital gains.
- 2,000 of the options are NQSOs.
a) I only.
b) 2 only.
c) 1 and 2.
d) Neither 1 nor 2.
Answer: C
To the extent the fair market value of the stock for which the ISO is exercisable for the first time during any calendar year exceeds $100,000, the excess is treated as a nonstatutory stock option. Therefore, 2,000 of the options are NOSOs.
Jack, the CEO of ABC Corporation, was awarded the following stock options from ABC Corp.
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During 20X3, Jack had the following transactions regarding the above options.
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Which of the following is correct?
a) Jack has $11,000 of W-2 income and a $12,000 capital gain.
b) Jack has $23,000 of W-2 income.
c) Jack has a capital gain of $12,000.
d) Jack has $66,000 of W-2 income.
Answer: B
At the exercise of an NQSO, Jack will have W-2 income equal to the excess of the fair market value over the exercise price. In this problem, Jack has $12,000 [($27 -$15) x 1,000] of W-2 income related to the 1/1/20x1 options and $11,000 [($36 - $25) x1,000] of W-2 income on the 1/1/20x2 options.
Devon was awarded 1,000 shares of restricted stock of B Corp when the stock price was $14. Assume Devon properly makes an 83(b) election at the award date. The stock vests two years later for $12, and Devon sells it then. What are Devon’s tax consequences in the year of sale?
a) Devon has a W-2 income of $12,000.
b) Devon has a long-term capital loss of $2,000.
c) Devon has a W-2 income of $14,000.
d) Devon has a $12,000 long-term capital gain.
Answer: B
In the year of the sale, Devon will have a long-term capital loss of $2,000 ($14,000 - $12,000) because his right to the stock vested. Losses are permitted when 83(b) is elected after the right to the stock has vested.
On July 31, 20x1, B Corp sold 1,000 shares of its stock to Dowe, an employee, for $12 per share. At the time of the sale, B stock was trading for $30 per share. The stock was to vest in 4 years on July 31, 20x5. This restriction was stamped on the certificates. On July 31, 20x5, the B stock traded for $125 per share. Dowe sold the stock in 20x6 for $125 per share. Assuming no special elections, how much must Dowe include in income, and in what year? A) 20X1 | $18,000 B) 20X1 - 20X3 | $18,000 ratably C) 20X5 | $113,000 D) 20X6 | $113,000
Answer: C
When the substantial risk of forfeiture expires on July 31, 20x5, Dowe has an income of $125,000 less the basis of $12,000, or $113,000.
Maria Ortiz is the manager of Downtown Motel. Maria lives in Unit 12. She was given the option to live at the motel if she would also look after the night auditing (the value of her reviews is $400 per month) responsibilities. The value of the motel unit monthly is $800, but Unit 12 rents daily for $100 per day. How much, if any, does Maria have to include in her gross income for living on her employer’s premises?
a) $0 lodging for the convenience of the employer.
b) $400 per month.
c) $800 per month.
d) $3,000 per month.
Answer: C
The employer does not require Maria to live on the premises and, therefore, must include the value of the lodging in her gross income.
Coldstone Company allows a 25% discount to all non-officer employees. Officers are allowed a 30% discount on company products. Coldstone’s gross profit percentage is 35%. Which of the following is true?
a) An officer who takes a 30% discount must include the extra 5% (30%-25%) in his gross income.
b) Any discounts taken by any employee are includable in the employee’s gross income because the plan is discriminatory.
c) All discounts taken by officers (30%) are includable in their gross income because the plan is discriminatory.
d) None of the discounts taken by any employee are includable in their gross income because the discount, in all cases, is less than the company’s gross profit percentage.
Answer: C
The plan is discriminatory to non-highly compensated employees; therefore, all discounts actually taken by officers are includable in the officers’ income, not just the excess of what is available to the nonofficers. Any discount taken by a nonofficer would be excluded from the employee’s gross income.
Juliet is married to Jack, and they have one child Angela, age 14, in the 6th grade. Angela is a problematic child, and she is cared for in the afternoon by the Sisters of Reformation, a group of Catholic nuns. Juliet pays $6,000 per year for the child care. Juliet’s company has a dependent care assistance program. If Juliet makes the maximum use of the dependent care assistance program, how much can she exclude from her income if she files a joint return with Jack?
a) $0
b) $2,500.
c) $5,000.
d) $6,000.
Answer: A
Angela is over 13 years old and, therefore, does not qualify for the dependent care assistance program.
ABC Corp. provides employees with discounts on the flat panel televisions they manufacture. The discounts were established using a length of service and employee status methodology.
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The gross profit percentage for ABC is 40%.
James is an officer-employee who has been with ABC Corp. for 13 years. For Christmas this year, James bought a 56-inch flat panel television that retails for $8,800 and he received a discount appropriate to the schedule discounts listed above. For this year, how much, if any, does James have to include in gross income as a result of this transaction?
a) $0.
b) $1,760.
c) $2,640.
d) $3,520.
Answer: D
The plan is discriminatory; therefore, James, an officer, must include the total discount of $3,520 ($8,800 x 0.40).
Medical Trials Inc. has a cafeteria plan. Full-time employees are permitted to select any combination of the benefits listed below, but the total value received by each employee must be $6,500 a year or less.
- Group medical and hospitalization insurance for employees only, $3,600 a year.
- Group medical and hospitalization insurance for employee’s spouse and dependents, $1,200 additional a year.
- Child-care payments, actual cost not to exceed $5,000.
- The cash required to bring the total benefits and cash to $6,500.
- Universal variable life insurance $1,000.
Which of the following statements is true? (All employees are full-time.)
a) James chooses to receive $6,500 cash because his wife’s employer provides medical benefits for him! James has a $2,900 taxable income ($6,500 - $3,600).
b) Matt chooses 1, 2, 5, and $700 cash. He must include $700 in taxable income.
c) Randy chooses 1 and 2 and $1,700 in child care. He must include the $1,700 in gross income.
d) Robin chooses 1 and 2 and $1,700 cash. Robin must include $1,700 in taxable income.
Answer: D
Option D is correct because cash must be included in income. Option A is incorrect because the entire cash distribution will be taxable. Option B is false because the universal variable life insurance premiums of $1,000 cannot be excluded from Matt’s gross income. Option C is incorrect because child care payments are excludable benefits.
What is the maximum number of employees that a company with a health plan can have and not be subject to the COBRA rules?
a) 10.
b) 15.
c) 19.
d) 20.
Answer: C
A company with fewer than 20 employees is not subject to COBRA even if it has a health plan.
A business valued at $3,000,000 has three partners. Each of the three partners buys a $500,000 life insurance policy on each of the other partners. Which of the following is true?
- This is an example of an entity purchase plan.
- This is an example of a cross-purchase plan.
- The policies are underfunded.
a) 1 only.
b) 2 only.
c) 1 and 3.
d) 2 and 3.
Answer: B
This is a cross-purchase life insurance plan. Each person has a one-third interest. Therefore, when the first partner dies, the other two partners will need to pay $500,000 for a total of $1,000,000 (1/3 of $3,000,000). Thus, the policies are not underfunded.
