Retirement Planning Quiz 2 Flashcards
Parrish Products would like to implement a retirement plan for its employees. The company has over 2,000 employees and would like to help them save for their retirement. The company chairman, Roger Parrish, is concerned about the administrative costs of the plan. He was recently informed by one of his colleagues that certain types of retirement plans are required to provide annuities to the participants and their beneficiaries. Which of the following qualified plans must provide qualified joint and survivor annuities (QJSAs) and qualified preretirement survivor annuities (QPSAs)?
- SEP plans.
- Target benefit pension plan.
- Profit-sharing plan.
- Traditional defined benefit pension plan.
2 and 4
SEP plans and profit-sharing plans do not have to provide for preretirement or postretirement joint and survivor annuities because they are not pension plans. Profit-sharing plans pay nonforfeitable balances to surviving spouses as an alternative provision to preretirement and postretirement joint and survivor annuities.
Peak Inc., a C corporation, has three employees: Paul (age 50), Kristi (age 25), and Rachel (age 25). Paul owns 60% of the Peak stock, and Rachel and Kristi each own 20%. This is a new venture, but cash flows are expected to be relatively stable. The retirement planning objective of the company is to design a qualified retirement plan that provides the maximum contribution to Paul with minimum plan costs and some flexibility in terms of cash commitment. The total annual profit-sharing contributions will be $40,000. Annual salaries: Paul: $100,000; Rachel: $30,000; Kristi: $30,000; total: $160,000. Which of the following qualified plans best meets the above objective?
A) Combined 10% money-purchase pension and an age-based 15% profit-sharing plan. B) Traditional defined benefit pension plan. C) Money purchase pension plan. D) Age-based profit-sharing plan.
D
From the age-weighted profit-sharing plan, Paul will receive a greater share because of his income and age. Money purchase pension plans will not provide this advantage to Paul. Traditional defined benefit pension plans require annual mandatory funding.
John terminated his employment with ABC Manufacturing, Inc. As a result, he received a lump-sum distribution from the company’s employee stock ownership plan (ESOP) in the form of 2,500 shares of ABC stock. The market value at the time of distribution was $125,000. The cost basis of the stock when contributed to the plan on John’s behalf was $100,000. Two years later, John sold the stock for $150,000. What is the amount of capital gain on which John will be taxed because of the sale?
A) $50,000. B) $28,000. C) $10,000. D) $25,000.
A
At the time of the lump-sum distribution, John had ordinary income of $100,000 from the distribution, which becomes his basis in the stock. He has $25,000 of NUA at the time of the distribution, which is taxed as LTCG upon the sale. He has an additional $25,000 gain from the time of the lump-sum distribution to the time of the sale. This gain is also LTCG because he held the stock 2 years from the time of the lump-sum distribution. His total LTCG is $50,000.
Which of the following are characteristics of a Roth IRA?
- Qualified distributions are tax free.
- Contributions are not tax deductible.
- Maximum annual contributions are generally $11,000.
- Contributions are tax deductible.
1 and 2
Taxpayers may not deduct Roth IRA contributions from their current taxable income; however, qualified distributions are received tax free by the owner. The maximum annual contribution to a Roth IRA is $5,500 (2017) or $6,500 for taxpayers over age 50.
Bonnie, age 45, has a Roth IRA she established at age 35 and a qualified tuition plan (QTP) under Section 529. She has previously contributed $8,000 to the Roth IRA. Three years ago, she converted $20,000 from a traditional IRA to a Roth IRA. Her Roth IRAs have a combined balance of $35,000. There is another $35,000 in the QTP. If the entire $70,000 were distributed today to pay for her son’s college tuition, which of the following is CORRECT?
A)
The entire distribution of $70,000 will be tax free.
B)
The QTP distribution is taxable, but no penalty is applied.
C)
A portion of the Roth distribution is subject to regular income tax but the QTP distribution is tax free.
D)
A portion of the Roth distribution will incur a 10% early withdrawal penalty.
C
While Bonnie has satisfied the 5-year holding period requirement, the distribution is nonqualified because the distribution is not attributed to attainment of age 59½, death, disability, or first time home purchase. The portion of the distribution attributable to earnings is subject to regular income tax. None of the Roth distribution will incur a 10% penalty because the funds are being used to pay for higher education for her son. The QTP distribution is tax and penalty free.
Julian is an employee of The Specialty Shop in Boca where he has a salary of $30,000 in the current year. In addition, his ex-wife pays him alimony of $18,000 per year. Julian has contributed $6,000 to his Section 401(k) plan this year, and the employer has matched with a $1,500 contribution. Julian's checking account paid interest of $4,000, and he had capital gains of $5,000. A few years ago, Julian inherited a small apartment complex called The Fountains which he manages. The property generated a loss of $21,000. On the advice of one of his friends, Julian contributed $1,000 to a Roth IRA and $1,000 to a traditional IRA. How much of the IRA contribution can he deduct? A) $250. B) $1,000. C) $500. D) $0.
B
Taxpayers who are active participants in an employer-sponsored retirement plan may still make deductible contributions to a traditional IRA as long as MAGI is below the phaseout limits (for 2017: $62,000−$72,000 for single, $99,000−$119,000 for MFJ).
Salary $30,000 Section 401(k) plan −6,000 Alimony 18,000 Interest 4,000 Capital gain 5,000 Real estate −21,000 MAGI $30,000
Ryan, age 38, earns a salary of $75,000 working for Gretna Co., an electrical contracting company. He has been working for Gretna Co. for 10 years and is a participant in the company’s Section 401(k) plan, which has an employer match. Which of the following statements is(are) CORRECT?
- ERISA rules do not allow loans from the Gretna Co. plan.
- A 5-year cliff vesting schedule is allowed for Gretna Co.’s matching contributions.
- The maximum amount that can be contributed by Ryan in 2017 is $18,000.
- Ryan’s contributions are subject to FICA and FUTA but not federal income tax.
3 and 4
Statement 1 is incorrect. Under Section 72, loans are allowed from Section 401(k) plans. Statement 2 is incorrect. Section 401(k) plan employer-matching contributions must vest at least as rapidly as a 3-year cliff vesting or a 2-to-6-year graded vesting schedule. Statement 3 is correct. The maximum elective deferral Ryan may make in 2017 is $18,000. Statement 4 is correct for Ryan. The worker’s contribution is subject to FICA and FUTA.
In 2017, Benjamin, age 45, worked for both RST Company and XYZ Enterprises, which are not part of a controlled group. Both companies offer a profit-sharing plan. He earned $200,000 from RST Company and $250,000 from XYZ Enterprises in 2017. Forfeitures allocated to Benjamin under the XYZ Company plan were $4,000 for the year. What are the total additional employer contributions that can be made on behalf of Benjamin in 2017?
A) $104,000. B) $18,000. C) $108,000. D) $54,000.
A
For 2017, the maximum that RST can contribute for Benjamin is $54,000. XYZ can also contribute a maximum additional amount of $50,000 ($54,000 maximum − $4,000 forfeiture). Because the 2 companies are not part of a controlled group, each company can contribute the maximum annual additions limit. The total additional amount is $104,000. Benjamin, on the other hand, is limited to total retirement plan contributions of $18,000 of pre-tax or Roth elective deferrals with these two companies.
Michael Jones is 71 years old (life expectancy 26.5 years based on the uniform distribution table) and must now begin receiving IRA required minimum distributions. As of December 31st of the previous year, his IRA accounts were valued as follows:
IRA 1
$25,000
IRA 2
$14,000
IRA 3
$8,000
IRA 4
$46,000
IRA 5
$17,000
Calculate the amount Mr. Jones should receive as his first required minimum distribution (rounded to the nearest dollar).
A) $11,000. B) $4,151. C) $7,593. D) $7,190.
B
Al is a participant in the ANB Money Purchase Pension Plan. Under the plan’s integration formula, 5% is contributed for compensation below the integration level which is set at the Social Security taxable wage base and 10% for compensation above the integration level. What amount will ANB contribute for Al, if his salary is $95,000?
A) $4,750. B) $9,500. C) $4,500. D) $5,925.
A
Al’s compensation is below the Social Security taxable wage base of $127,200 (2017), so the contribution on his behalf is 5% x $95,000 = $4,750.
ABC Corporation is trying to set up a qualified retirement plan and has established the following criteria: simplicity, must be able to be integrated with Social Security, funding flexibility, ability to invest in company stock is unrestricted, employees can make in-service withdrawals, and distribution of benefits can be in the form of cash (ABC can deduct value of any stock contributed to plan.) Which of the following types of qualified plans would meet ABC’s criteria?
- ESOP.
- Stock bonus plan.
- Cash balance pension plan.
- Money purchase pension plan.
2 only
Stock bonus plan is correct. An ESOP cannot be integrated with Social Security. Money purchase and cash balance pension plans cannot invest an unrestricted amount in company stock and do not have funding flexibility.
Which of the following are benefits of profit-sharing plans over a simplified employee pension plan?
- Profit-sharing plans can allow loans.
- Profit-sharing plans allow the participant to elect 5-year averaging on qualifying lump sum distributions.
- A profit-sharing plan can be established after the close of the employer-sponsor’s tax year.
- Profit-sharing plans can invest in life insurance.
1 and 4
Profit-sharing plans can have loan provisions. SEP plans do not permit loans. Five-year averaging is not available. A profit-sharing plan must be established before the close of the tax year. Note that a SEP plan can be established by the tax return due date. Qualified plans can invest in life insurance. SEP plans do not permit life insurance.
Rob Smith is 54 years old and is the owner of Rob’s Famous Wings, a successful chicken wing restaurant with over 4,000 restaurants nationwide. Rob’s company is privately held and Rob owns 95% of the company’s stock. Rob wants to establish a retirement plan for his employees. His goals are to provide adequate retirement benefits to his employees, have some flexibility in the amount of contributions he makes each year and, if possible, sell some of the stock he owns. Which of the following retirement plans would you recommend for Rob’s company?
A) Cash balance pension plan. B) ESOP. C) Money purchase pension plan. D) SIMPLE IRA.
B
An ESOP is a profit-sharing plan that allows for flexible contributions by the employer each year. A cash balance pension plan is a defined benefit plan, which does not give the employer any flexibility regarding making annual contributions. Likewise, a money purchase pension plan does not give the employer flexibility as to the annual contributions, because the contribution percentage is stated in the plan and is mandatory. Finally, a SIMPLE IRA will not allow Rob to sell shares to his retirement plan, unlike an ESOP where a market is created for the company’s stock.
Abby, owner of ARD Co., would like to provide her employees with a simplified employee pension (SEP) plan. ARD Co. also sponsors a SERP for its executives. Which of the following statements is(are) CORRECT?
- To implement a SEP plan, ARD Co. must be a C corporation.
- The SEP plan can limit coverage to all full-time employees who are at least 21 years of age.
- Contributions to the SEP are not subject to FICA and FUTA.
- Contributions to the SERP reduce the amount that can be deducted for contributions to the SEP plan.
3 only
Statement 1 is incorrect. SEP plans may be established by C corporations, S corporations, partnerships, and sole proprietorships. Statement 2 is incorrect. SEP plans must also cover all employees (including part time) who are at least 21 years of age, who have worked for the employer during 3 out of the preceding 5 calendar years, and who have had compensation of at least $600 (for 2017). Statement 3 is correct. Direct employer contributions are not subject to FICA and FUTA. Statement 4 is incorrect. Contributions to a SERP, which is a nonqualified plan, are not taken into account when calculating maximum deductible SEP plan contributions.
Jim and Jan, both age 34, are married and file a joint tax return. Jan has made a $5,500 contribution to her traditional IRA account and has made a contribution of $2,000 to their son’s Coverdell Education Savings Account for the same year. Ignoring AGI limitations, what is the most that can be contributed to a Roth IRA for Jim or Jan for 2017?
A) $10,000. B) $0. C) $5,500. D) $3,000.
C
The maximum combined contribution to traditional and Roth IRAs is $5,500 per person (who has not attained age 50) for 2017. Therefore, Jim and Jan have a total of $11,000 to allocate between traditional and Roth IRAs. Jan has already contributed the maximum amount to her IRA; however, Jim could still contribute $5,500 for himself. The Coverdell Education Savings Account is not included in the $5,500 IRA limit.
Which of the following statements describes a disadvantage of a target benefit pension plan, compared with a traditional defined benefit pension plan?
A)
Contributions to a target benefit pension plan are subject to the annual additions limit of the Internal Revenue Code.
B)
A target benefit pension plan will always have less stringent vesting requirements than does a traditional defined benefit pension plan.
C)
For a given compensation level, a target benefit pension plan requires the same contribution for all employees regardless of age.
D)
A target benefit pension plan must cover all eligible employees, whereas a traditional defined benefit pension plan can exclude certain nonhighly compensated employees.
A
Target benefit pension plans are defined contribution plans and are subject to the $54,000 (for 2017) annual additions limit per employee. Traditional defined benefit pension plans are not subject to this limit; employer contributions to traditional defined benefit pension plans can be much higher. Target benefit pension plans favor older participants. Employer contributions are weighted according a participant’s age. Both target benefit pension plans and traditional defined benefit pension plans are qualified plans. Under ERISA, employers can exclude a certain percentage of nonhighly compensated employees from coverage under both the traditional defined benefit pension and target benefit pension plans. Target benefit pension plans are a type of defined contribution pension plan and must use one of the accelerated vesting schedules for employer contributions while traditional defined benefit pension plans that are not top heavy may use either 5-year cliff or 3-to-7-year graded vesting schedules.
Benny, who is 51 and single, has $98,000 in modified adjusted gross income in 2017. What is the maximum amount that Benny can contribute to his Roth IRA for 2017?
A) $5,000. B) $4,500. C) $6,500. D) $0.
C
Benny’s modified AGI is below the phaseout limits for single taxpayers for 2017 ($118,000 - $133,000). Thus, the maximum regular contribution for 2017 to the Roth IRA is $5,500. However, the catch-up provision for individuals who have attained age 50 permits an additional contribution of $1,000 for 2017. Therefore, Benny’s maximum contribution for 2017 is $6,500 ($5,500 + $1,000).
Dixon, Inc. is interested in establishing a qualified retirement plan. The primary motivation is to reward long-time and key employees, encourage employee retention, and attract new employees. Dixon, Inc. has a total of 60 full-time nonkey employees ranging in age from 21 to 42, with an average of 3 years of service. There are 5 key employees ages 40 to 51, all of whom have been with the company over 10 years and have average salaries exceeding $75,000. The company is very profitable and has substantial cash flow, however, it would like some degree of flexibility and discretion with the contributions each year. Which of the following plans would be most appropriate? A) Money purchase pension plan. B) Target benefit pension plan. C) Profit-sharing plan. D) Traditional defined benefit pension plan.
C
Because the company would like some flexibility and discretion with regard to annual contributions, a profit-sharing plan would be appropriate. All of the other plans require annual funding. In addition, they may want to consider integrating the plan with Social Security in order to benefit the key employees with higher salaries.
Sabrio Financial Group sponsors a Section 401(k) plan in which the nonhighly compensated employee group defers an average of 5% of compensation. If Jay, age 48, is the only highly compensated employee and he earns $118,000, what is his maximum allowable elective deferral contribution in 2017 to this Section 401(k) plan assuming Jay’s contribution is equal to the maximum ADP allowable for the HCE group?
A) $5,900. B) $12,000. C) $8,260. D) $18,000.
C
Because the ADP for the nonhighly compensated employee group equals 5%, the maximum ADP for the highly compensated group cannot be more than 7% (5% + 2%). Therefore, Jay’s maximum elective deferral contribution is $8,260 ($118,000 × 7%) for 2017. Employees who have attained age 50 by the close of the tax year are eligible to make an additional elective deferral catch-up contribution. This catch-up contribution is not subject to the ADP test or annual additions limit.
