Retirement Plans Flashcards
Retirement plans that must comply with ERISA requirements include all of the following EXCEPT:
A. Defined benefit plans
B. Profit sharing plans
C. Federal Government plans
D. Payroll deduction savings plans
The best answer is C.
ERISA rules cover private retirement plans to protect employees from employer mismanagement of pension funds. It does not cover public sector retirement plans, such as federal government and state government plans, since these are funded from tax collections and are closely regulated. The listing of plans that must comply with ERISA include:
Profit sharing plans Defined contribution plans Defined benefit plans Tax deferred annuity plans Payroll deduction savings plans
Under ERISA provisions, a pension fund manager that wishes to write naked call options:
A. can only do so if explicitly allowed in the plan document
B. can do so if the plan document allows for options transactions
C. can do so without restriction
D. is prohibited under ERISA requirements
The best answer is A.
ERISA does not specify securities strategies that are prohibited. It does state that all investments must meet both “fiduciary responsibility” tests and “prudent man” rule tests. Selling naked call options exposes the writer to unlimited risk, but is not explicitly prohibited. If the plan document specifically authorizes such a strategy, it would be permitted. However, the plan trustee bears unlimited liability, if this action is deemed to be imprudent.
A money purchase retirement plan would invest in all of the following securities EXCEPT:
A. Tax Free Municipal Bonds
B. U.S. Government Bonds
C. Equities
D. Variable Annuities
The best answer is A.
A retirement plan would not invest in tax free municipal bonds because such instruments provide a lower yield than taxable bonds. Since the pension plan itself is a “tax free” envelope in which securities are held, the plan would invest in securities that yield a higher amount.
ERISA requirements regarding the investments that are suitable for a retirement account stress:
A. income potential
B. capital gain potential
C. safety of principal
D. legal list securities
The best answer is C.
ERISA rules regarding retirement plans stress that investments should be “safe.”
Which statement is TRUE regarding contributions to, and distributions from, tax qualified retirement plans?
A. Contributions are typically made with “before-tax” dollars
B. Contributions are typically made with “after-tax” dollars
C. Distributions are 100% tax free
. Distributions are taxable at lower capital gains rates
The best answer is A.
Contributions to tax qualified retirement plans are tax deductible. They are typically made with “before-tax” dollars, hence those funds were never taxed. When distributions commence, since no tax was paid on the entire amount, the distribution is 100% taxable at ordinary income rates.
Another way of saying this is that these plans have a “$0 cost basis,” which means the entire distribution is taxable.
Distributions after age 59 ½ from non-tax qualified retirement plans are:
A. 100% taxable
B. partial tax free return of capital and partial taxable income
C. 100% tax free
D. 100% tax deferred
The best answer is B.
Contributions to non-tax qualified plans, such as most variable annuities, are not tax deductible. They are made with “after-tax” dollars. Earnings accrue tax deferred. When distributions commence, the return of original capital is not taxed (this is the investor’s cost basis. Only the earnings are taxed.
Which statement is TRUE regarding a defined benefit plan?
A. The smallest contributions are made for those individuals who are far away from retirement
B. The smallest contributions are made for those individuals who are nearing retirement
C. The benefit amount to be paid increases the longer the individual remains employed at that firm
D. The benefit amount paid at retirement will vary from year to year
The best answer is A.
Defined benefit plans calculate annual contributions based on expected future benefits to be paid. The largest benefits will be paid to high salaried employees nearing retirement, so these are the largest contributions. The smallest benefits are owed to low salary employees far away from retirement, so these are the smallest contributions.
The benefit amount to be paid is not based on years of service - rather, it is based on a formula, such as “50% of the employee’s salary level over the 3 years preceding retirement.” Once the benefit payments start, they are fixed in amount and do not change.
All of the following are characteristics of Defined Benefit Plans EXCEPT:
A. annual contribution amounts may vary
B. if the corporation has an unprofitable year, the contribution may be omitted
C. the annual benefit amount is fixed at retirement
D. the adoption of this type of plan benefits key employees who are nearing retirement
The best answer is B.
Under a defined benefit plan, contributions are made by the employer on behalf of the employees, to fund a defined “future” benefit. With this plan type, less funds are contributed on behalf of younger employees, and more funds are contributed on behalf of the older employees.
However, all of the pooled monies in the fund are used to pay out current benefits, and in effect, younger employees with many years to retirement, are paying for both the retirement benefits of older retired employees, and for the funding of the benefit of those older employees nearing retirement.
Once a person retires, the benefit amount is fixed, based upon that person’s last year’s salary and years of plan participation.
Annual contribution amounts are not fixed with this type of plan - the actual annual contribution amount is based upon actuarial assumptions about the plan participants and the performance of the investments in the plan. If the corporation has an unprofitable year, it must still make the contribution amount as determined by the actuary.
If a corporation has an unfunded pension liability which statement is TRUE?
A. The expected payments from the retirement plan are lower than the expected future assets in the plan
B. The expected payments from the retirement plan are in excess of the expected future assets in the plan
C. The plan is in default and must be liquidated by the trustee
D. The trustee must ensure that the funding gap is met by year’s end.
The best answer is B.
An unfunded pension liability means that expected payments from the retirement plan are in excess of the expected future assets in the plan. It is common for defined benefit pension plans to be underfunded (sometimes for many years in a row), but the plan trustee is responsible to ensure that future funding is adequate as needed.
Which of the following are characteristics of Defined Contribution Plans?
A. Annual contribution amounts are fixed and the benefit amount to be received is fixed
B. Annual contribution amounts are fixed and the benefit amount to be received will vary
C. Annual contribution amounts will vary and the benefit amount to be received is fixed
D. Annual contribution amounts will vary and the benefit amount to be received will vary
The best answer is B.
Under a defined contribution plan, a fixed percentage or dollar amount is contributed annually for each year that the employee is included in the plan. The longer an employee is in the plan, the greater the benefit that he or she will receive at retirement.
What are characteristics of Defined Contribution Plans?
A. Annual contribution amounts are fixed; if the corporation has an unprofitable year, the contribution must still be made
B. Annual contribution amounts are fixed; if the corporation has an unprofitable year, the contribution may be omitted
C. Annual contribution amounts may vary; if the corporation has an unprofitable year, the contribution may be omitted
D. Annual contribution amounts may vary; if the corporation has an unprofitable year, the contribution must still be made
The best answer is A.
Under a defined contribution plan, a fixed percentage or dollar amount is contributed annually for each year that the employee is included in the plan. If the corporation has an unprofitable year, it must still make the contributions.
For the year 2019, the maximum annual contribution to an Individual Retirement Account for a single person is:
A. 100% of income or $6,000, whichever is less
B. 100% of income or $6,000, whichever is greater
C. 100% of income or $12,000, whichever is less
D. 100% of income or $12,000, whichever is greater
The best answer is A.
For the year 2019, the maximum permitted contribution to an IRA is 100% of income or $6,000, whichever is less. If a person earns $1,000 per year, then the maximum permitted contribution would be only $1,000. (Of course, it is highly doubtful that this person would make a contribution, since he or she would probably prefer to eat instead!) Contributions are based on earned income only - dividend or interest income cannot be used as the basis for making a contribution.
For the year 2019, the maximum contribution that a married couple, both under age 50, can make to an IRA is:
A. $6,000
B. $7,000
C. $9,000
D. $12,000
The best answer is D.
For the year 2019, the maximum contribution to a spousal IRA is the lesser of 100% of income or $6,000 each in 2 accounts; for a total of $12,000.
A 55-year old individual has just retired after working for the same employer for 20 years. She will collect an annual pension benefit of $55,000, but is not yet ready to stop working.She has lined up a part-time job that will pay $4,000 this coming year. How much can she contribute to a Traditional Individual Retirement Account for her first year in retirement?
A. 0
B. $4,000
C. $5,000
D. $6,000
The best answer is B.
Because this individual is not yet age 70 ½, she can still contribute to a Traditional IRA – but only based on earned income – not on her pension income. The maximum contribution in 2019 is 100% of earned income, capped at $6,000. Because she only has $4,000 of earned income, this is the maximum IRA contribution for this year.
A 65-year old individual has just retired after working for the same employer for 20 years. He will collect an annual pension benefit of $50,000, but is not yet ready to stop working. He has lined up a part-time job that will pay $3,000 this coming year. How much can he contribute to a Traditional Individual Retirement Account for his first year in retirement?
A. 0
B. $3,000
C. $6,000
D. $9,000
The best answer is B.
Because this individual is not yet age 70 ½, he can still contribute to a Traditional IRA – but only based on earned income – not on his pension income. The maximum contribution in 2019 is 100% of earned income, capped at $6,000. Because he only has $3,000 of earned income, this is the maximum IRA contribution for this year.
In 2019, individuals with earned income who are age 50 or over are permitted to make an extra annual IRA contribution of:
A. $1,000
B. $2,000
C. $3,000
D. $4,000
The best answer is A.
For the year 2019, the maximum annual contribution for an individual into an IRA is $6,000. However, individuals age 50 or older can make an extra “catch up” contribution of $1,000.
In 2019, a self-employed individual has an adjusted gross income of $100,000 per year. This person has no other retirement plan and contributes $6,000 to an Individual Retirement Account. Which statement is TRUE?
A. The contribution is fully tax deductible
B. The contribution is partially tax deductible
C. The contribution is not tax deductible
D. The contribution is prohibited because income limitations are exceeded
The best answer is A.
If a person is not covered by another retirement plan, contributions to an IRA are tax deductible, without any income limitation. If the person is covered by another plan, as that person’s income rises, the tax deduction for the IRA contribution phases out.
A married couple, where both individuals work, earns in excess of $123,000 in year 2019. Both individuals are covered by qualified retirement plans. Which statement is TRUE regarding contributions to Individual Retirement Accounts for these persons?
A. A tax deductible contribution of $12,000 ($6,000 each) is permitted
B. A non-tax deductible contribution of $12,000 ($6,000 each) is permitted
C. A non-tax deductible contribution of $9,000 (with a maximum of $6,000 in one account) is permitted
D. No contribution is permitted
The best answer is B.
Anyone can contribute to an IRA, whether covered by a pension plan or not. If a couple is not covered by a qualified plan, the contribution is tax deductible and the maximum that can be contributed in 2019 is $6,000 each ($12,000 total). However, the contribution is not tax deductible for couples, where both are covered by qualified plans, who earn over $123,000 in year 2019 (the deduction phases out between $103,000 - $123,000 of income).
A divorced woman with 2 young children has a small trust fund that gives her $2,500 a year in income. She collects another $2,500 per year in alimony payments. The woman wishes to make a contribution to an Individual Retirement Account this year. Which statement is TRUE?
A. No contribution can be made
B. A contribution can be made based only on the income received from the trust fund
C. A contribution can be made based only on the alimony payments received
D. A contribution can be made based on both the income received from the trust fund and the alimony payments received
The best answer is A.
IRA contributions can only be made based on earned income - meaning income from one’s work. Portfolio income does not count, since it is not earned income. Alimony and child support payments are not classified as “earned income” for purposes of making IRA contributions. Thus, a woman who has income from a trust fund and who received alimony payments cannot make an IRA contribution based on either of these sources of income.
(Of course, the big question here is, “If this person only has total income of $5,000 a year, how would she be able to make an IRA contribution since she doesn’t even have enough money to eat!”)
Individual Retirement Account contributions can be made with:
A. Cash
B. Exempt Securities
C. Non-Exempt Securities
D. All of the above
The best answer is A.
Contributions to an IRA can only be made with cash. Once the cash is deposited, it can be used to purchase any type of qualified investments (bank certificates of deposit, securities, U.S. minted gold coins, and precious metals).
The penalty for making an excess contribution to an Individual Retirement Account is:
A. 6% of the excess contribution
B. 10% of the excess contribution
C. 20% of the excess contribution
D. 30% of the excess contribution
The best answer is A.
Excess contributions to an Individual Retirement Account are subject to a 6% penalty tax. Do not confuse this penalty with that imposed on a premature distributions from an IRA. Premature distributions (prior to age 59 1/2) are subject to a 10% penalty tax.
In an Individual Retirement Account, a 6% penalty tax will be imposed for:
A. failing to make a contribution to an Individual Retirement Account by April 15th
B. the purchase of a mutual fund in an Individual Retirement Account
C. premature distributions from an Individual Retirement Account
D. excess contributions to an Individual Retirement Account
The best answer is D.
Excess contributions to an Individual Retirement Account are subject to a 6% penalty tax. Do not confuse this penalty with that imposed on a premature distributions from an IRA. Premature distributions (prior to age 59 1/2) are subject to a 10% penalty tax.
Contributions to Individual Retirement Accounts must be made by:
A. December 31st of the calendar year in which the contribution may be claimed on that person’s tax return
B. April 15th of the calendar year in which the contribution may be claimed on that person’s tax return
C. December 31st of the calendar year after which the contribution may be claimed on that person’s tax return
D. April 15th of the calendar year after which the contribution may be claimed on that person’s tax return
The best answer is D.
Contributions to Individual Retirement Accounts must be made by April 15th (tax filing date) of the year after the tax filing year. For example, a contribution for tax year 2019 must be made by April 15th, 2020.
All of the following are allowed investments in an Individual Retirement Account EXCEPT:
A. Preferred Stock
B. U.S. Government Gold Coins
C. Antiques, Art, and Other Collectibles
D. U.S. Government Bonds
The best answer is C.
Collectibles are not allowed as an investment in an IRA account. Securities are allowed; so are gold coins minted by the U.S. Government and precious metals bullion.
