Retirement Rules

Question 1

Safe Harbor

Nondiscrimination

Answer 1

A safe harbor 401(k) plan automatically satisfies the nondiscrimination tests involving highly compensated employees (HCEs) with either an employer matching contribution or a nonelective contribution.

Question 2

Safe Harbor

Match/Vesting

Answer 2

The statutory contribution using a match is $1/$1 on the first 3% employee deferral and $0.50/$1 on the next 2% employee deferral. If the employer chooses to use the nonelective deferral method, the employer must contribute 3% of all eligible employees’ compensation regardless of whether the employee is deferring or not.

Employer contributions must be immediately vested.

Question 3

Stock Bonus/ESOP -

Qualified Plan = ERISA

Profit Sharing Plan = NOT Subject to Minimum Funding Standards

Defined Contribution Plan = Provide Uncetain Retirement Benefit

Answer 3

• Up to 25% employer deduction
• Flexible contributions
• Maximum annual contribution lesser of 100% of salary or $54k (2017)
• 100% of contribution can be invested in company stock
• ESOP cannot be integrated with Social Security or cross-tested

Question 4

Net Unrealized Appreciation (NUA)

Answer 4

NUA Example

Stock is contributed to the retirement plan with a basis of $20k. The stock is distributed at retirement with a market value of $200k. The NUA, $180k, is not taxable until the employee sells the stock, but the $20k is taxable now as ordinary income.

The $180k is always LTCG. If the client sells the stock for $230k, the $30k of extra gain is either STCG or LTCG depending on the holding period after distributed at retirement.

Question 5

Keogh Contribution

Answer 5

• Only for sole proprietor and partnerships

Self-employment tax must be computed and a deduction of one-half of the self-employment tax must be taken before determining the Keogh deduction.

Shortcut below takes into account self-employment taxes.

• If contribution 15% - multiply by 12.12% of net earnings
• If contribution 25% - multiply by 18.59% of net earnings

Question 6

SIMPLE Plan

Answer 6

• Fewer than 100 employees
• Employer cannot maintain any other plan
• Participants fully vested
• Easy to administer and funded by employee salary reductions and an employer match

Question 7

SEP

(Simplified Employee Pension)

Answer 7

• NO salary deferrals - employer contributions only
• Up to 25% contribution for owner (W-2) / treated like Keogh contributions for self-employed
• Maximum of $54k (2017)
• Account immediately vested
• Can be integrated with social security
• Special eligibility: 21+ years old, paid at least $600 (2017) and worked 3 of the 5 prior years

Question 8

Tax-Deferred Annuity (TDA)

Tax Sheltered Annuity (TSA)

403(b)

Answer 8

• For 501(c)(3) organizations and public schools
• Subject to ERISA only if employer contributes
• Salary reduction limit up to $18,000 (2017) (plus $6,000 catch-up if 50 or over)

Question 9

Age and Service Rules -

Qualified Plans

Answer 9

• Max age and service are age 21 and one year of service (21-and-one-rule)
• Special provision allows up to 2-year service requirement, BUT then employee is immediately vested (2-year/100%)
• Year of service is 1,000 hours (includes vacations, holidays and illness time)

Question 10

Highly Compensated Employee (HCE)

Answer 10

• A greater than 5% owner

OR

• ​An employee earning in excess of $120,000 during the preceding year (2016)

Question 11

Key Employee

Answer 11

An individual is a key employee if at any time during the current year he/she has been one of the following

• A greater than 5% owner or
• An officer and compensation > $170,000 (2017) or
• Greater than 1% ownership and compensation > $150,000 (2017)

Question 12

Vesting - Fast / Slow

Answer 12

Fast: DB Top-heavy Plans / All DC Plans

• 3 - year cliff or 2-6 year graded or 100% vested after 2 years

Slow: Non-top-heavy DB Plans only

• 5 - year cliff or 3-7 year graded or 100% vested after 2 years

Question 13

Defined Contribution Plans

(Integration with Social Security)

Answer 13

Base % + Permitted Disparity = Excess %

• Base % - DC plan contribution for compensation below integration level
• Permitted Disparity - Lesser of base % or 5.7%. You get this becuase the 5.7% is the OA of OASDI. The SDI is 0.50% for a total of 6.2% which is the full OASDI + 1.45% for HI (Health Insurance) or Medicare.
• Excess Benefit % - DC plan contribution for compensation above integration level

Question 14

Defined Benefit Plans

(Integration with Social Security)

Answer 14

Base % + Permitted Disparity = Excess %

• Base % - DB plan contribution for compensation below integration level
• Permitted Disparity - Lesser of base % or 26.25%. You get this by multiplying 75% by 35 (max years).
• Excess Benefit % - DB plan contribution for compensation above integration level

Question 15

Multiple Plans 2017

Elective Deferrals

Answer 15

Elective deferrals - more than one employer (2017)

Elective deferrals to multiple plans are always aggregated.

2017

401k/403(b)/SIMPLE/SARSEP $18,000 plus catch up $6,000

SIMPLE and other SIMPLE $12,500 plus catch up $3,000

457 Plans are NOT part of aggregated amounts.

Question 16

Life Insurance as a Funding Vehicle

Answer 16

According to the Treasury Regulations, life insurance benefits must be merely “incidental” to the primary purpose of the plan. If the amount of insurance meets either of the following tests, it is considered incidental:

1. The aggregate premiums paid for a participant’s insured death benefit are all times less than the following percentages of the plan cost for that participant: Ordinary life insurance 50%; Term Insurance 25%; Universal Life 25%
2. The participant’s insured death benefit must be no more than 100 times the expected monthly benefit. Defined benefit plans typically use the “100 times” limit.

Question 17

Rollovers NOT Permitted

Answer 17

• Transfers to another 457 plan remain the only option for non-governmental tax exempt organizations
• Hardship distributions can not be rolled into any other qualified plan
• Required minimum distributions

Question 18

Qualified Plan

Early (age 59½) - 10% Tax Penalty Exceptions

Answer 18

• Death
• Disability
• Substantially equal periodic payments following separation from service
• Medical expenses in excess of 10% of AGI or health insurance costs while unemployed
• Distribution following separation from service after age 55 for QP but NOT an IRA.
• Distribution in accordance with QDRO (Qualified Domestic Relations Order for divorce) to any alternative payee
• Distribution used to pay insurance premium after separation from employment (must file for unemployment)

Question 19

Required Beginning Date (RBD)

for

IRAs / SEPs / SARSEPs / SIMPLEs

Answer 19

The required beginning date is April 1st of the year following the year in which the covered individual attained 70½. Subsequent distributions must be made by December 31st of each year thereafter.

Question 20

Required Beginning Date (RBD)

for

Qualified Plans / 403(b) / 457 plans

Answer 20

The required beginning date, with the exception of 5% owners, is the later of April 1st following the year in which the individual attained 70½ or retired. Subsequent distributions must be made by December 31st of each year thereafter.

5% owner RBD is the same as IRA/SEP RBD.

Question 21

IRA Deductibility Keys

Answer 21

• If neither spouse (or single person) is an active participant in an employer plan, the IRA is deductible. Employer plans that affect participant status include almost all plans EXCEPT for 457 plans.
• If one spouse is an active participant, the other spouse (not active) can do a deductible IRA if combined AGI is less than $186k - $196k (2017)
• If both spouses are active, AGI limits apply - $62k - $72k (single) and $99k - $119k (Married) (2017) - Given

NOTE: Activity that results in active status: annual additions to a DC account or benefits accrued to a DB plan.

Question 22

IRA

Exceptions to 10% Penalty for

Early Distributions before age 59½

Answer 22

• Death
• Disability
• Substantially equal periodic payments
• Medical expenses in excess of 10% of AGI or health insurance costs while unemployed
• First home expense up to $10,000
• Qualified education expense
• Distribution used to pay insurance premium after separation from employment (must have received unemployment compensation for 12 weeks)

Question 23

Roth IRA

Ordering rules for distribution

Answer 23

1. Any contributions (not conversions) are withdrawn first
2. Conversions are withdrawn second
3. Earnings are withdrawn last

Question 24

Roth IRA

Required Minimum Distributions

Answer 24

RMDs for Roth IRAs only required after Death of original owner

• Distributed within 5 years of owner’s death or
• Distributed over the life expectancy of the designated beneficiary with distributions commencing prior to the end of the calendar year following death (stretch)
• Where the sole beneficiary is the owner’s surviving spouse, the spouse may delay distributions until the Roth owner would have reached 70½, or may treat the Roth as his or her own (roll it to her/her Roth)

Question 25

Non-qualified Deferred

Compensation Plans

Answer 25

• Salary reduction plan - uses some portion of the employee’s current compensation to fund the ultimate compensation benefit (also called pure deferred)
• Salary continuation plan - uses employer contributions to fund ultimate benefit

Question 26

Rabbi Trust

Answer 26

• Key Words - merger, acquisition or change of ownership
• Assets in rabbi trust available for company’s creditors
• Fear that ownership / management may change before deferred compensation is paid
• Irrevocable Trust set aside for the benefit of the EE
• Contributions to trust are not currently taxable to EE if the Trust does not contain financial triggers and is not located “offshore”.

Informally Funded Plan:

Rabbi trust (considered to be unfunded) is an example of informally funded deferred compensation. A trust is set up with two beneficiaries, the employee and creditors of the company. The fact that creditors and not the employee could eventually end up with the assets allows the employee to avoid current taxation. Rabbi trusts may not be offshore or contain any financial triggers for benefit payment.

Question 27

Section 457 Deferred

Compensation Plan

Answer 27

• Nonqualified deferred compensation plans of governmental agencies and non-church controlled tax exempt organizations
• Deferral limited to $18,000 or 100% of compensation (2017)
• Catch-up of $6,000 allowed for those 50 and over ONLY for governmental plans (2017)
• Salary deferrals NOT aggregated with other plans (401k, etc.)
• Non-governmental plans can ONLY be rolled into another 457 plan

Question 28

IRA Keys

(SIMPLE, SEP, SARSEP)

Answer 28

• No Loans
• No Life Insurance
• Immediate Vesting
• May not be creditor protected (state specific)
• 59½ not 55 for no 10% penalty
• Must take RMDs at 70½ (even if not owner)

Question 29

Who benefits most from profit-sharing plans?

Answer 29

• Younger employees,
• short-service employees,
• employees in lower-pay brackets,
• employees who quit after medium lengths of service are those who will benefit most from profit-sharing plans.

Question 30

What is the 401(k) provision, what year did it begin and what is it similar to?

Answer 30

• 401(k) provision allows for pre-tax EE deferrals.
• Prior to the enactment of 401(k) provisions in 1981, employees could only make after-tax contributions—this was called a Thrift Plan.
• The IRS issued proposed regulations on 401(k) plans that sanctioned the use of employee salary reductions as a source of retirement plan contributions. Many employers replaced older, after-tax thrift plans with 401(k)s and added 401(k) options to profit-sharing and stock bonus plans.

Question 31

What is the maximum defined benefit plan annual benefit?

Answer 31

• The maximum defined benefit plan annual benefit (under a single life or joint and survivor annuity) cannot exceed the lesser of $215,000 in 2017, or
• 100% of compensation (average compensation for a participant’s highest three consecutive years).
• The maximum retirement benefit is actuarially reduced if retirement occurs before age 62 and is actuarially increased if retirement occurs after age 65.

Question 32

What is a Target Benefit Pension Plan?

Qualified Plan = ERISA

Pension Plan = Mandatory ER Funding Requirements and QJSA options

Defined Contribution Plan = Provides as Unspecified Retirement Benefit

has features similar to DB plan

Answer 32

A target benefit plan is a type of money purchase pension plan. It is often referred to as a “hybrid” plan because, although a money purchase pension plan, target benefit plans include features commonly associated with a defined benefit plan. Like a defined benefit plan, annual contribution calculations are based upon a specified projected retirement benefit (the target benefit). However, as with other money purchase pension plans, annual contributions (which are both fixed and mandatory) are made to individual participant accounts, and the actual retirement benefit a participant ultimately receives depends upon his or her individual account balance.

Because target benefit plans utilize participant age as one of the factors in determining plan contributions, these plans generally result in a contribution allocation that tends to benefit older participants.

Target benefit plans have become increasingly less common. To a large extent, this is attributable to the increased adoption of cross-tested profit sharing plans (e.g., age-weighted profit-sharing plans), which offer comparable advantages but are generally more flexible.

Prior to the Economic Growth and Tax Relief Reconciliation Act of 2001 (2001 Tax Act), limits on the tax-deductibility of employer contributions to retirement plans favored money purchase pension plans (and therefore target benefit plans) over profit-sharing plans (employers could deduct up to 25 percent of total compensation for contributions made to a money purchase pension plan, but only up to 15 percent of total compensation for contributions made to a profit-sharing plan). The 2001 Tax Act, however, increased the limitation on tax-deductible contributions to profit-sharing plans to 25 percent. With this change, most employers will find it to their advantage to adopt the more flexible profit-sharing plan rather than a money purchase pension plan (including a target benefit plan).

Question 33

What plans favor Older EE’s and Why?

Answer 33

DBPP uses the final-average pay (traditional DB plan).

This is the average of earnings paid in the last three or five years before retirement, or the highest paid three or five years in the 10- year period before retirement.

TBPP because it uses an age weitghted formula to benefit older EEs and EEs for their length of service?? This type of plan may appeal to older employees: Because the retirement benefit under a target benefit plan is based partially on the participant’s age, this type of plan may appeal to employers that wish to benefit older employees. Participating employees who enter the plan at older ages have fewer years than younger employees until retirement. Using a target benefit plan can help allocate larger contributions to these older employees. For a plan to provide benefits that will be equally valuable to all employees at retirement age, the plan must provide higher immediate contributions for older workers than for younger workers.

Question 34

What plans favor Younger EEs and Why?

Answer 34

CBPP because it is a DC similar to PSP and it benefits people to stay in the program for longer periods so that they get to have more in their separate accounts???? Cash balance plans generally are more advantageous to younger employees (more years for contributions and guaranteed returns due to shorter vesting schedule than Traditional Pension Plans).

Career-average pay (cash balance plan always uses)

This is the average of earnings over the participant’s entire period of plan participation NOT the highest average over a 3 year period.

MPPP - Although a younger and an older employee with the same level of compensation will receive the same allocation, the long-term accumulation of tax-sheltered funds will benefit younger employees more than older employees.

Question 35

What is a Keogh Plan?

Answer 35

• A Keogh plan is a tax-deferred pension plan available to self-employed individuals or unincorporated businesses for retirement purposes. It can be set up by small businesses that are structured as LLCs, sole proprietorships or partnerships.
• A Keogh plan can be set up as either a defined-benefit or defined-contribution plan, although most plans are defined as contributions.
• A Keogh is similar to a 401(k) for very small businesses, but the annual contribution limits are higher than 401(k) limits. $54K for 2017.

Question 36

Keogh Plan as Defined Contribution

Answer 36

Keogh as Defined Contribution Plan

• Keogh as a Profit Sharing Plan (PSP/DC) -
  
  • With a profit-sharing plan (PSP), you don’t actually have to show a profit for you to contribute.
  • You decide how much to contribute to your plan each year.
  • The amount can change from year to year, as well.
  • PSPs do come with a cap to how much you can contribute, but anything under that amount is fair game.
• Keogh as a Money Purchase Plan (Pension/DC) -
  
  • A money purchase plan (MPP), on the other hand, requires you to contribute a fixed percentage of income every year.
  • This reaches up to 25% of the compensation amount. You decide the percentage at the outset. You cannot change the amount as long as the company profited that year.
  • If you change the percentage or don’t contribute one year, you could face a penalty.

Question 37

Keogh as a Defined Benefit Plan

Answer 37

Keogh as a defined benefit plan, determines the annual benefits you’ll receive in retirement.

• Defined benefit plans work like a traditional pension, but you fund it yourself. You can contribute up to 100% of your compensation with these plans.
• The IRS has the exact formula to calculate your contribution.
• Your salary, years of employment, expected return on plan assets and other stated benefits will determine the contribution amount.

Question 38

What is a Keogh and what type of employers would offer a Keogh?

Answer 38

• A Keogh plan is similar to a 401(k), personal and tax-deferred, but for very small businesses.
• The Keogh structures still exist, but they’ve lost popularity compared to plans like SEP-IRAs or individual or solo 401(k)s.
  
  • A Keogh may be right for a highly paid professional, such as a self-employed dentist or a lawyer, but the cases in which these plans make sense are specific and fairly rare.
  • It provides self-employed professionals like doctors and writers with similar benefits and tax advantages as those who work in more traditional, corporate settings.
• To use a Keogh, a small business must be a sole proprietorship, partnership or limited liability company (LLC).
  
  • Employees of small business owners may also be eligible, but the employer makes the contribution instead of the employee.

Question 39

How does Integration with Social Security aka ‘permitted disparity’ work?

Answer 39

Integrated with Social Security aka ‘premitted disparity’

• A company retirement plan may take into consideration Social Security when allocating an employer contribution to eligible employees.
• Because Social Security is only paid on compensation up to a certain dollar amount, any employee with compensation over the Social Security Taxable Wage Base (TWB) will receive a large allocation of the employer contribution allocated in the company retirement plan to account for this.
• The TWB for 2017 is $127,200.

Question 40

What are profit sharing allocation methods?

Answer 40

In addition to that broad discretion, IRS rules also allow a variety of methods to determine what portion of the total contribution goes to each plan participant. Each of these allocation methods can be combined with 401(k) features, matching contributions, etc. to achieve an overall design customized for each company’s needs.​

1. Salary Proportional Method aka Pro-Rata
2. Permitted Disparity Method aka Social Security Integration
3. New Comparability Method aka Cross-Tested
4. Age Weighted Method (TBPP)
5. Service Based Method

Question 41

Permitted Disparity or Social Security Integration Allocation Method?

Answer 41

The Permitted Disparity Method, aka as Social Security Integration, recognizes that Social Security benefits are only provided on an individual’s compensation up to the Social Security Wage Base ($127,200 for 2017) and allows additional plan contributions on pay exceeding that level (referred to as Excess Compensation).

The contribution is calculated in two steps:

Step 1. A uniform percentage of total base pay is allocated to all eligible participants. This is referred to as the base percentage.

Step 2. A uniform percentage of Excess Compensation is allocated to all eligible participants who have such pay. The excess percentage cannot exceed the lesser of the base percentage or 5.7%.

It is possible to integrate the allocation at a level below the Social Security Wage Base; however, doing so often results in a reduction of the maximum excess contribution percentage.

Question 42

What is the Salary Proportional Allocation Method for determining Profit Sharing Contributions?

Answer 42

Salary Proportional Method:

• The salary proportional or pro rata method provides that each participant receives an allocation equal to a uniform percentage of his or her compensation.
• The contribution may be expressed as a percentage, e.g. 5% of pay to all eligible participants, or as a flat dollar amount.

Question 43

How does the Profit Sharing Allocation Method of New Comparability Method aka Cross-Tested Method work?

Answer 43

• The new comparability method aka cross-testing, uses the time value of money as a basis to allocate larger contributions to participants who are closer to retirement.
  
  • As illustrated below, if the goal is to fund a similar benefit at retirement, much larger annual contribution made for someone who has 10 years until retirement than for someone who has 35 years.
    
    • Age 30, $2,875 a year for 35 years = $100K
    • Age 55, $10,000 a year for 10 years = $100K
• Depending on the demographic make-up of a company’s work force, the new comparability aka ‘cross tested’ method can be an effective means of targeting contributions to certain senior personnel such as the owners or officers.
• Eligible participants are divided into allocation groups, usually with each participant placed in his or her own group to maximize flexibility. Each year, the company decides the amount to allocate to each group.
• NHCEs are generally required to receive a minimum “gateway” contribution that is equal to the lower of the following:
  
  • 5% of compensation, or
  • One-third of the highest percentage allocated to any HCE
• These contributions are then projected to a benefit at the plan’s normal retirement age and tested to confirm the HCEs do not receive a benefit that is disproportionately higher (as a percentage of pay) than that provided to NHCEs.
  
  • If HCE benefits fall outside of the acceptable range, the company can choose to increase contributions for NCHEs, reduce contributions for HCEs or a combination of both.

Question 44

How does the Age Weighted Allocation Method work for allocating Profit Sharing Contributions?

Answer 44

Under the Age-Weighted method, the employer’s profit sharing contribution is allocated in a manner that considers both the participant’s age and compensation.

Using one of the mandated mortality tables and interest rates, points are allocated to each participant based on age.

The ratio of a participant’s points to the total points of all participants determines the participant’s percent of the overall profit sharing contribution.

Question 45

A profit sharing contribution must demonstrate non-discrimination in either the form of allocations or benefits.

Answer 45

A profit sharing contribution must demonstrate non-discrimination in either the form of allocations or benefits.

Giving all participants the same percentage of pay as an allocation is clearly non-discriminatory.

However, giving each participant the same theoretical retirement benefit is also non-discriminatory and the present-day allocations required to generate these benefits may not be equal.

This is because older participants have less time to retirement, and thus require larger allocations to reach the same benefit level.

Certain design-based safe harbor allocation methods like the Salary Ratio and Social Security Integration (permitted disparity) methods are deemed to be non-discriminatory.

Non-safe harbor allocation methods like the Age-Weighted and New Comparability (Cross Tested) methods must demonstrate non-discrimination by passing the General Test on either an allocations basis or on a benefits basis.

When an allocation method passes the General Test on a benefits basis, this is known as Cross-Testing.

Question 46

How does the Service-Based Allocation Method for allocating Profit Sharing Contributions Work?

Answer 46

The service-based allocation method allows the employer to reward employees with more service by weighting contributions by service. A fixed contribution can be a specified percentage of each participant’s plan compensation or a specified dollar amount for each participant, which is then based on a specified period of service.

Example:

An employer can specify $10 for each week of employment or 1% of plan compensation paid for each hour of service.

Question 47

What is the Rule of 55 Provision and what types of retirement plans does it apply to?

Answer 47

If you are retired, most 401(k) plans (**NOT IRA’s**) allow for penalty-free withdrawals at age 55. To use this 401(k) retirement age 55 provision your employment must have ended no earlier than the year in which you turn age 55, and you must leave your funds in the 401(k) plan to access them penalty-free.

Before tapping into your 401(k), be sure to review the rules governing this age-55 liquidity provision:

• If you retire the year prior to reaching age 55, the 401(k) retirement age 55 provision will not apply. Your withdrawal will be subject to a 10% early withdrawal penalty tax. For example, assume you retire at 54, thinking in one year you can access funds penalty-free. Nope, sorry. You needed to wait one more year to retire for that provision to apply.
• If you roll your 401(k) plan over to an IRA, the retirement age 55 provision will not apply. The earliest age at which you can withdraw funds from a traditional IRA account without penalty taxes is age 59 ½.

Question 48

Gotta Study this stuff more

Answer 48

Hardship W/D for QP and NQP

How to set up the Problem for how much of an IRA we can deduct when we are investing in a QP?

Question 49

Are you taxed for Hardship Withdrawals? If so, at what are you taxed on?

Answer 49

Yes, you are taxed at your income tax rate and there is a 10% penatly but you can only access your deferrals.

Question 50

What are the Hardship W/D steps and reasons?

Answer 50

The participant must exhaust other “reasonably available” resources.

Examples of the required “immediate and heavy financial need” include:

• college tuition expenses
• medical expenses
• purchase of a primary residence
• prevention of eviction from a primary residence

Hardship withdrawals may consist of the participant’s elective deferrals only, not earnings associated with these deferrals.

• If the participant is under age 59 1/2, the withdrawal is subject to the 10% early withdrawal penalty.

Question 51

Types of transfers, rollovers, direct and indirect rollovers for retirement accounts?

Answer 51

Transfers:

A transfer is the term used when the same type of retirement plan is moved from one firm to another. An example would be moving your Traditional IRA from Oak Bank to another Traditional IRA at Maple Brokerage. This is the same for Roth IRAs and SIMPLE IRAs. Transfers are not reported to the IRS. They are not taxable because assets were never made payable or distributed to the taxpayer.

Rollovers:

You can also move money from one type of retirement account at one firm to another type of retirement account at another firm for a rollover. In a rollover, you request a distribution of your retirement plan assets. In a distribution, because the funds are made payable to the taxpayer, the assets are generally taxable and subject to an early distribution penalty if you don’t roll the funds over to an account at another IRA provider. You have 60 days after the distribution to find another firm willing to accept what was distributed. Rolling over the assets will keep them tax-deferred.

Direct Rollover:

Moving assets out of an employer-sponsored plan (such as a 401(k), 403(b), or governmental 457(b) plan) to an IRA is called a direct rollover. If you formerly participated in an employer-sponsored plan, you may direct your previous employer to send your retirement funds to an IRA administrator.

A direct rollover is different from a transfer because it involves two different types of plans. If you choose to take a distribution from your employer plan and rollover the assets, the transaction must be completed within 60 days.

Indirect Rollover:

Moving assets out of an employer-sponsored plan (such as a 401(k), 403(b), or governmental 457(b) plan) to an IRA is called a direct rollover. If you formerly participated in an employer-sponsored plan, you may direct your previous employer to send your retirement funds to an IRA administrator.

Question 52

Can you distribute funds from an IRA to pay for college without a 10% early withdrawal penalty?

Answer 52

Yes, Withdrawals can be taken from an IRA penalty free if used for qualified education expenses but you will have to pay regular taxes on the distribution.

Question 53

Can you distribute funds from a Roth IRA to pay for college without a 10% early withdrawal penalty?

Answer 53

Yes, Withdrawals can be taken from a Roth IRA penalty free if used for qualified education expenses and the distribution is tax free as long as you take less than the amount contributed.

Question 54

Can you distribute funds from a 401(k) to pay for college without a 10% early withdrawal penalty?

Answer 54

Yes, but it would have to be in the form of a loan. You can not take a distribution or you will be taxed.

Question 55

What is permitted disparity?

Answer 55

Integration with Social Security and permitted disparity. The purpose of integration is to equalize the employer’s contributions (to a qualified plan and Social Security) regarding retirement benefits for higher- and lower-paid employees. Without integration, the disparity is that the employer contributes a higher percentage of compensation for lower-paid employees. The net result is to lower the cost for rank-and-file employees while maintaining the same level of contribution (cost) for more highly paid employees (typically owners).

Permitted disparity is the lesser of the base contribution percentage or 5.7%.

Question 56

What are the benefits of an employee funded secular trust?

Answer 56

An employee-funded secular trust provides protection of the deferred funds during employment years; due to ERISA requirements, it almost never allows the employee to defer taxes on the deferred funds.

The advantages would be the receipt of tax-free retirement income and the security of knowing the funds in the trust are not subject to forfeiture.

Question 57

What is the percentage of NHCE compared to the HCE benefiting from the plan?

Answer 57

The NHCE benefiting from the plan must be at least 70% of the HCE’s.

Ex. 1,000 EE’s

100 HCE

900 NHCE

If 90% of the highly compensated employees benefit from the plan (90/100 = 90%). Therefore, at least 63% of nonhighly compensated employees must benefit from the plan (90% × 70% = 63%). With 900 eligible nonhighly compensated employees, 567 must participate (900 × 63% = 567).

Question 58

HCE vs. Key Employee

Answer 58

HCE:

• A greater than 5% owner
  
  • OR
• ​An employee earning in excess of $120,000 during the preceding year (2016)

Key Employee:

An individual is a key employee if at any time during the current year he/she has been one of the following

• A greater than 5% owner
  
  • OR
• An officer and compensation > $170,000 (2017)
  
  • OR
• Greater than 1% ownership and compensation > $150,000 (2017)

Question 59

Substantial Risk of Forefeiture for funded and unfunded plans?

Answer 59

Funding Methods

A. Unfunded (essentially an IOU)

1. employer’s “promise to pay”—only an unsecured agreement

between the employer and the employee (essentially an “IOU”)

2. agreement executed prior to performance of services

B. Funded

1. account is set up for employee in trust, trust income is taxable to employer until employee is no longer subject to substantial risk of forfeiture, then income is taxable to employee.
2. Secular trust: employer gets tax deduction, employee is taxed since the employee is immediately vested and there is no substantial risk of forfeiture.

C. Informally funded

1. In effect, a compromise between “funded” and “unfunded.”
2. Employer must either informally dedicate general assets to the plan through an accounting device (bookkeeping entry), or segregate assets using a trust.
3. Rabbi trust (considered to be unfunded) is an example of informally funded deferred compensation. A trust is set up with two beneficiaries, the employee and creditors of the company. The fact that creditors and not the employee could eventually end up with the assets allows the employee to avoid current taxation. Rabbi trusts may not be offshore or contain any financial triggers for benefit payment.

Substantial risk of forfeiture provisions are generally necessary only in funded plans to prevent constructive receipt. Under IRC Section 409A, compensation will be deemed to be subject to a substantial risk of forfeiture if the right to receive compensation is conditioned on performance of substantial future services (or certain other circumstances) and the possibility of forfeiture is substantial in nature

Question 60

Top-Heavy Plan

Answer 60

A top-heavy plan is one that mainly favors partners, sole proprietors and other key employees. Top-heavy rules are designed to ensure lower paid employees receive at least a minimum benefit in plans where most of the assets are owned by higher paid employees.

The Definition - A plan is top heavy for a plan year if, for the preceding year, the total value of accrued benefits or account balances of key employees is more than 60% of total value of accrued benefits or account balances of all employees.

If a plan is top-heavy then it has to have accelerated vesting schedules.

Question 61

Two coverage tests (must pass 1 of 2 tests) for plans that are not Safe Harbor plans? Primarily DC plans

Answer 61

Ratio Percentage Test:

Percentage of eligible NHCE’s benefiting from plan must be 70% of the percentage of the eligible HCE’s benefiting

Ex: if 80% of HCE’s benefit from the plan then at least 56% (70% of 80% participating = 56%).

Average Benefit Test:

Plan must benefit nondiscriminatory class of EE’s

Average benefit percentage for NHCE’s must be 70% of average benefit percentage for HCE’s.

If the plan does not pass then it has to be brought back into compliance.

Question 62

What is the DB Plans a minimum participation requirement for coverage?

Answer 62

The 50/40 Test

Plan must benefit the lesser of either 50 EE’s -or- the Greater of 40% of all eligible EE’s.

If the plan does not pass then it has to be brought back into compliance.

Question 63

ADP vs. ACP

Answer 63

ADP = actual deferral percentage, looks at employee pre-tax deferrals

ACP = actual contribution percentage, looks at employer match and employee after-tax deferrals

If plan does not pass the ADP or ACP test, then the ER has to bring the plan back into compliance by making corrective actions.

Question 64

ADP Deferral Amounts NHCE’s vs. HCE’s

Answer 64

If ADP of NHCE deferral is__Then, ADP of HCE can’t exceed

1. less than or equal to 2% twice the ADP of NHCE’s
2. Between 2% and 8% the ADP of NHCE’s + 2%
3. greater than or equal to 8% the ADP of NHCE’s x 1.25%