Retirement Savings and Income Planning (18%) Flashcards
2/5 - Defined Contribution Plan Types
Profit Sharing: 401k, Stock Bonus, ESOP
DC Pension Plan: Money Purchase or Target Benefit
Participant bears investment risk.
No guaranteed final benefit amount.
DC Plan Vesting
Must be at least as generous as 3-year cliff, or 2-6 year graded.
DC Plan Contribution Limits
EE/ER Contribution limit: $69,000
EE max: $23,000 or total income; +7,500 50+; aggregated over multiple jobs.
ER max: 25% of payroll
Max compensation considered is $345,000 for ER match.
Money Purchase Pension Plan Unique Features
Mandatory annual contributions by ER.
100% ER funded.
Max 10% of ER stock
No withdrawals until 62
EE bears investment risk.
Better for younger participants
Simple.
Target Benefit Pension Plan Unique Features
Mandatory annual contributions by ER.
100% ER funded.
Max 10% of ER stock
Actuary determines contributsions based on participant age.
Can skew higher contributions towards older participants.
Actuary only used in initial year.
Final benefit is only a target and not guaranteed.
2 types of defined benefit plans
- Cash Balance Pension Plan;
- Traditional Defined Benefit Pension Plan
Features of Defined Benefit Plans
i. Guarantee final benefit.
ii. Max pension of $275,000
iii. Max compensation considered is $345,000
iv. Qualified plans are insured by PBGC
v. Must vest 5-year cliff or 3-7 year graded.
vi. Must have joint and survivor payout unless waived
vii. Annual actuarial work req’d.
Appropriate use of ‘Traditional Defined Benefit Pension Plan’
Provides highest levels of guarantees for the participant but is most expensive plan to administer.
Use if older management/owners and good financial standing and stable cash flows.
Specific feature of Cash Balance Pension Plan
Defined Benefit plan.
Must use 3-year cliff vesting schedule.
403(b) Plans aka TSA (Tax Sheltered Annuity) - who can use?
Retirement plan used by 501(c)(3) organizations - schools, & hospitals.
Participant can only invest in Mutual Funds and Annuities.
403(b) Contribution Limits
EE - $23,000, 50+ $7,500
15-years of service +$3,000
Contributions NOT aggregated with other plans.
e.g.: Age 50+ with 15-years experience: $23,000+$7,500+$3,000 = $33,500.
403(b) withdrawal rules
Required RMD at 73
10% penalty for w/d before 59.5
Can roll over to IRA or 401k
457(b) plan, who can use?
Government and certain non-profit orgs.
457(b) plan features
EE - $23,000, 50+ $7,500
Last 3 years of service - Up to $46,000 (no using $7,500 also.
Contributions NOT aggregated with other plans.
NO early withdrawal penalty
e.g.: Age 50+ with 15-years experience: $23,000+$7,500+$3,000 = $33,500.
SE Tax Calculations
15.3% - 12.4% SS + 2.9% Medicare.
Net earnings x .9235 x .1535 = SE
Cap at $168,600 for SS.
Above $168,600 = 2.9% only
50% of SE tax is used for:
i. Above the Line Deduction
ii. deducted for max retirement plan contribution
SE Person max retirement contribution formula:
Step 1: Net Earnings x .9235 x .153 = SE Tax
Step 2: SE Tax * 50% = Adjustment
Step 3: Net Earnings - Adjustment = Max earnings
Step 4: Adjusted Contribution Rate = Plan rate (25%) / 1+Plan Rate
Step 5: Max Earnings x Adjusted Plan Rate
Simplified Employee Pension (SEP) IRA Plan Features
Easy to set-up and maintain
1+ EE’s
ER contributions only
25% of covered comp, max of $69,000
EE’s 21+ and 3 of last 5 years EEs
No loans.
No 10% early withdrawal penalty
SIMPLE IRA Features
Salary reduction plan with little paperwork
<100 EEs
No annual filing requirement
EE: $16,000, 50+ $3,500
ER: must either: i. Match EE contrib 100% for first 3% of comp, or ii. contrib 2% of comp.
Early withdrawal 10% penalty.
W/d w/in 2-years of contrib = 25% penalty
Difference b/w SEP and SIMPLE
SEP is 100% ER funded.
SIMPLE has EE contributions
IRA Traditional Rollover
1x year only.
60-day rule to roll over
20% federal withholding by ER except if IRA-IRA rollover.
Direct Transfer Rollover
No annual limit to number of direct transfers.
Patricipant does not take possession of the funds.
Difference b/w Traditional IRA rollover and Direct Transfer Rollover
A “traditional IRA rollover” refers to moving funds from any type of retirement account (like a 401(k)) into a traditional IRA, while a “direct transfer rollover” specifically means that the funds are moved directly from one account to another without ever coming into your possession, essentially eliminating the risk of taxes being withheld; a direct transfer rollover can be a part of a traditional IRA rollover if done correctly.
401k to Roth IRA method
401(k) with only pre-tax contributions must first be rolled into a Traditional IRA & then converted via a Roth IRA conversion
Rule for spousal IRA beneficiary
Spouse has choice:
i. Be treated as IRA owner and defer RMD’s until age 73;
ii. Combine inherited IRA with their own
Rule for non-spouse beneficiary of IRA
10-year rule
Rule for Eligible Designated Beneficiary (EDB)
Distributions can be spread out over life.
Who are Eligible Designated Beneficiaries
-Spouse
-chronically ill bene
-disabled bene
-minor children (under 21)
-Bene’s not more than 10-years younger
-Bene’s older than IRA owner
Rule for Roth IRA Beneficiaries
No RMD’s for life of IRA owner
No RMD’s for life of spouse of IRA owner
Non-Spouse Bene subject to RMD’s
Who has 5-year IRA withdrawal rule
Estate
Charities
Non Look-Through Trusts
Minor (under 21) beneficiaries of IRA
Can take RMD’s over life expectancy until age 21, then 10-year rule applies
Exception to early withdrawal penalties
Separation of Service - only applies to Qualified Plans
Penalty exception for education expenses, health insurance premiums, and first time home buyers applies ONLY to IRA’s.
Roth IRA Distributions
Age 59.5 is not absolute tax-free qualified distribution.
5-year holding period is absolute.
Qualified distribution for: death, disability, or first-time home purchase can occur at younger ages.
Roth IRA Qualified Distribution Requirements
After 5-years! AND
-Death
-Disability
-First time home purchase ($10k max)
-After age 59.5
Roth IRA non-qualified Roth IRA Distributions:
- Earnings - Regular Tax and 10% penalty
- Roth conversion Contribution - No income tax. If w/in 5-years, 10% penalty
- Regular Roth Contributions - No Tax, No Penalty
What are nonqualified Deferred Comp Plans?
Plans used to provide retirement benefits to top executives that exceed limits available through qualified plans. Aka. Top-Hat Plans, Excess Benefit Plans, Supplemental Executive Retirement Plans (SERP)
Features of a Nonqualified Deferred Comp plan
-ER can select which executives are included
-Benefits do not ned to be uniform among participants
-Not subject to ERISA
-Not subject to funding limits under IRC 415
-Merely a promise by ER - no formal funding
-Avoid Constructive Receipt & Current tax
-Must be a substantial risk of forfeiture
-Vesting schedule
-Often funded using cash value life insurance
-Often funded using Rabbi Trust
What is a Rabbi Trust?
Provides some security to the executive in payment of deferred comp benefits.
Features of Rabbi Trust?
-Funds are not available to the corp
-Funds are safeguarded in the event of merger or acquisition
-does not trigger immediate recognition of compensation b/c substantial risk of forfeiture.
-Funds are available to the corporations creditors
-a ‘Secular” trust is not available to creditors and results in immediate compensation recognition.
What is a Section 162 Bonus Plan?
Also known as an executive bonus plan, is a compensation strategy that allows employers to reward key employees with a life insurance policy.
4 non-qualified plans
- Non-Qualified Deferred Comp Plan
- Supplemental Executive Retirement Plan (SERP)
- Top Hat Plan
- Section 162 Bonus Plan
5 types of Qualified Plans
- Pension
- 401(k)
- Profit Sharing - added to 401k
- SEP
- SIMPLE IRA
2 Types of Tax-Advantaged Plans (characteristics like qualified plans)
- SEP
- SIMPLE IRA
3 Features of Non-Qualified Stock Options (NQSOs)
- Subject to Vesting
- Can be transferred or ‘gifted’ to family members, trust, or charities.
- Corp receives a deduction when EE pays tax at exercise.
3 Features of Incentive Stock Options
- Corporation may not ever receive a deduction.
- May create AMT for EE.
- No more than $100,000/year may be granted.
Tax implications of NQSO
Grant = Not Taxable
Exercise = Taxed as W-2 on spread
Sale = Cap Gain on diff b/w strike price + taxes - sales price.
Tax implications of ISO
Grant = Not Taxable
Exercise = Not Taxable except if AMT inclusion.
Sale =
i. Qualifying disposition = 1-year from exercise and 2-years from grant = Cap Gains
ii. Disqualifying = W-2 income to EE and ER gets tax deduction
What does OASDI stand for in the social security system?
Old Age, Survivors, and Disability Insurance
Social Security Wage Limit
$168,600
Min. wages required to earn a Social Security quarter credit
$1,730 of earned income subject to Social Security taxes
Minimum age for Social Security benefits
62 and 40 quarter credits
When do Social Security Disability Benefits kick in?
18+ who are unable to work due to physical or mental disability expected to last 12+ months or result in death.
What does AIME stand for in the context of Social Security benefits?
Average Indexed Monthly Earnings
How is AIME calculated
Adjusts / Indexes annually to present-day dollars.
Based on 35 best years of indexed earnings
What is PIA in the Social Security benefits context?
Primary Insurance Amount
It is the monthly retirement benefit at Full Retirement Age (FRA)
How is PIA calculated?
Breaks average earnings down based on bend points - $1,174 and $7,078
Formula:
90% of first $1,174
+32% up to $7,078
+15% over
Early or Delayed Social Security Benfit Ages
Early = 62 is min.
Full Retirement = 67 (FRA)
Delayed = 70 is max.
Early Retirement - Social Security decreased benefit calculations
First 36 months early you lose 5/9% per month. If 36 months early you lose 20%.
Next 24 months early you lose 5/12% per month. If full 24 months earlier you lose 10%.
Retiring 5-years early (at age 62) you lose 30% of your benefit.
Reduction is permanent and doesn’t change when you reach FRA or older.
Delayed Retirement - Social Security increased benefit calculations
Up to 36-months, you add 8%/year or 2/3% per month. Full 36 months delayed is 24% increase.
If taking early retirement - what are the max earnings you can have before it makes an impact to social security benefits? and What is that impact?
$22,320 (on tax sheets).
Impact:
Withhold $1 for every $2 earned.
Impact of earnings after reaching FRA and taking Social Security benefits?
Earnings over $59,520 cause benefits to be withheld $1 for every $3 earned
Taxation of Social Security benefits formula
1/2 Social Security Benfits + Tax Exempt Income + AGI = Provisional Income
Don’t forget to add back tax-exempt earnings.
Social Security Benefit Tax Schedules
MFJ - 0% - $32,000 - 50% - $44,000 - 85%
Single - 0% - $25,000 - 50% - $34,000 - 85%
MFS - 85%
Former spouse social security benefits.
3 rules.
Can apply for benefits on a former spouse’s record even if former spouse is not retired.
- Must have been married for 10-years and currently unmarried.
- Divorced at least two years before applying.
- Must be age 62
Spousal Social Security Retirement Benefit calculations
Based on worker spouse’s PIA.
Max 50% at spousal claimant FRA.
Reduced for early retirement by 8.33%/year and 5%/year
Medicare payroll tax calculations
1.45% EE & ER = 2.9% - on unlimited income
+ 0.9% above $200,000 single, $250,000 MFJ
4 Medicare Parts
Part A - Hospital
Part B - Medical (non-hospital)
Part C - Medicare Advantage
Part D - Prescription Drugs (‘D’ for drugs)
Medicare Part A details
No premium
Must be 65+ and paid in for 10+ years
Days 1-60 deductible
61-90 - co-pay
91+ higher co-pay
150+ days are paid by individual
Does not cover doctor visits, prescription drugs, and custodial care.
Medicare Part B details
Optional. Requires premium.
Annual deductible - after deductible individual pays 20%
Covers: certain doctors’ services, outpatient care, medical supplies, preventative services
Medicare Part C details
Medicare Advantage
Alternative to A&B.
Low premiums.
An “all in one” alternative to Original Medicare.
Medicare Part D details
Prescription Drugs
“D” for drugs
Coverage is optional
Requires Premium
Medicare IRMAA
Income Related Monthly Adjustment Amount.
Higher income Medicare beneficiaries under Part B and D may pay additional premium if MAGI exceeds thresholds.
Medicare MAGI = AGI + Tax Exempt Income
Penalty for failing RMD’s
25%
Deadline for first RMD
IRA - April 1 following year of attainment of age 73, even if still employed.
Must make second RMD by 12/31 of that year too.
401(k) - Later of:
i. April 1 following year of age 73
ii. Actual Retirement
Deferral to actual retirement not available to 5%+ owners, and only applies to current employer’s plan.
Deadline for RMDs after the frist RMD
Dec. 31 annually
Calculation of RMDs
FMV of combined accounts as of 12/31 of previous year divided by age factor
Qualified Charitable Distribution Requirements
Must be 70.5 years old.
Satisfy’s RMD if 73 y.o.
Max annual $105,000 - per spouse.
Must be direct transfer to charity
Taxation of Qualified Plan - Net Unrealized Appreciation
Ordinary Income on ER’s stated basis at the time of the lump-sum distribution and
LTCG of thee NUA at the time of distribution.
QDRO Tax Implications
Payor does not pay tax.
Can be distributed w/o 10% penalty - still subject to income tax.
If pd to child the plan participant is taxed.
May be rolled over and avoid tax.
ERISA Qualified Plan
The Ratio Percentage Test - plan must cover a percentage of non-highly compensated employees equal to at least 70% of the percentage of highly compensated employees covered
The Acme Corporation employs 56 employees of whom 18 are highly compensated. The plan covers 23 of the non-highly compensated employees and 15 of the highly compensated employees. Does the plan meet ERISA nondiscrimination testing requirements?
Ratio percentage test:
.6053 NHCE / .8333 HCE = .7264 Pass
Social Security integration of a qualified plan provides additional contribution or benefit for income above the integration level, which is typically the Social Security taxable wage base ($168,600 in 2024).
5.7%
11.4% (2x5.7%)(5.7% base rate is the “lesser of” crossover point from the 2x).
The maximum increase in benefits produced by the integration formula used cannot exceed 26.25% (3/4ths of 1% x 35 years)
3 Earnings levels to qualify as a Key Employee
- Officers with earnings of more than $220,000 (2024)
- Owners of more than 5% of the business, or
- Owners earning over $150,000 (not adjusted for inflation) and holding more than 1%.
What happens when a DC plan is ‘Top Heavy’
- Vesting accelerated to 2-6 year.
2a. DB plans, a minimum defined benefit of 2% of compensation multiplied by the years of service up to 10 years
2b. DC plans, a minimum defined contribution of 3% of covered compensation
When is a qualified plan considered ‘Top Heavy’
60/60
DB - 60%+ accrued benefits are with Key EEs
60%+ account balances are with Key EEs
Details for Simple 401k
- EE can elect to defer some compensation
- ER Must pay 3% matching or 2% mandatory
- EEs are totally vested
Must have 100 or fewer employees.
Cannot have any other retirement plans.
Need to annually file a Form 5500.
Contribution limits
EE Max - $16,000 + $3,500 (50+).
Participant loans are permitted.
In-service withdrawals - 10% penalty if under age 59-1/2.
Section 303 Redemption
- keeps control of a closely-held or family corporation after decedent’s death.
- stock is a 35%+ of net estate asset
IRC Section 2032A election
An executor may elect to value qualifying real property based on its actual special use rather than its highest and best use. This rule is especially helpful where the price of farmland is artificially increased by, or has not kept up with, the price per acre of encroaching housing developments or more lucrative commercial businesses. Electing a valuation based on special use enables the executor to value the farmland for farming purposes by applying the inflation-adjusted reduction amount.
- property must be involved in a qualified use
2 .must equal at least 50% of the decedent’s gross estate after debts are paid. - property must pass to a qualified heir
- Max reduction $1,310,000
