Retirement Savings and Income Planning

Question 1

Capital Preservation Approach

Answer 1

Additional capital needed on day 1 of retirement to leave same account balance at death as capital utilization approach requires:
N - Years of expected retirement
I/Y- Nominal rate of Return
PMT - 0
FV - Capital utilization amount
Solve for PV

Question 2

Defined Contributions Plans

Answer 2

A qualified plan which the sponsor defines the contribtuition formula rather than a guarunteed final benefit

Can be either a profit sharing plan or a DC pension plan

Question 3

Defined Contribution plans (name them)

Answer 3

Profit sharing plans:
Traditional profit sharing plan
Section 401(k) plans
Stock bonus plans
employee stock ownership plans

DC Pension Plans:
Money purchase pension plan
Target Benefit pension plans

Pension plans can be either DC or DB depending on the plan

Question 4

Defined Contribution annual limits include…

Answer 4

Employer Contributions
Employee Contributions
Reallocated forfeitures (only if allocated to individuals accounts, not if used to pay management fees

Question 5

Features common to ALL defined contribution plans

Answer 5

Participant Directed accounts
combined EE/ER contributions up to $66k
Maximum compensation in benefits formula $330k
Participant bears investment risk
No guaranteed final benefit amount
Vesting must be at least 3 year cliff or 2-6 year graded or better
Maximum deductible employer contribution is 25%
Tends to favor younger employees
Easy for participants to understand
NO PBGC insurance

Question 6

Additional features of Traditional Profit Sharing Plans

Answer 6

Flexible year to year employer contributions
No Required yearly contributions, must contribute 3 of last 5 years and they must be” substantial and recurring”
100% employer funded
May invest 100% in employer stock
Not subject to QJSA
Contributions can be made from retained earnings and cash flow, not just profits
Typically allow hardship withdrawals and loans
Age-weighted traditional plan can skew to older participants

Question 7

Additional Features of Section 401(k) plan

Answer 7

Elective deferral lesser of 100% of compensation or $22,500 (+$7,500 catch up for and 50 and above)
Not required to make annual contributions but usually have some type of matching program
offer loans and hardship withdrawals
can have employer contributions be 100% employer stock
participants must be given a minimum of 3 diversification alternatives for elective deferrals
Maximum contribution is aggregated from all jobs
Employee contributions subject to ADP testing
Employer contributions subject to ACP testing

Question 8

Additional features of Money Purchase Pension Plan

Answer 8

Mandatory annual employer contributions
100% employer funded
Defines the employer’s contribution usually as a % of employee’s compensation
May invest no more than 10% in employer stock
typically no in-service withdrawals until age 62
Subject to QJSA

Question 9

Additional features of Target Benefit Pension plan

Answer 9

Requires mandatory annual employer contributions
100% employer funded
Actuary determines contribution based on age and target benefits
Skews contributions in favor of older participants
Actuary only used for initial year
benefits are not guaranteed
No more then 10% in employer stock

Question 10

Types of Defined Benefit Plans

Answer 10

Traditional DB Plan- guarantees the final monthly pension amount

Cash balance Pension Plans- Guarantees a specific cash balance at the plans stated normal retirement age

Question 11

Features of ALL Defined Benefit Plans

Answer 11

Guarantees final benefit
Maximum annual pension is $265,000
Maximum compensation considered in formula is $330,000
5 Year cliff of 3-7 years graded vesting or better
Must have joint ad survivor payout unless waived
No Participant directed accounts- sponsor bears investment risks
No predetermined maximum deductible employer contribution
Annual actuarial work required
Must Satisfy 50/40 rule

Question 12

Additional Features of a traditional defined benefit pension plan

Answer 12

Guarantees a monthly pension
older, higher-earners can have substantial funding on their behalf
Common formula is percentage of pay times number of years of service
No Individual accounts
Accruing a benefit of any amount is “active participant” status for IRA deduction purposes

Question 13

Additional Features of a cash balance plan

Answer 13

Hypothetical participant accounts for record keeping but not participant directed account
Each year participant accruses a plan contribution on a “pay credit” plus an “interest rate credit”
Provideds uniform benefit accrual for all employees
can convert cash balance to a lifetime pension
Considered the easier of DB plans for people to understand

Question 14

403(b) plans

Answer 14

Used by tax exempt organization and public schools
pretax contributions and tax deferred growth
limited investment choices, mutual funds and annuities
2 catch up provisions both at age 50+:
1) additional $7,500
2) if 15+ years of service with the sponsoring organization, an additional $3,000 catch up contribution can also be made
Totaling the annual contribution limit to $33,000

Question 15

457(b) plans

Answer 15

Used by government and certain non-profits
pretax contributions and deferred tax growth
no 10% withdrawal penalty before 59 1/2
not considered an active participant for IRA deduction purposes
contributions not aggregated with other retirement savings programs
age 50+ catch up- $7,500
During last 3 years of service special catch up: recapture unused deferral from past years to twice normal annual limit ($45,000)
Both catch ups can not be used at the same time

Question 16

Self Employment Tax

Answer 16

Consists of social Security and Medicare taxes
Goes on schedule SE of form 1040
15.3% total
12.4% for social security, up to $160,200
2.9% for medicare on all earnings

Question 17

IRS Schedule 1 and SE tax

Answer 17

1/2 of SE tax is an adjustment to income deduction on IRS schedule 1 in calculating AGI
1/2 of SE is subtracted from net earnings in calculation of maximum contributions to retirement plan

Question 18

Calculating SE Tax

Answer 18

Net Earnings*.9235= SE earnings
SE earnings *.153 (if SE is less then 160,200)
(SE earnings * .0290)+(160,200 * .124) = if SE earnings are over 160,200

Shortcut- if net earnings are below 160,200 do:
Net Earnings * .1413

Question 19

Maximum Retirement contributions for Self Employed

Answer 19

1) Subtract 1/2 SE tax from net earnings
2) Employer contribution % / (1+employer contribution %)
Multiply the answer from step1 b the answer in step 2

Shortcut if employer %= 25%
take net earnings * .1859

This calculation does not apply to other employees, only the self employed owner

Question 20

Employer Sponsored Retirement plans: Simplified Employee Pension (SEP)

Answer 20

Easy to set up
1 or more employee
No annual required contribution from employer
up to 25% of covered compensation up to $66,000
Contributions on a year to year basis
100% vested contribution immediately
Must offer to all employees 21 and over that have been there for 3 out of the last 5 years and earned $750 this year
Withdrawals permitted, taxes and early withdrawals penalties apply
No Loans

Question 21

Employer sponsored retirement plans: Simple IRA

Answer 21

Salary Reduction plan with little administrative paperwork
100 employee or less (and no other plans being offered)
Employee salary reduction and Employer contributions
Employee may contribute $15,500 (and $3,500 catch up)
Employer must either match 100% for the first 3% (can go as low as 1% for 2 of the past 5 years) of compensation or 2% of eligible compensation
Must be offered to all employees earning $5,000 in the last 2 years
Normal taxes plus a 25% penalty if taken out in the first 2 years
all contributions are 100% vested immediately

Question 22

IRA Contribution Deduction Rules

Answer 22

Single- Active member 83,000 and up not deductible
73,000 and down fully deductible
Not active- fully deductible
MFJ- Neither member active- fully deductible
Client is active- 136,000 and up not deductible
116,000 and down fully deductible
Not active but spouse is- 228,000 and up not deductible
218,000 and down fully deductible

457 plans are not active plans
SEP, Simple, 403(b) and TSA are all active plans

Question 23

IRA and Employer sponsored plans: Traditional Rollover

Answer 23

Only 1 traditional rollover is allowed per year
plan administrator transfers vested account balance or portion of it to the participant.
within 60 days the participant must deposit the funds in an IRA or new employer plan
20% of balance is withheld for federal income tax. If that 20% is not replaced in new account then with-holdings is taxed and subject to 10% penalty

Question 24

IRA and Employer Sponsored Retirement Rollovers: Direct Transfer Rollovers

Answer 24

No annual limit on the number of direct transfers in a year
Plan Trustee transfers rollover directly to IRA or another employer plan
Participant does not take possession of the funds
No Mandatory tax withholding applies

Question 25

Traditional 401(k) rollover to Roth IRA

Answer 25

Must first transfer to a traditional IRA then from that to a Roth IRA
Can not DIRECTLY transfer from a Traditional 401(k) to a Roth IRA

Question 26

Inherited Retirement Accounts:
Spouse

Answer 26

Has choice of being treated as the IRA owner or as the beneficiary
If chooses to be the owner they defer RMDs until age 73
May combine their own IRA and inherited IRA

Question 27

Inherited Retirement Account: NonSpouse Beneficiaries

Answer 27

10-Year rule applies
If account was already in RMD status at the time of death, the beneficiary must make annual RMDs in years 1-9 and have drained the account by the end of year 10

Question 28

Inherited Retirement Accounts: Eligible Designated Beneficiaries

Answer 28

Spouse
Chronically ill beneficiaries
Minor Child (under 21)
Beneficiaries NOT more than 10 years younger (but must be younger) than the IRA owner

Question 29

Inherited Retirement Accounts: Roth IRA

Answer 29

No RMDs during the life of the owner
If the spouse is the beneficiary and becomes owner then they forego RMDs for their lifetime as well
Non-spouse beneficiaries are subject to RMDs

Question 30

Exceptions for Early Withdrawal Penalty: Qualified plans (NOT IRAs or IRA funded employer plans)

Answer 30

Yes- Medical Expenses, after the death of the owner, total or permanent disability, a series of substantially equal payments (72(t)), and separation from service in the year you turn 55 or after
NO- qualified higher education expenses, health insurance premium paid while unemployed, qualified first time home buyer, up to $10,000 lifetime

Question 31

Exceptions for Early Withdrawal Penalty: Traditional IRA and IRA funded Employer Plans

Answer 31

Yes- Medical Expenses, after the death of the owner, total or permanent disability, a series of substantially equal payments (72(t)), qualified higher education expenses, health insurance premium paid while unemployed, qualified first time home buyer, and up to $10,000 lifetime
NO- Separation from service in the year you turn 55 or after

Question 32

Roth IRA qualified distribution Requirements

Answer 32

Must be after the 5 year period beginning with the first taxable year for which an individual made a Roth IRA contribution

AND 1 OF THE FOLLOWING
-the account owners death
-the account owner being disabled
-First time home purchase $10,000 max
-Made after the individual attains 59 1/2

Question 33

Roth IRA: Non-qualified Distributions taxes and penalties

Answer 33

Accounts earners are subject to regular income tax and 10% penalty
Roth conversion contributions- No regular income tax, distribution within 5 years of conversion maybe subjected to 10% penalty
Regular contributions- no regular income tax and no penalties

Question 34

Nonqualified Deferred Compensation

Answer 34

Also called top hat plans, excess benefit plans and supplemental executive retirement plans (SERPs)

Question 35

Rabbi Trust

Answer 35

Funds are not available to corporations for purposes other than non-qualified deferred compensation
Funds are safe guarded in event of merger/acquisitions
Is accessible to corporate creditors in the event of company insolvency (this makes it so it is not recognized compensation)

Question 36

Qualified Plans: Tax advantaged plans

Answer 36

Currently deductible employer plan contributions and benefits not currently taxable to the employee/participant

Question 37

Non-Qualified Section 162 Bonus plans

Answer 37

Currently Deductible employer plan contributions
and
Employer can limit participation to select individuals (pick and choose)

Question 38

Non-Qualified Deferred Compensation Plans

Answer 38

Benefits not currently taxable to employee/participant
and
Employer can limit participation to select individuals (pick and choose)

Question 39

Non-Qualified Stock options (NQSOs) Tax Consequences

Answer 39

The right to purchase stock at a set price
grant- awarding the option to purchase stock (No taxes)
Exercise- buying the stock (the difference between FMV and strike price is taxed as ordinary income)
Sale- selling the stock (Difference between FMV at exercise and sale is taxed as capital gain

Question 40

Incentive Stock Options

Answer 40

Grant- Set option to buy and the strike price
Exercise- Stock is purchased at strike price
FMV Sale- Selling the stock at a future date for FMV
Sale must be 2 years after grant and 1 year after exercise to have qualifying disposition
If QD you pay long term capital gains on difference from strike price to FMV sale
AMT may apply at exercise step

Question 41

Incentive stock options taxation of Disqualified disposition

Answer 41

Difference between strike price and FMV (bargain element) is not taxed as capital gains
if bought and sold in the same year; bargain element is taxed as ordinary income ad FICA taxes apply. Employer will receive a deduction on their taxes
If bought and sold in 1 year but no the same year; bargain element is taxed as ordinary income; no FICA tax, employer does not receive a deduction

Question 42

Social Security: Earning Credits and Fully Insured

Answer 42

You earn 1 credit $1,640 earned in a tax year with a maximum of 4 credits earned per year ($6,560)
40 credits means you are fully insured

Question 43

Social Security Funding

Answer 43

7.65% from ER and EE (15.3%) on earned income up to $160,200 (Social Security and Medicare)
1.45% on unlimited earnings (just medicare)
6.2% from ER and EE are social security tax (up to the $160,200 limit)

Question 44

Social Security Disability Benefits

Answer 44

Adults 18 or older who are unable to work due to a physical or mental disability expected to last at least 12 months or result in death

Question 45

Average Index Monthly Earnings

Answer 45

Based on 35 best years of social security earnings
Adjusted (indexed) each years earnings to present day dollars
Calculates average monthly earning in current dollars

Question 46

Primary Insurance Amount (PIA)

Answer 46

The Monthly retirement benefit at full retirement age (FRA)

Question 47

PIA Benefit Formula

Answer 47

90% of the first $1,115
32% of the next $5,606
15% for everything in excess of $6,721 (1,115+5,606)

Question 48

Social Security: Important ages

Answer 48

62 Earliest retirement age
67 full retirement age
70 Maximum benefits

Question 49

Social Security: Early/Delayed Benefit calculation

Answer 49

67=FRA
Between 64-67 5/9% reduction for each month early (total 20%)
Between 62-64- 5/12% reduction for each month early (total 10%)
Between 67-70- 2/3% increase for each month delayed (total 24%)

Question 50

Social Security, Claiming early and income limits

Answer 50

62 until the year in which you turn 67- $1 of benefit is withheld for every $2 you make over $21,240
In the year you reach FRA $1 of benefit is withheld for every $3 you earn over $56,520
In the year you begin claiming it is 1/12 the income limit for each month claiming and working

Question 51

Taxation of Social Security Benefits

Answer 51

1/2 SS Benefits + tax exempt income + AGI = Provisional income

MFJ- 0 taxable under 32k
50% taxable between 32-44k
85% taxable over 44k

Single- 0 taxable under 25k
50% taxable between 25-34k
85% taxable over 34k

MFS- Always taxed at 85%

Question 52

Spousal Social Security Benefits

Answer 52

Current spouse- worker must already be receiving benefits
must have been married for at least 1 year
Must still be Married

Former Spouse- Worker must be at least 62
Must have been married for at least 10 years
Must have been divorced for at least 2 years

Question 53

Spousal Social Security Benefits and Maximum Family Benefit Rules

Answer 53

Current Spouse benefits are included in maximum family benefit rules
former spouse’s benefits are not included in maximum family benefit rules

Question 54

Spousal Social Security Benefits and early/Delayed claims

Answer 54

Claiming before full retirement age has a reduction of 8.33% per year for the first 3 years and 5% per year for the 2 before that
No delayed retirement benefit credits past FRA

Question 55

Spousal Social Security Maximum Benefits

Answer 55

Maximum at 50% of the workers benefits at FRA

Question 56

Overview of Medicare part

Answer 56

Part A- Hospital
Part B- Medical (non-hospital)
Part C- Medicare Advantage
Part D- Prescription Drug Coverage

Question 57

Medicare Tax

Answer 57

1.45% from both ER and EE and all earnings
additional 0.9% above:
250,000 MFJ
125,000 MFS
200,000 all other filers

Question 58

Income Related Monthly Adjustment Amount (IRMAA)

Answer 58

Higher income beneficiaries under Part B and D may pay additional premium if medicare specific MAGI exceeds threshold

AGI + Tax exempt income = Medicare specific MAGI

Question 59

Medicare Part A

Answer 59

Generally no premium
Qualify if you are 65 or older and have paid into it for at least 10 years
Hospitalization- 1-60 days- flat deduction
61-90- must pay a daily co-pay
over 90 days uses the lifetime reserve days up to 90 additional days (pays a higher co-pay)
Beyond 180 days is paid entirely by the individual

Question 60

Calculating RMDs

Answer 60

FMV of combined accounts as of December 31 the previous year divided by the age factor

Question 61

RMD Penalty

Answer 61

25% penalty on the undistributed amount

Question 62

RMDs from Multiple Accounts

Answer 62

IRAs- May distribute total RMD amount from 1 account

401(k)s- Each accounts RMD must be calculated and distributed seperatly

Question 63

Deadline for First RMD

Answer 63

IRA- April 1st following the year of attainment of age 73, even if still employed

401 (k)- the later of April 1st following the year of attainment of age 73 or the year of actual retirement age
(working exemption does not apply if you are 5% or more owner in the company you work for)
Working deferral only applies to the current employers plan

Question 64

Qualified Charitable Distributions (QCD)

Answer 64

A non-taxable distribution from an IRA directly to an eligible charitable organization

Question 65

Qualifications for a Qualifies Charitable Distribution

Answer 65

Tax payer is at least 70 1/2 on the day of distribution
transfer must be through a direct transfer rollover
annual maximum $100,000 to one of more charities per person

Question 66

Advantages of Qualified Charitable Distributions

Answer 66

Satisfies RMD requirements if needed
Is not included in AGI effecting Medicare premiums, surtaxes, sate tax etc.

Question 67

Net Unrealized Appreciation (NUA)

Answer 67

Applies only to employer stock in a qualified plan
typically entire amount employer contributed and earned would be taxed as ordinary income
Instead employer basis is taxed as ordinary income and appreciation is taxed at capital gains tax rate

Question 68

Qualified Domestic Relations Order (QDRO)

Answer 68

A judgement decree or order for a qualified retirement plan to pay child support, alimony or marital property rights to an alternative person

Question 69

Individual Receiving QDRO payments

Answer 69

Can roll it into another IRA or Qualified Plan
If not put in a qualified plan you pay tax on it
Not subject to early withdrawal penalty
If distributed to a minor then the plan participant pays the tax