Retirement Savings & Income Planning (17%)

Question 1

Basic Concepts of Social Security

Answer 1

Coverage - Nearly every worker is covered under OASDI. Old Age, Survivors and Disability Insurance.

Employment categories not covered by Social Security include:

• Federal employees who have been continuously employed since before 1984.
• Some Americans working abroad
• Student nurses and students working for a college or college club
• Railroad Employees
• A child, under age 18, who is employed by a parent in an unincorporated business
• Ministers, members of religious orders and Christian Science practitioners if they claim an exemption
• Members of tribal councils

Question 2

Social Security

(Reduction of Benefits)

Answer 2

• FRA (Full Retirement Age) is 66
  
  • The earliest you can get benefits is age 62, then benefits reduced $1 for every $2 earned over $16,920 (2017 threshhold)
  • 62 is 75.0% of FRA amount
  • 63 is 80.0% of FRA amount
  • 64 is 86.7% of FRA amount
  • 65 is 93.3% of FRA amount

Question 3

Social Security

(Taxation)

Answer 3

• Must include MUNI BOND income to calculate MAGI
• Must include RENTAL income to calculate MAGI
• Must include PENSION income to calculate MAGI
• Must include TAXABLE INTEREST & DIVIDEND income to calculate MAGI
• If income (MAGI) plus ½ of social security benefits is:

1. Less than $25K for a single taxpayer or $32K for MFJ, then 0% of the total social security is included in taxable income.
2. Above $25K for a single taxpayer or $32K for MFJ, then 50% of the total social security is included in taxable income.
3. Above $34K for a single taxpayer or $44k for MFJ, then 85% of the total social security is included in taxable income.

Question 4

Types of Qualified Plans/ERISA

(vesting/admin costs/exempt from creditors/integrate with Social Security)

Answer 4

• Defined Benefit
• Cash Balance
• Money Purchase
• Target Benefit
• Profit Sharing
• Profit Sharing 401(k)
• Stock Bonus
• ESOP (NOT integrated with Social Security or cross-tested)

http://www.pensioncon.com/plantypes.php

Question 5

Types of Retirement Plans

(no vesting/limited admin costs)

Answer 5

• SEP
• SIMPLE
• SAR-SEP
• Thrift or Savings Plans (TSP - Federal EE’s and Military)
• 403(b) (Public Schools and some Non-Profits)

Question 6

What are Pension Plans Subject To?

Answer 6

They are subject to Minimum Funding Standards

DBPP

CBPP

MPPP

TBPP

Question 7

Defined Benefit Pension Plan -

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement

Defined Benefit Plan = Provide Specified Retirement Benefit & ER guarantees the investment result & PBGC

Answer 7

• DBPP Favors older employee/owner (50+)
• Certain annual retirement benefit paid to EE; Maximum contribution is the lessor of 100% of salary or $215k (2017) and it is subject to the Annual Compensation Limit of $270K. This would mean that someone could get paid $215K or 79% of their 270K comp limit for the rest of their life.
  
  • Meet a specific retirement objective
• ​Company must have very stable cash flow
• Past service credits allowed
• Forfeitures MUST be applied to reduce employer contributions
• Plan is promised and backed/insured by PBGC (along with Cash Balance Plan) up to $5,369.33 monthly benefit (at age 65)
• Plan is guaranteed by ER like Cash Balance Plan (future benefit).
• Benefit is based on a formula
  
  • Flat Benefit Formula - flat amount or flat percentage of pay
  • Unit Benefit Formula - flat amount per year of service or percentage of pay per year of service.
    
    • Final average pay (DBPP)
    • Career average pay (CBPP)

Question 8

Types of Defined Benefit Pension Plan Formulas?

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement

Defined Benefit Plan = Provide Specified Retirement Benefit & ER guarantees the investment result & PBGC

Answer 8

• Flat Benefit Plan Formula: do not reflect years of service. The retirement benefit may be expressed as:
  
  • a flat amount
  • a flat percentage of earnings
  • service reduction may be used, such as reduced benefit for less than x number of years (You could make this number the owner/key employee number of years of service at retirement.)
• Unit Benefit Plan Formula: credit years of service and generally are more favorable to long-term employees.
  
  • Retirement benefit generally is expressed as a percentage of earnings per year of service, but could also be a dollar amount per year of service, such as 2% of compensation for each year of service so if employee has 20 years of service the benefit amount would be 40% of compensation.
  • Rewards length of employment and salary increases.
• Variable Benefit Plan: Benefits are based on allocating units, rather than dollars, to the contributions to the plan. At retirement, the value of the units allocated to the retiring employee would be the proportionate value of all units in the fund.
• *

Question 9

What two earnings provisions determine the compensation that will be used in the benefit calculation of a Defined Benefit Pension Plan?

Answer 9

• Career-average pay (cash balance plan always uses)
  
  • This is the average of earnings over the participant’s entire period of plan participation.
• 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.

Question 10

What do Defined Benefit Plans Provide?

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement

Defined Benefit Plan = Provide Specified Retirement Benefit & ER guarantees the investment result & PBGC

Answer 10

DB Plans Provide specified retirement benefit

Defined Benefit Pension Plan

Cash Balance Pension Plan

Question 11

Can you compare Defined Benefit Pension Plans to Cash Balance Pension Plans?

Answer 11

• guaranteed benefit
• quasi money purchase plan with guaranteed return
• Defined benefit plan can be AMENDED into a cash balance plan to simplify and reduce costs. (When this is done, the company can keep the same vesting schedule and amounts in the new plan. In other words, all participants in the defined benefit plan would not be automatically 100% vested because of the defined benefit pension plan termination.)

Question 12

Defined Contribution Plans Provide?

Qualified = ERISA

Pension Plan = Subject to minimum funding standards (MPPP and TBPP) and the Qualified Joint and Survivor Annuity requirement

Profit Sharing Plan = NOT Subject to Minimum Funding Standards (PSP, ESOP and Stock Bonus Plan)

Defined Contribution Plan = Provides Uncertain Retirement Benefit

Answer 12

DC Plans Provide an uncertain retirement benefit

PSP (PSP)

Money Purchase (PP)

Target Benefit (PP)

Question 13

DB vs. DC payout for EE

Answer 13

• A defined benefit (DB) plan has the distinguishing characteristic of clearly defining, by its benefit formula, the amount of benefit that will be available at retirement. That is, the benefit amount is specified in the written plan document, although the amount that must be contributed to fund the plan is not specified.
• A defined contribution (DC) plan is a qualified pension plan in which the contribution amount is defined but the benefit amount available at retirement varies. This is in direct contrast to a defined benefit plan, in which the benefit is defined and the contribution amount varies. As with the defined benefit plan, when the defined contribution plan is initially designed, the employer makes decisions about eligibility, retirement age, integration, vesting schedules, and funding methods.

A Defined Benefit (“DB”) Plan does not have the direct contribution limits associated with a Defined Contribution (“DC”) Plan (such as Profit Sharing Plan).

So, the DB Plan is an excellent option for a company that wants to make annual contributions greater than 25% of covered compensation, without the individual limit of 100% of compensation or $54,000 (2017 limit).

Benefit Formula
Determining annual contributions to a DB Plan begins with the benefit formula in the plan document. The benefit formula usually takes into consideration years of participation in the plan and compensation, and defines a monthly amount to be paid to the participant beginning at the retirement age specified in the plan.

The maximum benefit at retirement cannot be higher than 100% of a participant’s highest consecutive 3 year average compensation, with a maximum limit of $215,000 per year (2017 limit).

The simplest of the defined contribution (DC) pension plans is the money purchase plan. Under this plan, the employer guarantees only the annual contribution but not any returns. As opposed to a defined benefit plan, where the employer keeps all the monies in one account, the defined contribution plan has separate accounts under the control of the employees. The investment vehicles in these accounts are limited to those selected by the employer who contracts with various financial institutions to administer the investments. If employees are successful in their investment strategy, their retirement benefits will be larger. The employees are not assured an amount at retirement, and they have the investment risk, not the employer

Question 14

Cash Balance Plan Information

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement

Defined Benefit Plan = Provide Specified Retirement Benefit & ER guarantees the investment result & PBGC

Answer 14

Similar to a pension plan and a 401(k) combined. You have ER guaranteed returns (5% + 3%) in a hypothetical account for each EE. Account builds and at retirement can take an annuity on the account balance. The account is Portable.

• Cash balance pension plans are defined benefit plans that appear similar to defined contribution plans.
• Instead of guaranteeing Retirement Benefit
• Cash balance plans are defined benefit (DB) plans
  
  • Maximum annual benefit is limited to the amount that will fund a benefit of $215,000 a year in retirement in 2017, or if compensation is less, 100% of compensation.
  • Only up to $270,000 in compensation can be used when calculating this benefit.
  • Actuarial services are required annually.
  • The employer guarantees the specified investment result. Usually fixed percentage (5%) + interest credit (3%).
  • The cash balance plan does NOT provide an amount of benefit that will be available for the employee at retirement. Rather….
    
    • Instead, the cash balance plan sets up a “hypothetical individual account” for each employee, and credits each participant annually with a plan contribution (usually a percentage of compensation).
    • The employer also guarantees a minimum interest credit on the account balance. For example, an employer might contribute 10 percent of an employee’s salary to the employee’s plan each year and guarantee a minimum rate of return of 4 percent on the fund.

In a typical cash balance plan, a participant’s account is credited each year with a “pay credit” (such as 5 percent of compensation from his or her employer) and an “interest credit” (either a fixed rate or a variable rate that is linked to an index such as the one-year treasury bill rate). Increases and decreases in the value of the plan’s investments do not directly affect the benefit amounts promised to participants. Thus, the investment risks are borne solely by the employer.

When a participant becomes entitled to receive benefits under a cash balance plan, the benefits that are received are defined in terms of an account balance. For example, assume that a participant has an account balance of $100,000 when he or she reaches age 65. If the participant decides to retire at that time, he or she would have the right to an annuity based on that account balance. Such an annuity might be approximately $8500 per year for life. In many cash balance plans, however, the participant could instead choose (with consent from his or her spouse) to take a lump sum benefit equal to the $100,000 account balance.

If a participant receives a lump sum distribution, that distribution generally can be rolled over into an IRA or to another employer’s plan if that plan accepts rollovers.

The benefits in most cash balance plans, as in most traditional defined benefit plans, are protected, within certain limitations, by federal insurance provided through the Pension Benefit Guaranty Corporation.

Question 15

Cash Balance Plan -

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and Qualified Joint and Survivor Annuity

Defined Benefit Plan = Provide Specified Retirement Benefit & ER guarantees the investment result & PBGC

Answer 15

• qualified defined benefit plan that provides specified employer contributions and a guaranteed return into a hypothetical account.
• Favors Younger Employees. Uses Career Average Pay ONLY.
• The cash-balance plan credits your account with a set percentage of your salary each year.
• Another key difference: If you leave the company before retirement age, you may take the contents of your cash-balance plan as a lump sum and roll it into an IRA. A traditional pension isn’t portable.

Question 16

What are the provision that Cash Balance plans have similar to those of defined contribution plans?

Answer 16

• Employer contributions generally are a specified uniform percentage of compensation.
• 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).
• Participants’ accrued benefits are expressed as account values, however, there are no individual accounts.

Question 17

What is a Money Purchase Pension Plan?

Read the answer here

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement

Defined Contribution Plan = Provide uncertain retirement benefit – but requires a fixed contribution from ER

Answer 17

A money purchase plan or money purchase pension is a type of defined contribution retirement plan offered by some employers. Money purchase plans are like other defined contribution plans, such as 401(k) and 403(b) plans, in that both the employer and employee make contributions to the plan. EE makes after-tax contributions into plan. What makes money purchase plans different is that they require fixed employer contributions. That means that employers must contribute a fixed percentage of each eligible employee’s salary annually to their separate retirement accounts.

Money purchase plans are similar to profit-sharing plans, but with a profit-sharing plan, the employer can determine each year how much will be distributed to employees. Instead of a fixed percentage of salary, a profit-sharing employer could decide to share a fixed amount of profit, and distribute it to employees each year as a percentage of salary. For employers, money purchase plans make budgeting and planning for contributions easier, while profit-sharing plans offer more flexibility in less profitable years.

A money purchase pension plan is a type of qualified defined contribution plan in which you, the ER, make annual required contributions to the accounts of participating EE’s. The amount of your employer contributions is generally determined based on a preset formula that cannot be changed without amending the plan, even if your business profits are low or nonexistent.

A money purchase pension plan is very similar to a profit-sharing plan. In fact, the two plans are so similar that each type of plan is specifically required to identify itself as either a “money purchase pension plan” or a “profit-sharing plan” in the plan document. The most significant distinction between the two types of plans is the MPPP mandatory fixed contribution formula (in contrast, contributions to a profit-sharing plan are generally discretionary).

According to the Internal Revenue Service, a money purchase retirement plan is a defined contribution plan into which the employer is required to contribute money. The plan prescribes the contribution percentage that the employer is required to make and the employer makes the contribution, typically annually, to a separate account for each eligible employee based on the employee’s pay.

Like a defined benefit pension plan, a money purchase plan is subject to the minimum funding requirements and the qualified joint and survivor annuity requirements. Like a defined contribution plan, a money purchase plan is subject to the annual limit on contributions to the plan and the annual valuation of plan assets. This duality of requirements significantly affects the design of money purchase plans.

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 18

Money Purchase Pension Plan -

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement

Defined Contribution Plan = Provide Uncertain Retirement Benefit due to annual contributions and the investment returns of the EE account.

Answer 18

• Mandatory contributopm of up to 25% employer payroll and can deduct same 25%.
• Fixed contributions - need stable cash flow
• Maximum annual contribution lesser of 100% or salary of $54k (2017)
• No acutuarial determination in this plan

In money purchase plans, the employer is obligated to contribute even if the company didn’t make a profit. The contributions are determined by a specific percentage of each employee’s compensation and must be made annually.

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.

A money-purchase pension plan is a pension plan to which employers and employees make contributions based on a percentage of annual earnings, in accordance with the terms of the plan. Upon retirement, the total pool of capital in the member’s account can be used to purchase a lifetime annuity. The amount in each money-purchase plan member’s account differs from one member to the next, depending on the level of contributions and the investment return earned on such contributions.

Question 19

Money Purchase Pension Plan Basic Provisions?

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement

Defined Contribution Plan = Provide Uncertain Retirement Benefit

Answer 19

• Employer contributions are limited to up to 25% of covered payroll and ER can deduct 25% on taxes.
  
  • With 25% PSP available, MP is no longer in favor
• Forfeitures may be reallocated to remaining participants’ accounts or applied to reduce employer contributions.
• Subject to minimum funding standards.

http://www.pensioncon.com/plantypes.php

Question 20

Money Purchase Pension Plan Advantages to Employer (ER)?

Answer 20

• Young owners and employees benefit from years of tax-deferred contributions, earnings (investment risk borne by employee), and compounding.
• Tax-deductible contributions.

Question 21

Money Purchase Pension Plan DisAdvantages to Employer (ER)?

Answer 21

• Forfeitures applied to reduce employer contribution will impact cashflow and tax planning.
• Mandatory annual contributions are fixed (minimum funding standard).
• Leased employees with one year of service or more.
  • Leased employees are employees of the recipient employer if they provide services “under the primary direction or control of the employer” for one year. To avoid treatment as employees of the recipient employer (and participate in any company plan), leased employees
    
    • must not constitute more than 20% of the recipient’s work force; and
    • must be covered by a 10% MPP plan (with immediate eligibility and 100% immediate vesting) through their leasing agency.

Question 22

Money Purchase Pension Plan Advantages of Employee (EE)?

Answer 22

• May benefit from forfeiture reallocations if so applied
• Minimum funding standard
• 10% limit on employer stock—diversification

Question 23

The Other 2 Pension Plans: Money Purchase and Target Benefit Similarities

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement

Defined Contribution Plan = Provide Uncetain Retirement Benefit

Answer 23

• Since they are pension plans, they have mandatory funding (minimum funding standard), 10% max for employer securities.
• Qualified joint and survivor annuities (QJSAs) and qualified preretirement survivor annuities (QPSAs) must be provided by all pension plans.
• Can also offer qualified optional survivor annuity (QOSA) or lump sum, fixed period, etc., if waiver is signed.
• Not covered by PBGC (only DB plans)
• In-service distributions at age 62, don’t usually offer loans

Question 24

Target Benefit Pension Plan?

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement & Needs stable cash flow

Defined Contribution Plan = Provide Uncertain Retirement Benefit

Answer 24

• Up to 25% employer deduction
• Fixed contributions - need stable cash flow
• Maximum annual contribution less of 100% of salary or $54k (2017)
• Favors older workers - How?

The Target Benefit Plan, which is an age-weighted pension plan. Under this plan, each employee is targeted to receive the same formula of benefit at retirement (age sixty-five), but the benefits are not guaranteed. Because older employees have less time to accumulate the funds for retirement, they receive a larger contribution as a percentage of compensation than the younger employees do. The target plan is a hybrid of defined benefits and defined contribution plans, but it is a defined contribution pension plan with the same limits and requirements as defined contribution plans.

One such defined contribution plan is the target plan, which is an age-weighted pension plan. Under this plan, each employee is targeted to receive the same formula of benefit at retirement (age sixty-five), but the benefits are not guaranteed. Because older employees have less time to accumulate the funds for retirement, they receive a larger contribution as a percentage of compensation than the younger employees do. The target plan is a hybrid of defined benefits and defined contribution plans, but it is a defined contribution pension plan with the same limits and requirements as defined contribution plans.

Question 25

Target Benefit Pension Plan Basic Provisions?

Qualified Plan = ERISA

Pension Plan = Subject to Minimum Funding Standards and the Qualified Joint and Survivor Annuity requirement

Defined Contribution Plan = Provide Uncertain Retirement Benefit

Answer 25

• Employer contributions are limited to up to 25% of covered payroll up to $54,000 per participant.
• Forfeitures may be reallocated to remaining participants’ accounts or applied to reduce employer contributions.
• Subject to minimum funding standards
• **Allocation of employer (ER) contributions is based on age-weighted formula.
• **Actuary is used for the first year of the plan only.

Question 26

Target Benefit Plan and Age Weighted Profit Sharing Plan (PSP) Similarities?

Answer 26

• An age-weighted profit sharing plan provides the same potential benefit as the target benefit plan; however, the age-weighted profit sharing plan is not subject to mandatory funding.

Question 27

Target Benefit Pension Plan Advantages of Employer (ER)?

Answer 27

• Relatively simple to explain and install
• Annual contributions generally in favor of older, highly paid participants.

Question 28

Target Benefit Pension Plan DisAdvantages of Employer (ER)?

Answer 28

• Mandatory annual contributions
• Limits employer’s tax deduction

Question 29

Target Benefit Pension Plan Advantages to Employee (EE)?

Answer 29

• Younger participants could benefit from years of contributions and compounding
• Participants benefit from excess earnings

Question 30

Target Benefit Pension Plan DisAdvantages to Employee (EE)?

Answer 30

• Participants assume investment risk
  
  • **Note: The target plan is no longer a useful plan. The age-weighted profit sharing plan can provide all its benefits without the fixed annual contribution obligation.

Question 31

Why does Target Benefit Plan Favor Older EEs?

Answer 31

Target Benefit is Determined.

Target benefit plans derive their name from the fact that such plans specify a target benefit for each participant at normal retirement age. This target benefit is typically defined by a formula similar to the formula utilized by defined benefit plans, and will generally be based on a percentage of compensation (e.g., 50 percent of final compensation) as well as on years of service.

For example, a target benefit plan might specify a normal retirement age of 65 and a target benefit of 60 percent of final compensation for participants with 25 years or more of service; participants with less than 25 years of service would receive a proportionately smaller target benefit. In this case, participants 40 years old or younger (who could qualify for the full 25 years of service requirement prior to reaching the normal retirement age of 65) would receive contributions based on a target benefit of 60 percent of their final compensation. Individuals older than 40, however, have less than 25 years before reaching normal retirement age and would receive contributions based on a prorated benefit percentage.

Alternatively, a target benefit plan might provide for a target benefit calculated by granting a specific benefit for each year of service, up to a stated maximum. For example, a target benefit plan could provide for 2.4 percent of compensation for each year of service up to a maximum of 25 years.

The target benefit exists for purposes of determining current contribution amounts–it does not represent the expected benefit payout to individual participants. The benefit that a participant actually receives upon reaching normal retirement age depends upon the investment performance of the participant’s individual plan account.

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.

Example: Arnold and Abe are both to be provided with $1,000 at age 65. Arnold is 30 years old and Abe is 50 years old. Assuming an 8.5 percent annual rate of return, $294 needs to be contributed today for Abe to have $1,000 in 15 years at age 65. By contrast, because Arnold has 35 years for his money to grow, only $58 needs to be contributed today to have the same $1,000 at age 65.

Question 32

How is the Target Benefit determined for a TBPP?

Answer 32

Contribution Amounts are Calculated Based on Determined Target Benefits

Once a participant’s target benefit is determined according to the plan’s provisions, a contribution calculation for each participant is made. The calculation assumes that a participant will receive the same contribution every year until reaching normal retirement age. The amount each participant receives as a contribution is the annual amount needed to fund that participant’s target benefit (based on appropriate assumptions and projections).

In order to calculate the actual contribution required for each participant, actuarial calculations are required that factor in the participant’s age and the projected rate of return for the funds in the participant’s account.

An assumption is made that the participant’s compensation remains level throughout his or her years of service for purposes of the contribution calculation. When a participant’s compensation does in fact increase, this will result in a new, higher target benefit for that participant. Future contribution calculations for that participant will be based on this new, higher target benefit.

The actual investment performance of individual participant accounts plays no role in determining required annual participant contribution amounts.

As with any money purchase pension plan, target benefit plans can generally allocate additional plan funds to higher-paid employees by taking into account permitted disparity (often referred to as “integrating with Social Security”). However, target benefit plans must follow the permitted disparity rules of defined benefit plans. These rules are significantly more complicated than the defined contribution permitted disparity rules that apply to other money purchase plans.

Question 33

Impact of Actuarial Assumptions with Direct and Indirect Relationships - explain why don’t memorize?

Answer 33

Direct Relationship (if x increases, then plan costs incresase or if x decreases, then plan costs decrease).

• Expected Inflation
• Expected Wage Increases
• Life Expectancy

Indirect Relationship (if x increases, then plan costs decresase or if x decreases, then plan costs increase).

• Expected Investment Returns
• Expected Mortality
• Expected Forefeiture/EE turnover

Question 34

Profit Sharing -

Qualified Plan = ERISA

Profit Sharing Plan = NOT Subject to Minimum Funding Standards

Defined Contribution Plan = Provide Uncetain Retirement Benefit

Answer 34

• Up to 25% employer deduction
• Flexible contributions (must be recurring and substantial)
• Maximum annual contribution lesser of 100% of salary or $54k (2017)
• Can have 401(k) provisions
• SIMPLE 401(k) exempt from creditors

Question 35

Profit Sharing Plan Basic Provisions?

Qualified Plan = ERISA

Profit Sharing Plan = NOT Subject to Minimum Funding Standards

Defined Contribution Plan = Provide Uncetain Retirement Benefit

Answer 35

• 25% employer deduction limit
• Employer contributions usually are discretionary, but must be “substantial and recurring”
• Forfeitures usually are reallocated to remaining participants’ accounts

Question 36

Profit Sharing Plan Advantages to Employer (ER)?

Answer 36

• No fixed annual contribution required
  
  • Although they must be substantial and recurring.
• May motivate employees if based on profits

Question 37

Profit Sharing Plan DisAdvantages to Employer (ER)?

Answer 37

• Plan may benefit younger participants when the goal is to benefit older owner

Question 38

Profit Sharing Plan DisAdvantages to Employee (EE)?

Answer 38

• Employer is not required to contribute annually

Question 39

Profit Sharing Plan Advantages to Employee (EE)?

Answer 39

• Younger participants benefit from many years of tax-deferred contributions, compounding earnings, and forfeiture reallocations.

Question 40

What are Profit Sharing Plans (PSP) subject to?

Answer 40

PSP’s are NOT subject to minimum funding standards.

PSP

Stock Bonus

ESOP

Question 41

Post Employer Benefits for DB + DC Plans

Answer 41

DB:

Entity Obligation is to “provide the agreed upon benefit” in some sort of annuity based on length of service and pay.

Actuarial and Investment risk is on the ER

DC:

Entity Obligation is to “contribute to the EE fund”

Actuarial and Investment risk is on the EE

Question 42

Who benefits most from profit-sharing plans?

Answer 42

• 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 43

Section 401(k) Plan

Answer 43

• Qualified profit sharing or stock bonus plan that allows plan participants to defer salary into the plan
• Max $18,000 (2017) deferral for participants under 50 (subject to FICA)
• Additional $6,000 catch-up for age 50 and over (2017)

Question 44

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

Answer 44

• 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 45

Section 415 Annual Additions Limit

Answer 45

• Lesser of 100% of compensation or $54,000 (2017)
• Includes employer contributions, employee salary reductions and plan forfeitures

Question 46

Safe Harbor

Nondiscrimination

Answer 46

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 47

What are profit sharing allocation methods?

Answer 47

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 48

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

Answer 48

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 49

Permitted Disparity or Social Security Integration Allocation Method?

Answer 49

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 50

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

Answer 50

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 51

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

Answer 51

• 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 52

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

Answer 52

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 53

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

Answer 53

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 54

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

Answer 54

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 55

Safe Harbor

Match/Vesting

Answer 55

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 56

Stock Bonus/ESOP -

Qualified Plan = ERISA

Profit Sharing Plan = NOT Subject to Minimum Funding Standards

Defined Contribution Plan = Provide Uncetain Retirement Benefit

Answer 56

• 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 57

Net Unrealized Appreciation (NUA)

Answer 57

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 58

Keogh Contribution

Answer 58

• 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 59

What is a Keogh Plan?

Answer 59

• 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 60

Keogh Plan as Defined Contribution

Answer 60

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 61

Keogh as a Defined Benefit Plan

Answer 61

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 62

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

Answer 62

• 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 63

SIMPLE Plan

Answer 63

• 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 64

SEP

(Simplified Employee Pension)

Answer 64

• 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 65

Tax-Deferred Annuity (TDA)

Tax Sheltered Annuity (TSA)

403(b)

Answer 65

• 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 66

Age and Service Rules -

Qualified Plans

Answer 66

• 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 67

Highly Compensated Employee (HCE)

Answer 67

• A greater than 5% owner

OR

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

Question 68

Key Employee

Answer 68

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 69

HCE vs. Key Employee

Answer 69

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 70

Vesting - Fast / Slow

Answer 70

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 71

Defined Contribution Plans

(Integration with Social Security)

Answer 71

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 72

Defined Benefit Plans

(Integration with Social Security)

Answer 72

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 73

Multiple Plans 2017

Elective Deferrals

Answer 73

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 74

Life Insurance as a Funding Vehicle

Answer 74

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 75

Rollovers NOT Permitted

Answer 75

• 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 76

Qualified Plan

Early (age 59½) - 10% Tax Penalty Exceptions

Answer 76

• 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 77

Required Beginning Date (RBD)

for

IRAs / SEPs / SARSEPs / SIMPLEs

Answer 77

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 78

Required Beginning Date (RBD)

for

Qualified Plans / 403(b) / 457 plans

Answer 78

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 79

IRA Deductibility Keys

Answer 79

• 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 80

IRA

Exceptions to 10% Penalty for

Early Distributions before age 59½

Answer 80

• 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 81

Roth IRA

Ordering rules for distribution

Answer 81

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

Question 82

Roth IRA

Required Minimum Distributions

Answer 82

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 83

Non-qualified Deferred

Compensation Plans

Answer 83

• 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 84

Rabbi Trust

Answer 84

• 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 85

Incentive Stock Option (ISO)

Holding Period

Answer 85

Holding Period:

1 year from exercise date and 2 years from grant before selling ISOs

Violating either rule results in a disqualifying disposition

Question 86

Section 457 Deferred

Compensation Plan

Answer 86

• 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 87

IRA Keys

(SIMPLE, SEP, SARSEP)

Answer 87

• 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 88

What is the maximum defined benefit plan annual benefit?

Answer 88

• 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 89

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 89

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 90

What plans favor Older EE’s and Why?

Answer 90

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 91

What plans favor Younger EEs and Why?

Answer 91

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 92

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

Answer 92

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 93

Gotta Study this stuff more

Answer 93

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 94

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

Answer 94

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

Question 95

What are the Hardship W/D steps and reasons?

Answer 95

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 96

How to calculate the Active Participant for an IRA Contribution?

Answer 96

Allowable IRA Deduction Limit Calculation

IRA contribution limit x (Upper Limit of phaseout - AGI) / (Phaseout Range) = deductible amount

set it up by writing down the following

Name l A/P (Y or N) l AGI I IRA Contribution I Phaseout Range

Question 97

Who is an Active Participant?

Answer 97

Deductible IRA contributions:

• For married taxpayers filing jointly, who are both active participants in a company-maintained retirement plan, the IRA deduction is phased out between $99,000 and $119,000 of AGI for joint returns.
• A taxpayer who is not an active participant, but who has a spouse who is an active participant, may take a deduction for the contribution, subject to a phaseout ranging from $186,000 to $196,000. The active participant spouse is subject to the $99,000 and $119,000 AGI limitation.
• For single taxpayers who are active participants, the phaseout is between $62,000 and $72,000 in 2017.

Question 98

What is 10 year forward averaging?

Answer 98

Ten-year forward averaging is a special tax computation available only to individuals born before 1936 that are taking a lump-sum distribution from their qualified retirement plan.

Ten-year forward averaging allows you to figure the tax on your lump-sum distribution by applying 1986 tax rates to one-tenth of the amount of your distribution, then multiplying the resulting tax amount by ten.

This tax is payable for the year in which you receive the lump-sum distribution.

You would almost never select this becuase someone would have to be 92 years old in 2018. You can disregard this for the test.

Question 99

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

Answer 99

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 100

What type of EE benefits are non-taxable to the EE?

Answer 100

Qualified employee discounts and health and accident insurance are the only listed employee benefits that are nontaxable to the employee.

Question 101

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

Answer 101

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 102

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

Answer 102

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 103

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

Answer 103

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 104

What is permitted disparity?

Answer 104

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 105

What are the benefits of an employee funded secular trust?

Answer 105

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 106

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

Answer 106

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 107

Substantial Risk of Forefeiture for funded and unfunded plans?

Answer 107

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