Types of Retirement Plans Flashcards
Qualified vs nonqualified
Qualified
- subject to IRC code 401a (ERISA)
- may not discriminate
- tax deduction for contributions
- earnings accrue tax deferred until distribution
- distributions taxed ordinary (except 10 yr av, NUA stock bonus, ESOP, 401k
Nonqualified
- retirement plan that does not meet the laws of ERISA
- may discriminate
- no employer tax deduction until employee is taxed
- plan earnings taxable to employer
- distributions taxed ordinary
Defined benefit pension (qualified)
- favors older employees (50+)
- guaranteed benefit amount
- requires stable cash flow
- past service credits allowed
- cash balance plan (pension type of DB)
Defined contribution
- individual account per participant, benefit amount tied to individuals account
- qualified
- vesting schedule
- admin costs
- exempt from creditors
- integrated with SSA
- dont allow past service credit
Money purchase pension
DC
- flat employer contribution based on eligible employee compensation . Only first $330k can be taken into account
1. up to 25% employer deduction (could contribute 100%)(irs website says 25%)
- Section 415: contribution limited to lesser of 100% salary or $66k
2. fixed mandatory contributions
3. stable cash flow needed
When to choose
- employer wants stable workforce (retain key employees)
- employer wants a simple plan
- employees are young and paid well
Target benefit pension
DC (with some DB features)
1. up to 25% employer deduction (could contribute 100%)
- Section 415: contribution limited to lesser of 100% salary or $66k
2. fixed contributions
3. stable cash flow needed
4. favors older employees
5. employee assumes investment risk
6. no annual accrual determination needed (actuary determines initial contribution level)
7. retirement benefit determined by account balance (projected value is actuary targeted amount) (can be lower or higher due to investment performance)
8. forfeitures can be reallocated or reduce employer contribution
when to choose
- alternative to DB plan, provides adequate benefits to older employees but has lower cost and simplicity of DC plan
Profit sharing plan
DC
1. up to 25% employer contribution
2. flexible contribution (must be recurring and substantial)
3. 401k provisions $22,500 (FICA) (hardship withdrawal)
4. SIMPLE 401k is exempt from creditors
5. participant has individual account
6. Balance consists of ER contributions, investment returns, and foreitures
when to choose
- when employer profit varies from year to year
- when employer want to adopt qualified plan with incentive feature to motivate profits
- when employees are young, well paid, and have time to accumulate
Stock bonus plan
DC
1. up to 25% employer deduction if dividends are (cash, used to pay loan, paid to plan and reinvested)
2. flexible contributions
3. 100% of the contribution can be invested in company stock
4. ESOP cannot be integrated with SSA or cross tested
- participant accounts are stated in shares of employer stock
- benefits distributable in employer stock
SIMPLE IRA
DB
1. for small employers (100 or fewer)
2. requires employer match (immediate vesting)
3. salary reduction limit up to $15,500
4. company cannot have another plan
SEP IRA - no salary deferral
DB
1. up to 25% contribution for owner, up to 18.59% contribution for self employed
2. account immediately vested
3. can be integrated with SSA
4. special eligibility: 21+ y/o, paid at least $750, worked 3 out of 5 prior years
SARSEP
DB
1. may have up to 25 employees and 50% of eligible must defer
2. must have been in existence before 12/31/96
3. salary deduction limit $22,500
4. employer contributions may be subject to vesting schedule
403b
DB
1. for 501c3 organizations and public schools
2. subject to ERISA only if employer contributes
3. salary reduction limit up to $22,500
4. employer contributions may be subject to vesting schedule
Factors affecting employee benefits - DC
Years to retirement: benefits can be inadequate for employees entering plan at older ages
Investment return: employees assume the investment risk
Salary levels: contributions based on salary level for each working year rather than salary at retirement
Employer contributions: subject to minimum funding, employees can make contributions as low as 3%
Forfeitures: can be reallocated to participants or applied to reduce employer contributions
401k plan
- provision added to qualified profit sharing or stock bonus plan
- participants have option to put money in plan or receive same amount as taxable cash compensation
- if employee elects to defer, deferral is subject to FICA and FUTA but not federal tax
- $22,500 limit with $7,500 catch up above 50
- Section 415: contribution limited to lesser of 100% salary or $66k
when to choose
- employer wants to provide a qualified plan for employees but can afford only minimal extra expense beyond salary and costs
- employee wants to increase their savings on a tax deductible basis
Solo 401k
- not subject to coverage testing and nondiscrimination rules necessary for typical 401k
- usually permitted when only participants are owner, spouse, and two partners
- 2 different contributions
1. elective deferral up to $22,500 (7.5k catch up over 50)
2. employer contribution up to $66k
Safe harbor 401k
- automatically satisfies the nondiscrimination tests which involve highly compensated employees
- two choices: employer match or non elective contribution
- employer will match 4%, if employee contributes 5% (safe harbor match is $1/$1 on first 3% employee deferral and $.5/$1 on next 2%)
- if chosen nonelective deferral: employer must contribute 3% of all eligible employee compensation regardless of if employee is deferring
- employer contributions immediately vested
- exempt from top heavy rules only if deposits are employee deferrals and employer contributions
