Retirement Plans Unit 24
Without the need to meet any special conditions, a participant in which of the following retirement plans would be able to withdraw funds prior to age 59½ and not incur a 10% tax penalty? A) 401(k) B) 501(c)(3) C) 457 D) 403(b)
C) 457 The 457 plan allows participants to withdraw funds at any time, not just after age 59½, without incurring the 10% tax penalty. Income taxes would, of course, be due, but no penalty.
Two years after their wedding, Pam and Jim became the proud parents of child. Both grandparents want to help ensure educational funds for their new grandchild by using the Coverdell ESA. Assuming they are within the earnings limitations, which of the following would be permitted? A) $2,000 from Pam's mother, $2,000 from Pam's father, $2,000 from Jim's mother, and $2,000 from Jim's father B) $1,000 from Pam's parents and $1,000 from Jim's parents into separate ESAs C) $2,000 from Pam's parents and $2,000 from Jim's parents into separate ESAs D) $2,000 from Pam's parents and $2,000 from Jim's parents into a single ESA
B) $1,000 from Pam's parents and $1,000 from Jim's parents into separate ESAs Any individual whose modified adjusted gross income is under the limit set for a given tax year can make contributions. There's no limit to the number of accounts that can be established for a particular beneficiary; however, the total contribution to all accounts on behalf of a beneficiary in any year can't exceed $2,000.
Which of the following employer-sponsored plans is NOT covered by ERISA? A) 403(b) B) Deferred compensation C) Defined benefit pension D) 401(k)
B) Deferred compensation Deferred compensation plans are not ERISA-covered plans; that is what gives them greater flexibility than a covered plan.
Which of the following investment activities are acceptable for a fiduciary acting under the prudent expert rule? I. Purchasing AAA-rated debentures II. Purchasing a growth mutual fund III.Purchasing new issues of a AAA-rated issuer IV. Writing covered calls on dividend-paying stocks A) I and II B) II and IV C) I, II, III, and IV D) II and III
C) I, II, III, and IV The prudent expert rule permits a fiduciary to invest in securities that a prudent expert might buy. These investments are nonspeculative, low to moderate risk, and likely to be considered prudent if they are used in a way consistent with modern portfolio theory (MPT).
Saving for higher education using which of the following tools will generally result in the worst outcome when filing the FAFSA form? A) Coverdell ESA B) Cash value in the parent's insurance policy C) UTMA D) Section 529 plan
C) UTMA One of the negatives of using UTMA (or UGMA) to save for a child's education is that those funds are counted at a far higher percentage of the child's assets than are funds in a Coverdell ESA or 529 plan. Cash value in the parent's life insurance policy is not counted at all.
All of the following are true about education funding plans EXCEPT A) proceeds in ESAs may be withdrawn income tax free for qualified education expenses even if the child is under age 18 B) Section 529 plans allow a gift tax exclusion equal to five times the annual limit that may be repeated every 5 years C) a beneficiary of an ESA who withdraws the funds for nonqualified expenses will be taxed on the entire amount of the withdrawal plus a 10% penalty D) proceeds in 529s may be withdrawn income-tax free only if used at a qualified academic institution
C) a beneficiary of an ESA who withdraws the funds for nonqualified expenses will be taxed on the entire amount of the withdrawal plus a 10% penalty The tax and 10% penalty is only levied against earnings since the contributions were made with after-tax dollars. ESA's may be used for any level of education, including elementary school where it is hoped that the student would be under age 18. In order to receive the favored tax treatment, the proceeds must be used at a qualifying educational institution. Section 529 plans have the unique 5-year front-loading feature.
Which of the following could reduce the amount that an individual may contribute to a Traditional IRA? I. Roth IRA contributions made for the year II. High income level III. Participation in an employer-sponsored plan IV. Marital status A) I, II and III B) I and II C) I, II, III and IV D) I only
D) I only The maximum annual contribution applies as a total among your Roth and your traditional IRA. So, if the maximum is $6,000 and you put $3,000 into your Roth, you could only put $3,000 into your traditional IRA. You could do a total of $7,000 if you were 50 or older. High income level and participation in an employer-sponsored plan will affect the amount you may deduct but not the amount you may contribute. Even though a married couple can have their own IRAs or set up a spousal IRA if one is nonworking, that doesn't reduce the amount that either spouse can contribute.
Minnie's Uncle Bob would like to contribute to his one-year-old niece's education expenses. He is able to contribute a maximum of $1,200 per year. There is no other family member in a position to make a contribution. If minimizing the taxes at withdrawal and low cost investing, such as index mutual funds, is the objective, which of the following would you recommend? A) UTMA B) Coverdell ESA C) Dollar cost averaging D) Section 529 plan
B) Coverdell ESA When you see contribution levels at $2,000 per year or less, that is a signal that Coverdell is the proper recommendation. Higher levels would be the 529 plan. There are no specific tax benefits to the UTMA. In fact, tax rates on unearned income can be rather high. Although Uncle Bob might dollar cost average by investing $100 per month, that does not specifically answer the question.
What new benefit did the TCJA of 2017 bring to 529 plans effective 2018? A) Withdrawals may be made for qualified expenses at certain foreign educational institutions. B) Qualified withdrawals of up to $10,000 per year to pay for K-12 tuition C) Qualified withdrawals of up to $10,000 per year to pay for K-12 expenses D) Tax-deductible contributions of up to $10,000 per year to pay for K-12 tuition
B) Qualified withdrawals of up to $10,000 per year to pay for K-12 tuition The big change was the ability to use a 529 plan for K-12 expenses. However, the only expense that qualifies is tuition and there is a maximum limit of $10,000 per year. No contribution to any 529 is tax deductible. The use of the 529 for foreign educational institutions pre-dates the TCJA of 2017.
Which of the following statements describing traditional IRAs is NOT true of 403(b) qualified plans? A) Distributions must begin by age 70½. B) A self-employed person may participate. C) Contributions are tax deductible. D) Distributions after age 59½ are taxed as ordinary income.
B) A self-employed person may participate Only employees of schools, church organizations, and nonprofit organizations are eligible to participate in 403(b) plans.
It would be incorrect to state that a lump-sum distribution from a 401(k) before retirement may be A) eligible to be transferred to a Roth IRA B) eligible to be rolled over into a traditional IRA C) subject to ordinary income tax and penalty D) tax free if the recipient is disabled
D) tax free if the recipient is disabled A distribution to someone who is disabled is free of the 10% penalty tax but is still subject to taxation as ordinary income. Distributions from a qualified retirement plan (e.g., a 401(k) plan) prior to retirement are subject to tax and possible penalty unless the funds are rolled over or transferred into a traditional IRA. If, instead, the move is made into a Roth IRA, there is no penalty, but tax would be due just the same as if one converted from a traditional to a Roth IRA.
John and Martha, both in their early 40s, were divorced 2 years ago. Because Martha is unemployable, the terms of the divorce require John to pay Martha $300 per month in alimony and $1,000 per month in child support for their 4 children. Given that information, which of the following statements is CORRECT? A) John is able to deduct $3,600 from his taxable income. B) John is able to deduct $12,000 from his taxable income. C) Martha could contribute a maximum of $6,000 this year to an IRA. D) Martha has reportable taxable income of $12,000 for the year.
A) John is able to deduct $3,600 from his taxable income Alimony is considered eligible income for an IRA to Martha and tax deductible to John. Child support is neither income to Martha nor deductible to John. Because Martha receives $3,600 in alimony, that would be her maximum allowable IRA contribution. Please note: Effective January 1, 2019, there were changes to the tax treatment of alimony for all divorce agreements entered on and after that date (no changes to those already in existence). Questions on the exam (and our q-bank) reflect those changes. Therefore, for any divorce before January 1, 2019, the alimony is income to the recipient and a deduction for the payor. That means the recipient can use alimony as earned income for an IRA contribution. For any divorce after December 31, 2018, it is not income to the recipient and it is not a deduction for the payor. That means the recipient cannot consider alimony as earned income for making an IRA contribution. Be sure to check the dates on any test question.
A self-employed attorney has income of $110,000 per year. If he contributes $4,000 to his traditional IRA and has no other retirement plans, which of the following statements is TRUE? A) The contribution is fully tax deductible. B) The contribution is not permitted. C) The contribution is not tax deductible. D) The contribution is partially tax deductible.
A) The contribution is fully tax deductible Traditional IRA contributions are fully deductible no matter how much income is earned if the taxpayer is not covered by any other qualified plan. Anyone under the age of 70½ with earned income can contribute to a traditional IRA.
Among the benefits of an HSA is A) the amount that may be contributed is based on the number of dependents. B) funds not used for health expenses may be invested in mutual funds and other securities. C) funds may be used for various medical expenses once the low deductible has been met. D) up to $10,000 per year may be accumulated.
B) funds not used for health expenses may be invested in mutual funds and other securities. Unlike an FSA (flexible spending account), employee contributions to a health savings account (HSA) not used for medical expenses may be invested in a wide variety of securities. Although mutual funds are the most common, many providers offer the opportunity to invest in stocks and bonds. Remember, one of the eligibility requirements for an HSA is a high, not low, deductible. Currently, the maximum contribution is $3,450 for an individual or $6,850 if family coverage, regardless of the number of dependents covered.
IRAs and Keogh plans are similar in the following ways EXCEPT A) there is a 50% tax penalty for insufficient distributions B) identical amounts of contributions are allowed C) deferral of taxes D) distributions without penalty can begin as early as age 59½
B) identical amounts of contributions are allowed IRAs and Keogh plans do not have identical contribution amounts; IRAs allow a maximum of $6,000 per individual or $12,000 per couple per year (with a catch-up of $1,000 for each individual aged 50 or older), whereas Keogh plans allow substantially more. Both IRAs and Keoghs allow tax-deferred growth until the individual withdraws the funds. IRAs and Keoghs have premature distribution penalties before age 59½. Once the participant reaches 70½, required minimum distributions must be made or a 50% tax penalty will be assessed
A grandparent wishes to contribute funds to an account for the benefit of the college education of a grandchild. In which of the following does the donor have the greatest amount of control over the assets in the account? A) An UTMA account B) An UGMA account C) A Coverdell ESA D) A Section 529 plan
D) A Section 529 plan It is the Section 529 plan that offers the greatest amount of control to the donor. In the case of the ESA, on the IRS form used to open the account, it states: "The 'responsible individual"' named by the depositor shall be a parent or guardian of the designated beneficiary." Unless we are told that the grandparent has been appointed as legal guardian, there is a lack of control. And, even then, one thing the "responsible individual" cannot do that the donor to a 529 plan can is take the money back. Although the grandparent could be named the custodian of the UGMA or UTMA account, the only authority there is to make the investment decisions and disbursements until the termination age of the account.
A fiduciary of an ERISA plan is preparing an investment policy statement. Included would probably be I. specific security selection II. methods of performance measurement III. determination for meeting future cash flow needs IV. the Summary Plan Description A) I, II, and III B) II and IV C) III and IV D) II and III
D) II and III The IPS will include methods of performance measurement (if it is meeting objectives) and a way to determine how future cash flow needs will be met (based on expected numbers of retirees). It will not include the specific securities to be purchased, but will include the types that may be placed in the portfolio. The Summary Plan Description (SPD) is a Department of Labor (DOL)-required document that gives employees a summary of the plan and its features. It has nothing to do with determining how the money is invested.
One of the ways that individuals can accumulate funds for retirement is through individual retirement arrangements (IRAs). There are a wide range of investments eligible for inclusion in an IRA and would include all of the following except A) specified collectibles. B) fixed annuity contracts. C) exchange-traded funds. D) life insurance contracts.
D) Life insurance contracts Life insurance policies are prohibited investments in an IRA and, in general, collectibles are prohibited as well. There are some important exceptions to the collectible prohibition. The IRS states that an IRA can invest in one, one-half, one-quarter, or one-tenth ounce U.S. gold coins, or one ounce silver coins minted by the Treasury Department. It can also invest in certain platinum coins and certain gold, silver, palladium, and platinum bullion.
Which of the following statements regarding Section 529 plans is CORRECT? A) Qualified expenses would include all residence costs incurred by a full-time student. B) Residents of some states receive a deduction on their federal income tax returns. C) Funds not used for qualified expenses by age 30 must be distributed or rolled over. D) Qualified expenses could include tuition for attendance at a foreign university.
D) Qualified expenses could include tuition for attendance at a foreign university. As of the date of this question, there are approximately 330 institutions of higher learning located outside of the United States where Section 529 plans may be used to pay qualified expenses. The expense for room and board (residence cost) qualifies only to the extent that it isn't more than the greater of the following 2 amounts: The allowance for room and board, as determined by the eligible educational institution, that was included in the cost of attendance (for federal financial aid purposes) for a particular academic period and living arrangement of the student The actual amount charged if the student is residing in housing owned or operated by the eligible educational institution It is the Coverdell ESA that has the age 30 requirement and some states offer deduction on the state income tax return, not the federal one.
Among the reasons why a corporation might choose to utilize a deferred compensation plan for retirement planning would be A) compliance with ERISA B) the plans are nondiscriminatory C) current tax savings on money contributed to fund the plan D) employees who leave the company prior to retirement would not receive benefits
D) employees who leave the company prior to retirement would not receive benefits Deferred compensation plans are usually structured so that if the employee leaves prior to retirement or is terminated with cause, benefits are forfeited. These plans are discriminatory and there is no current tax saving, hence the term "deferred." As nonqualified plans, they do not have to comply with ERISA.
Becky Biggins has an executive position with a large corporation that covers her under its defined benefit pension plan. This year, Becky's salary will top $235,000. Becky has no dependents and wishes to maximize funds that she can accumulate for her retirement. Becky could I. not open a traditional IRA II. open a traditional IRA but would not be able to deduct her contributions III. open a Roth IRA IV. not open a Roth IRA A) I and III B) I and IV C) II and III D) II and IV
D. II and IV Anyone with earned income can open a traditional IRA. Deductibility of contributions may be disallowed if the individual is covered under a corporate plan and has earnings in excess of a certain level. Becky's salary exceeds the maximum permitted for a single person so her contributions would be made with after-tax dollars. In the case of a Roth, nothing is deductible, so it doesn't matter if you are covered at work. However, Becky's salary is far in excess of the maximum permitted for a single person to contribute to a Roth IRA.
