CFP Practice Questions - Retirement Planning
Spenser is covered under his employer's top-heavy New Comparability Plan. The plan classifies employees into one of three categories: 1) Owners, 2) Full-time employees, 3) Part-time employees. Assume the IRS has approved the plan and does not consider it to be discriminatory. The employer made a 4% contribution on behalf of all owners, 2% contribution on behalf of all Full-time employees and 1% contribution on behalf of all part time employees. If Spenser currently earns $50,000 per year and is a full-time employee, what is the contribution that should be made for him? $1,000 $1,500 $19,500 $57,000
$1,500 For a profit sharing plan the contribution is limited to the lesser of $57,000 (2020) or covered compensation. Since the plan is top heavy, the plan must provide a benefit to all non-key employees of at least 3%, therefore; 50,000 × 3% = $1,500.
Financial Training Team (FTT) develops training materials for finance professionals across the country. Chad, who just turned age 48, owns 15% of FTT and earns $200,000 per year and is a participant in his employer's 401(k) plan, which includes a qualified automatic contribution arrangement and the associated mandatory non-elective contribution. The actual deferral percentage test for the non-highly compensated employees is 2.5 percent. FTT made a 20% profit sharing plan contribution during the year to Chad's account. What is the maximum amount that Chad can defer in the 401(k) plan during 2020? $26,000 $11,000 $13,500 $19,500
$11,000 The 401(k) plan avoids ADP testing because it is a QACA. Therefore, the ADP for the NHCE is irrelevant. However, the max that can be contributed is limited by IRC 415(c). The employer is contributing $40,000 to the profit sharing plan plus $6,000 as a non-elective contribution (3% of $200,000). Since the 2020 limit is $57,000, Chad can only contribute $11,000.
Corey is covered under his employer's Profit-Sharing Plan. He currently earns $500,000 per year. The plan is top heavy. The employer made a 5% contribution on behalf of all employees. What is the company's contribution for him? $14,250 $25,000 $57,000 $285,000
$14,250 For a profit sharing plan the contribution is limited to the lesser of $57,000 (2020) or covered compensation. In this case the contribution will be limited by the covered compensation limit of $285,000. $285,000 × 5% = 14,250 (the calculation without the compensation cap would have been 500,000 x 5% = 25,000). The fact that the plan is top heavy is irrelevant since all employees are receiving a contribution greater than 3%.
Lois and Ken Clark are age 32. They want to retire at age 62. They have calculated they will need a lump sum of $4,300,000 to provide the inflation-adjusted income stream they desire. Current investment assets are projected to grow to $3,100,000 by age 62. They project they will earn 6% after-tax on their investments and inflation will average 4% over the next 30 years. They would like to fund their retirement in level annual payments. They assume their retirement will last 26 years. Using the capitalization utilization method, what annual end-of-year savings will the Clarks need to deposit during their pre-retirement years? $15,786 $15,179 $9,600 $9,419
$15,179 Amount needed to fund retirement is $4,300,000 which is given in the question. The inflation adjustment has already been made. Current assets will comprise $3,100,000 of the amount needed. $4,300,000 less $3,100,000 leaves a shortfall of $1,200,000. To accumulate $1,200,000 at 6% after-tax over 30 years, they will need to deposit $15,179 at the end of each year. Ignore all the other information which is just "filler." N=30 (62-32) i=6 PV=0 PMT=? FV=1,200,000
Joe wants to retire in 20 years when he turns 70. Joe wants to have enough money to replace 75% of his current income less what he expects to receive from Social Security at the beginning of each year. His Social Security benefit is $20,000 per year in today's dollars at his normal age retirement of age 67. However, he will begin collecting Social Security benefits when he retires. Joe is conservative and wants to assume a 7% annual investment rate of return and assumes that inflation will be 3% per year. Based on his family history, Joe expects that he will live to be 95 years old. Joe currently earns $100,000 per year and he expects his raises to equal the inflation rate. He has accumulated $199,571 towards retirement. How much does he need to save every year to fulfill his retirement goals? $16,142 $17,500 $19,486 $20,975
$17,500 The answer is calculated as follows: Social Security must be increased by 24% to account for delayed benefits at 8% per year, for the 3 years he delayed benefits. Step 1: Determine amount to be fundedIncome today $100,000.00WRR 75%Needs $75,000.00Less Social Security & Pension$(24,800.00)Amount to be funded$50,200.00 Step 2: Inflate funds to retirement agePV $(50,200.00)N 20i 3.00%Pmt 0FV $90,666.78 Step 3: PV of retirement annuity (BEG mode)PMT $90,666.78N 25i 3.8835%FV - PV ($1,489,697.78) Step 4: Annual funding amount(END Mode)FV $1,489,697.78N 20I 7.00%PV ($199,571)Pmt ($17,500.00)
Sherman, age 52, works as an employee for Cupcakes Etc, a local bakery. Cupcakes sponsors a 401(k) plan. Sherman earns $50,000 and makes a 10% deferral into his 401(k) plan. His employer matches the first 3% deferral at 100% and they also made a 5% profit sharing contribution to his plan. Sherman also owns his own landscaping business and has adopted a solo 401(k) plan. His landscaping business earned $40,000 for the current year. What is the total contribution that can be made to the solo plan, assuming his self-employment taxes are $6,000? $19,500 $21,000 $26,000 $28,400
$28,400 An individual can defer up to $19,500 (2020) plus an additional $6,500 catch up for all of their 401(k) and 403(b) plans combined. Since he is 50 or older he can contribute the 19,500 + 6,500 = $26,000. Since he already contributed $5,000 into his employer plan he can still defer $21,000 ($26,000 - $5,000) into the solo plan. The employer contributions in this question are in addition to the employee deferral limit. Employer contribution into the solo plan: self-employment income $40,000 less 1/2 SE tax $3,000 Net $37,000 X 20% employer contribution $7,400 Total contribution to the solo plan = $21,000 + $7,400
In the current year (2020), George made taxable gifts to his two sons. One was for $500,000 to his son Chris and another was to his son Alex for $500,000. George's wife, Lois died several years ago. George used his applicable credit amount to offset any gift tax liability, and would like to know how much applicable gift tax credit does he have left at this time? $345,800 $1,000,000 $4,232,000 $10,580,000
$4,232,000 George gave $1,000,000 in the current year in taxable gifts so he has $10.58 M of remaining exemption left which translates to a $4,232,000 credit ($4,577,800 - $345,800). There is no indication from the stem that he has any portability from his deceased wife. Choice "A" is the credit equivalency, not the credit. Watch the vocabulary on this one. Taxable gifts is a term meaning net of any annual exclusion. Note: the $345,800 is from the estate tax table. It is the calculated tax due on 1 million dollars of gift or estate amounts.
Barron is the CFO of Bo, Inc. He earns $500,000 during the year and defers $13,500 into the Bo SIMPLE. Bo, Inc. utilizes a non-elective contribution for their plan. What is the contribution made on behalf of Barron for 2020? $13,500 $10,000 $8,400 $5,700
$5,700 The non-elective contribution equals 2 percent of compensation up to the covered compensation limit, which is $285,000 for 2020.
Vijai, age 40, recently left his employer, GoGoRoller, a roller blade manufacturer. He left after 10 years because the working conditions became unbearable. GoGoRoller sponsored a SIMPLE IRA. Vijai deferred $30,000 into the plan during his time there and the employer contributed $15,000. When he terminated he requested the entire account balance of $55,000. How much would his check have been for? $41,250 $44,000 $45,000 $55,000
$55,000 Simple IRAs do not require the 20% withholding because they are not qualified plans. Therefore, the entire account balance would have been distributed to him. The early withdrawal penalty is not assessed at the time of distribution from the qualified plan, but on the 1040.
Abe's Apples has an integrated stock bonus plan. If the plan makes a 10% contribution for the current year what is the maximum excess rate? 5.7% 10% 15.7% 20%
15.7% The maximum excess rate is 2 times the contribution rate limited to a disparity of 5.7%. Therefore, 2 × 10% would be 20%. However, since the disparity is limited to 5.7% the maximum excess rate is 15.7% (10% + 5.7%). Note: This level of knowledge is probably not tested on a regular basis, however, because it is part of the board's topic list this question was added to ensure that you could answer it if it came up on the test.
Abe's Apples has an integrated defined benefit pension plan. The plan currently funds the plan using a funding formula of Years of Service × Average of Three Highest Years of Compensation × 1.5%. If Geoffrey has been there for 40 years what is the maximum disparity allowed using the excess method? .75% 5.7% 26.25% 60%
26.25% The maximum disparity using the excess method is the lesser of the formula amount (40 years × 1.5%) or 26.25% (35 years × .75%). 35 years and .75% are the maximums that can be used under the excess method. Note: This level of knowledge is probably not tested on a regular basis, however, because it is part of the board's topic list this question was added to ensure that you could answer it if it came up on the test.
Which of the following are legal requirements for 401(k) plans? I. Employer contributions do not have to be made from profits. II. Employee elective deferral elections must be made before the compensation is earned. III. Hardship rules allow in-service withdrawals which are not subject to the 10% early withdrawal penalty. IV. ADP tests can be avoided using special safe harbor provisions. I, II and IV only. I, III and IV only. II, III and IV only. I, II, III and IV.
A Hardship withdrawals are considered premature withdrawals and are subject to income tax and the 10% early withdrawal penalty if the employee is under age 59 1/2.
Which of the following benefits, paid for by an employer, would be both deductible by the employer and not taxable to the employee? I. Group term life insurance of $25,000. II. Death benefit of $10,000. III. Non-qualified deferred compensation. IV. Pension plan. A. I and IV. B. II and III. C. I, II, and IV. D. I, III, and IV.
A II is incorrect. If a death benefit is paid to a survivor upon the death of an employee, the death benefit is taxable to the employee (and deductible by the employer). Note: this option does not indicate that life insurance is being used. If life insurance was used, it would still be an incorrect answer because it would not be deductible by the employer AND tax-free to the recipient. III is incorrect. Non-qualified deferred compensation is not taxed to the employee currently but is also NOT deductible by the employer currently.
Which of the following accurately describe the results of "golden parachute" payments made to a "disqualified" person? I. They are includible in W-2 income. II. They are subject to a 10% excise tax. III. They qualify for 10-year forward averaging if paid out as a lump sum. IV. They are not subject to payroll taxes. I only. II only. II and III only. I and IV only.
A Payments under a "golden parachute" are considered ordinary income. Additionally, any amounts under the Social Security cap will be subject to the OASDI tax. All amounts will be subject to Medicare tax. "Golden parachute" payments are also subject to an additional 20% excise tax. Because these are non-qualified plans, no lump sum treatment or IRA rollover options apply.
Ernest converted his Traditional IRA to a Roth IRA on Dec 15, 2014. He was 35 years of age at the time and had never made a contribution to a Roth IRA. The conversion was in the amount of $60,000 ($10,000 of contributions and $50,000 of earnings). Over the years he has also made $15,000 in contributions. On May 15, 2018 he withdrew the entire account balance of $100,000 to pay for a 1 year trip around the world. Which of the following statements is true? A. $25,000 of the distribution will be subject to income tax and $85,000 of the distribution will be subject to the 10% early withdrawal penalty. B. $25,000 of the distribution will be subject to income tax and the 10% early withdrawal penalty. C. Some of the distribution will be taxable but the entire distribution will be subject to the 10% early withdrawal penalty. D. None of the distribution will be taxable nor will it be subject to the 10% early withdrawal penalty.
A Roth distributions are tax free if they are made after 5 years and because of 1)Death, 2)Disability, 3) 59.5 years of age, and 4)First time home purchase. He does not meet the five year holding period or one of the exceptions. His distribution does not received tax free treatment. The treatment for a non-qualifying distribution allows the distributions to be made from basis first, then conversions, then earnings. His basis will be tax free. The conversion is also tax free since we paid tax at the time of the conversion on those earnings. The remaining earnings since establishment of the Roth are $25,000 (100,000 - $15,000 in basis - $60,000 in conversions) and will be taxed. The 10% penalty does apply to this distribution since he does not qualify for any of the exceptions to the penalty. The contributions escapes penalty but the conversions and earnings of $85,000 are subject to the 10% early withdrawal penalty. Remember that in order for the conversions to escape the 10% early withdrawal penalty the distribution must occur after a 5 year holding period beginning Jan 1 in the year of conversion or meet one of the 10% early withdrawal exceptions.
A supplemental deferred compensation plan providing retirement benefits above the company's qualified plan AND without regard to Section 415 limits is known as: A. A Supplemental Executive Retirement Plan (SERP). B. A funded deferred compensation plan. C. An excess benefit plan. D. A Rabbi trust.
A SERP supplements the pension plan without regard to limits imposed upon salary levels (i.e., maximum salary of $285,000 in 2020) or the maximum funding levels of Section 415. Do not confuse with an excess benefit plan which extends the benefits of a company's qualified plan above the Section 415 limits but still adheres to maximum salary limitations.
Myron has a life insurance policy in his qualified plan at work. He has come to you for advice about retirement and other financial planning needs. Which of the following is not correct about the life insurance in a qualified plan? A. He will be subject to income only if the policy in his qualified plan is a cash value type policy. B. The policy will be included in his gross estate if he were to die while still working. C. Part of the proceeds could be taxable to his beneficiary if it is a cash value policy. D. When he distributes the policy from his plan at retirement, he can convert it to an annuity within 60 days to avoid taxation.
A Statements b, c, and d are correct. Statement a is false because all life insurance in qualified plans is subject to income when purchased, regardless of the type.
Which of the following statements concerning the OASDHI earnings test for the current year is correct? A. Some part-time work is allowed without the loss of retirement benefits for those under normal age retirement. B. The earnings test does not apply after the age of 62. C. Interest and dividends are included in the earnings test. D. The annual exempt amount for a person at normal age retirement is $48,600.
A The earnings test does not apply at, or after, normal age retirement. The monthly exempt amount is $4,050 ($48,600) in 2020 for those months in the year of normal retirement age BEFORE you actually reach normal retirement age. The test uses only earned income. No passive or portfolio income is used in calculating the earnings.
Jane P. Lane is a clerical worker who has been with her employer for the last 20 years. Last year, she got married in the Swiss Alps, which was quite out of character for her. She participates in an employer-paid group term life plan and selected term insurance in the amount of $200,000, which is three times her salary. She has named her spouse as the beneficiary of the policy. What is the tax consequence of this policy? A. Her employer is permitted to deduct the premiums paid on the entire amount of coverage. B. Her employer is permitted to deduct the premiums paid on the first $50,000 of coverage. C. Jane is subject to tax on the entire benefit. D. Jane is subject to tax on the amount which exceeds three times her annual salary or $50,000, whichever is less.
A The employer is permitted to deduct 100% of the premums, but Jane is subject to taxation on the amount in excess of $50,000.
Based upon the Internal Revenue Code, which of the following statement(s) is/are accurate? I. Medical expenses paid as a benefit to a surviving spouse are excludable from gross income only to the extent they would have been excluded if they had been paid to the employee. II. Highly-compensated employees may lose their tax-free status of medical benefits under a self-insured plan which is discriminatory. III. A highly-compensated employee may be taxed on part of his or her medical expenses for which he or she is reimbursed under a discriminatory self-insured plan, even if the same benefits are available to all workers. I only. II only. I and II only. I, II and III only.
All
The Health Insurance Portability and Accountability Act of 1996 (HIPAA) impacts an employee and employer in which of the following ways: I. An employee without creditable coverage can generally only be excluded by the group health insurance plan (if offered) for up to twelve months. II. The waiting period is reduced by the amount of "creditable coverage" at a previous employer. III. If the employee does not enroll in the group health insurance plan at the first opportunity, an 18-month exclusion period may apply. I and II only. I, II and III only. II and III only. II only.
B All three statements are true. If you have a pre-existing condition that can be excluded from your plan coverage, then there is a limit to the pre-existing condition exclusion period that can be applied. HIPAA limits the pre-existing condition exclusion period for most people to 12 months (18 months if you enroll late), although some plans may have a shorter time period or none at all. In addition, some people with a history of prior health coverage will be able to reduce the exclusion period even further using "creditable coverage." People with a history of prior health coverage will be able to reduce the exclusion period even further using "creditable coverage."
An actuary establishes the required funding for a defined benefit pension plan by determining: A. The lump sum equivalent of the normal retirement life annuity benefit of each participant. B. The amount of annual contributions needed to fund single life annuities for the participants at retirement. C. The future value of annual employer contributions until the participant's normal retirement date, taking an assumed interest rate, the number of compounding periods, and employee attrition into account. D. The amount needed for the investment pool to fund period certain annuities for each participant upon retirement.
B Statement "A" is incorrect because it deals with a lump sum, NOT annual contributions. Statement "C" is incorrect because DB plans deal with present value calculations, not future values. Statement "D" is incorrect because DB plans deal with life annuities, NOT period certain annuities.
Mike's Mega Muffelettas (MMM) is a fairly large company based in Louisiana, with over 300 employees. MMM sponsors a defined benefit plan. George has worked at the company for the last 30 years and is looking forward to his retirement in another ten years. However, he just received a letter from the company that informs him that his defined benefit plan is being converted to a cash balance plan. What advice can you give George? A. His benefit could freeze as a result of the conversion; a stituation known as "wearaway." B. The present value of the accrued benefit from the defined benefit should be preserved in the conversion and you should earn additional benefits under the cash balance plan. C. The cash balance plan provides a guaranteed rate of return and benefits that are fully insured by the PBGC. D. The cash balance plan acts like a defined contribution plan and will permit Geoge to self-direct his retirement assets.
B Answer b is correct because his benefits under the defined benefit plan must be preserved. Answer a is not correct as "wearaway" was done away with as it negatively effected employees who were near retirement and resulting in employees not accruing additional benefits after a conversion from a defined benefit plan to a cash balance plan. Answer c is not correct as the PBGC does not fully guarantee benefits. Answer d is not correct as a cash balance plan will have a guaranteed rate of return. Employees do not self-direct their assets in a cash balance plan.
Bob Jones is a senior executive at Sys, a global outsourcing firm based in New York. The company has recently rolled out a new compensation program that includes non-qualified stock options. Bob has approached you, as his planner, with several questions about the tax impact involved in his nonqualified (non-statutory) stock options. His circumstance is as follows: February 1st: he was granted an option when the company stock price was $30. His option exercise price was $30, but option value was not readily ascertainable. August 1st: he exercised the option when the stock price was $50. September 1st: with the price at $50 per share and seeming to have peaked, Bob is wondering if he should sell the stock. Which of the following applies? A. Bob will have ordinary income of $50 if he sells at a stock price of $50. B. Bob will have ordinary income at exercise, based on the spread between the stock price and the exercise price of the option. C. Bob will have long-term capital gain income of $20 if he sells the stock on September 1st at a price of $50. D. Bob will have ordinary income of $30 when the option is awarded.
B Bob will not be taxed for gain upon the award of the option because of the lack of readily ascertainable value. He will be taxed at exercise on the spread between the stock price of $50 and exercise price of $30, and finally, upon sale of the stock for any additional amounts of gain.
Randal was just hired by Chastain, Inc., which sponsors a defined benefit plan. After speaking with the benefits coordinator, Randal is still confused regarding eligibility and coverage for the plan. Which of the following is correct? A. The plan could provide that employees be age 26 and have 1 year of service before becoming eligible if upon entering the plan, the employee is fully (100%) vested. B. The plan may not cover Randal due to his position in the company, even if Randal meets the eligibility requirements. C. Part-time employees, those that work less than 1,000 hours within a twelve-month period, are always excluded from defined benefit plans. D. Generally, employees begin accruing benefits as soon as they meet the eligibility requirements.
B Choice a is not correct because the general eligibility is age 21, not 26. Choice c is not correct because a plan could cover part time employees, but will generally not. Choice d is not correct because employees become part of a plan only as early as at the next available entrance date after meeting the eligibility requirements.
Which of the following statements are true in regards to Section 457 plans? I. Eligible plan sponsors include non-profit organizations, churches, and governmental entities. II. In-service distributions after age 59 1/2 are allowed in a 457 plan. III. Salary deferrals are subject to Social Security, Medicare, and Federal unemployment tax in the year of the deferral. IV. Assets of the plans for non-government entities are subject to the claims of the sponsor's general creditors. I and III only. II, III and IV only. I, II and IV only. III and IV only.
B Churches are not qualifying sponsors of 457 plans.
Jean Edge retired last year from Speedy Plumbing at age 66. She is eligible for normal Social Security retirement benefits. She was asked to provide consulting services to the company. This year, she will earn approximately $14,000 in consulting income. Which of the following appropriately describes her situation? A. Her Social Security benefits will be delayed until her earned income ceases. B. Her Social Security retirement benefits will not be reduced because of her earned income. C. 85% of her Social Security will be taxable due to her earned income. D. Her Medicare benefits will terminate until her consulting income stops.
B Her benefits would have been reduced $1 for every $3 she earned in excess $48,600 (2020) in the year in which she attained full retirement and there is no penalty after normal age retirement. Answer "C" is incorrect because if her Social Security benefits are 85% taxable, it would be because of her AGI, not just her earned income. Answers "A" and "D" are incorrect due to the fact that Social Security benefits are reduced due to earned income, but not stopped because of earned income. Medicare doesn't have an earnings test for benefits, only an eligibility test.
In addition to long-term care insurance, which of the following would cover the cost of a hospital stay in excess of 100 days? A. Medicare. B. Medicaid. C. Indemnity insurance policy. D. Medicare supplement.
B Individuals have three methods to pay for stays after the 100th day: 1. Long-term care insurance 2. Individual savings 3. Medicaid
Tammy, age 62, received $32,000 of rental income from various rental properties she owns. This was her only source of income for the year. What is the best investment strategy for her retirement? A. SEP. B. Brokerage account. C. Traditional IRA. D. Safe-harbor 401(k) plan
B Since rental income is not considered earned income, Tammy is not eligible to contribute to a traditional or Roth IRA. She also cannot contribute to a 401(k) plan.
Safe harbor requirements to exclude leased employees from an employer's retirement plan include all but the following: A. The leasing company must maintain a money-purchase plan with a contribution rate of 10%. B. The retirement plan of the leasing company may be integrated. C. The leasing company's plan must provide immediate vesting. D. Safe harbor can be used until leased employees constitute 20% of the non-highly compensated work force.
B Under the safe-harbor leasing rules the plan must provide a 10%, non-integrated money purchase plan with immediate vesting. No more than 20% of the employer's non-highly compensated employees may be leased to qualify for the safe harbor rules.
Which of the following is not a qualified retirement plan? A. ESOP. B. 401(k) plan. C. 403(b) plan. D. Target benefit plan.
C A 403(b) plan is a tax-advantaged plan (tax qualified), not a qualified retirement plan. All of the others are qualified plans subject to ERISA rules.
Seema owns a landscaping company in Phoenix and wants a low-cost retirement plan that permits her employees to make pre-tax contributions. She is planning on contributing 3% of eligible employee's pay each year. Which of the following plan's would be most appropriate plan for Seema to establish? A. 401(k) plan. B. Profit sharing plan. C. SIMPLE IRA. D. SIMPLE 401(k) plan.
C A SIMPLE IRA would permit employees to make pre-tax contributions. Also, the plan is low cost, and the 3% contribution Seema is planning to make would satisfy the employer matching contribution requirements of a SIMPLE plan. As qualified plans, A, B & D will all have higher cost structures than a SIMPLE IRA and therefore do not meet Seema's requirement of a low-cost plan.
In order to be qualified, money purchase plans must contain which of the following? I. A definite and non-discretionary employer contribution formula. II. Forfeitures can be reallocated to the remaining participants' accounts in a non-discriminatory manner or used to reduce employer contributions. III. An individual account must be maintained for each employee of employer contributions. IV. The normal retirement age must be specified. I and II only. II and IV only. I, II and III only. II, III and IV only.
C A normal retirement age must be stated in a defined benefit plan, so Statement "IV" is incorrect. Defined contributions plans (such as a money purchase plan) have retirement benefits which are determined by the value of the individual account whenever the participant retires. Forfeitures may be allocated to employees' individual accounts or used to reduce employer required contributions.
A supplemental deferred compensation plan that pays retirement benefits on salary, above the Section 415 limits, at the same level as the underlying retirement plan is known as: A. A Supplemental Executive Retirement Plan (SERP). B. A funded deferred compensation plan. C. An excess benefit plan. D. A Rabbi trust.
C An excess benefit plan extends the same benefits to employees whose contributions to the plan are limited by Section 415 (e.g., employee earns $285,000 yet receives $57,000 contribution instead of $70,000 contribution due to Section 415 limitation on a 25% money purchase plan). An excess benefit plan would put additional $13,000 into non-qualified retirement plan. Do not confuse with a SERP which provides benefits in excess of the Section 415 limits AND ignores the covered compensation limits (i.e., $285,000 in 2020) applied to qualified plans.
Your clients, Nick and Betty Jo Byoloski, have come to you with some questions. She has been an employee of April Corporation for several years and received some stock options as compensation at times. He has worked with April Corporation as a consultant on several jobs over the last few years and was paid in part with stock options. Nick and Betty Jo want to know more about their situation regarding the options. What can you tell them? A. Betty Jo's options are qualified and Nick's options are non-qualified. B. Nick's options are non-qualified and Betty Jo's options are non-qualified. C. Nick's options are non-qualified and Betty Jo's are either qualified or non-qualified. D. Betty Jo's options are non-qualified and Nick's options are qualified.
C Because Nick is not an employee, we know that his options are non-qualified. We cannot be sure about Betty's without more information.
Select those statements which accurately reflect characteristics of defined contribution pension plans? I. Allocation formula which is indefinite. II. Account value based benefits. III. Employer contributions from business earnings. IV. Fixed employer contributions based upon terms of plan. I and II only. II and III only. II and IV only. I, II and III only.
C Defined contribution pension plans must have a definite allocation formula based upon salary and/or age or any other qualifying factor. Contributions may be made without regard to company profits and, because it is a pension plan, are fixed by the funding formula and must be made annually.
Which of the following statements are accurate for a profit sharing plan? A. Leveraging is permitted and the employer's contributions may be made in non-cash assets. B. Voting rights must be passed through to the participating employees. C. The plan may be integrated with Social Security. D. The plan must comply with the prudent investor diversification requirements.
C Profit sharing plans can be integrated with Social Security. Answer "A" is incorrect because only a LESOP is able to leverage employer securities within a qualified plan. Answer "B" is incorrect because the voting rights do not have to be passed through to the employees except in ESOPS. Answer "D" is incorrect because the typical 10% restriction on employer stock ownership under the "prudent investor" rule is not applied.
Which of the following is a correct statement about the income tax implications of employer premium payments for group health insurance? A. An S Corporation can only deduct 70% of the premiums for all employees. B. In a sole proprietorship, the premiums for both the owner and the non-owner are fully deductible. C. If stockholder/employees of a closely held C corporation are covered as employees, the premiums are fully deductible. D. Premium costs paid by a partnership are passed through to the partner, who can deduct 70% of the costs on their individual tax returns.
C S Corporations and proprietorships cannot deduct any premiums for group health insurance for owners. Non-owner employee health premiums are fully deductible to both entities. Answer "D" is incorrect because partners are able to deduct 100% of the health insurance premium on their individual tax returns.
Complex Corporation is ready to adopt a profit sharing plan for eligible employees. Which of the following groups would have to be considered in meeting the statutory coverage and participation tests? I. Employees of Simple Corporation, in which Complex owns 85% of the stock. II. Employees of Universal Corporation, in which Complex owns 55% of the stock. III. Rank and file workers at Complex who are union members with a contract that provides retirement benefits as a result of good-faith collective bargaining. IV. Employees who are leased and covered by the leasing corporation's profit sharing plan. I only I and II I and IV II and III
C Simple must be considered because Complex owns more than 80% and the leased employees must be considered because their leasing company's is not a pension plan. Universal would not be considered a subsidiary because it is only 55% not more than 80%. The union employees are excluded from testing by the IRC.
Which of the following statements are accurate concerning integration ("permissible disparity") rules for qualified plans? I. The integration base level for a defined contribution plan can exceed the current year's Social Security taxable wage base. II. Permitted disparity levels reduce benefits in a defined benefit plan if employee retires early. III. It isn't possible to have a defined benefit plan formula which eliminates benefits for lower paid employees. I only. I and II only. II and III only. I and III only.
C Statement "I" is incorrect because the integration levels cannot be higher than the Social Security wage taxable wage base. It may be lower, but cannot be higher. All other statements are accurate.
Robert Sullivan, age 56, works for Dynex Corporation, and earns $290,000. Dynex Corp. provides a non-elective 2% contribution to its SIMPLE IRA plan. Which one of the following is the maximum amount that could go into Robert's account this year? $16,500 $19,500 $22,200 $22,300
C The compensation limit of $285,000 applies to SIMPLE IRAs when non-elective contributions are made. Therefore the employer contribution is $5,700 and the employee can contribute up to $13,500 for 2020. In addition, Robert is 50 years old or older so he may make an additional catch-up contribution of $3,000. His total contribution is $5,700 + $13,500 + $3,000 = $22,200.
An employer-subsidized van pool provided as a fringe benefit is: A. Includable in taxable income of all covered employees. B. Includable in the taxable income of key employees only. C. Excludable from the taxable income of all covered employees. D. Excludable from the taxable income of non-highly compensated employees only.
C This is considered a statutorily exempt benefit.
A parent-subsidiary group exists if the parent company owns what percentage of voting stock in another corporation? A. At least 50%. B. More than 50%. C. At least 80%. D. More than 80%.
C This is important because parent-subsidiary companies must have substantially equal benefits or cover employees of all subsidiary companies under the same plan.
Eldrick, age 40, established a Roth IRA 3 years ago and was tragically struck and killed by an errant golf ball hit by a drunk spectator at a golf tournament. Eldrick had contributed a total of $10,000 to the account and had converted $20,000 from his traditional IRA. His 20 year old son, Charlie, inherited the Roth IRA, which now has a balance of $60,000. Which of the following statements is correct? A. Charlie can distribute the entire balance from the Roth IRA without it being subject to any income tax or penalty the month after Eldrick dies. B. Charlie must take minimum distributions from the Roth IRA the year Eldrick dies. C. If Charlie begins taking minimum distributions, then the first distribution will be partially taxable. D. Charlie could delay taking a distribution from the Roth IRA for several years and avoid all penalties and income tax on the distribution.
D Answer a is incorrect because the distribution would not be a qualified distribution since the five year rule has not been met. Answer b is not correct as he could begin taking distribution the year following death or take a full distribution within five years. Answer c is not correct, because the first distribution would consist of previously taxed contributions and would therefore not be taxable. Answer d is correct as he could delay taking a distribution from the account for two years. At that point, the distribution would be qualified since it meets the five-year rule and is on account of death. The distribution would avoid all income tax and penalties.
Jacque's wife just lost her job and they had a death in the family. Jacque is planning on taking a hardship withdrawal from his 401(k) plan to pay for living expenses and funeral costs. Which of the following is correct regarding hardship withdrawals? A. Hardship withdrawals can be taken even if there is another source of funds that the taxpayer could use to pay for the hardship. B. Hardship withdrawals are beneficial because although they are taxable, they are not subject to the early withdrawal penalty. C. Hardship withdrawals can be taken from elective deferral amounts or vested employer contributions. D. Unless the employer has actual knowledge to the contrary, the employer may rely on the written representation of the employee to satisfy the need of heavy financial need.
D Answer a is not correct as there must not be another source of funds. Answer b is not correct as they are generally subject to a penalty unless there is an exception under IRC 72(t). Answer c is not correct as a hardship distribution can only be taken from employee deferrals.
Bobby's Bar-b-que wants to establish a social security integrated plan using the offset method. Which of the following plans should he establish? A. SIMPLE B. ESOP C. Money Purchase Pension Plan D. Defined Benefit Pension Plan
D He should establish the Defined Benefit Pension Plan. Only defined benefit plans can use the offset method. The Money Purchase Pension plan is a Defined Contribution Plan and must use the excess method. Simple's and ESOPs cannot be integrated.
All of the following accurately reflect the characteristics of a stock bonus plan, except: A. Useful in cash flow planning for plan sponsor due to cashless contributions. B. Provides motivation to employees because they become "owners." C. 20% withholding does not apply to distributions of employer securities and up to $200 in cash. D. May not allow "permissible disparity" or integration formulas.
D Integration formulas are not allowed under an ESOP plan but are allowed under a stock bonus plan. All other statements are accurate in their description of a stock bonus plan.
Which of the following would be considered an "incidental benefit" if offered through a defined contribution plan? A. Term life insurance coverage with premiums equal to 30% of the total cost of benefits. B. Universal life insurance coverage with premiums equal to 34% of the total cost of plan benefits. C. Ordinary life insurance coverage with premiums equal to 57% of the total cost of plan benefits. D. Term life insurance coverage with premiums equal to 25% of the total contributions to the participants account.
D Life insurance in a qualified plan is limited, under the incidental benefit rule, to 25% of aggregate contributions to the participant's account for Term and Universal life plans. Whole life plans may constitute 50% of the contribution.
David Lee, age 63, was a participant in a stock bonus plan sponsored by VH, Inc., a closely held corporation. David's account was credited with contributions in shares of VH stock to the stock bonus plan and VH Inc. deducted $80,000 over his career at VH. The value of the stock in the account today is worth $1 million. David takes a distribution (year 1) of one-half of the VH stock in his stock bonus plan account valued at a fair market value of $500,000. If David sells the stock for $600,000 nine months after receiving the distribution (year 2), then which of the following statements are true? A. David will have ordinary income of $80,000 in year 1 and capital gain of $520,000 in year 2. B. David will have ordinary income of $40,000 in year 1 and capital gain of $560,000 in year 2. C. David will have ordinary income of $460,000 in year 1 and capital gain of $100,000 in year 2. D. David will have ordinary income of $500,000 in year 1 and capital gain of $100,000 in year 2.
D NUA treatment is not applicable because David did not take a lump sum distribution of stock from the plan. Therefore, the distribution is treated as ordinary income.
Sick pay plans are a highly visible benefit for employees. Which of the following is not true concerning these plans? A. Employers can discriminate based upon salary, job description, or any other criteria other than age and longevity of service. B. The plan must be written. C. Full-time employment is usually a requirement to participate. The employer can define the term "full time" in any reasonable manner as long as the 1,000 hour year of service requirements are met. D. The tax code prohibits carry-over due to the prohibition against deferred compensation in fringe benefit plans.
D Sick pay plans can be discriminatory among clearly definable classes, must be in written form, and may require full-time employment to participate. There is no prohibition against carry-over in sick pay plans, therefore, a worker who is unable to work in December, may be paid in January according to the plan provisions.
On January 1 of Year 1, George was awarded 10,000 ISOs at an exercise price of $5 per share when the fair market value of the stock was equal to $5. On October 30th of Year 2, George exercised all of his ISOs when the fair market value of the stock was $15 per share. On August 13th of Year 3, George sold all of his shares for $20 per share. At the date of sale, what are the tax consequences to George? A. $100,000 AMT adjustment B. $200,000 employer deduction C. $150,000 capital gain D. $150,000 ordinary income
D The sale of the ISO shares is a disqualifying disposition because the 2 year and 1 year requirements were not met. This disposition results in ordinary income for George in the year of the disposition. The employer also receives a deduction for the same amount. The compensation equals the difference between the value on the date of exercise and the strike price. The remaining gain is treated as a capital gain. There is also a negative AMT adjustment in the year of the disqualifying disposition - in this case it equals $100,000 (# of shares times the difference between the exercise price and the FMV on the date of exercise). The (short term) Capital gain would be $50,000 OI would be 100,000 and AMT Adjustment of 100,000 Year 1-Jan 1-grant $5.(10,000 shares)Year 2-Oct 30-exercise $15.AMT adjustment of $10 ($100,000)Year 3-Aug 13-Sold $20.Negative AMT Adjustment $10, and taxed at Ordinary Income rates. Sold 10,000 at $20 = 200,000. Two years from grant? Yes. 1 Year from exercise? No = disqualifying disposition. Basis at $5 = 50,000 Gain of $150,000 of which $100,000 is taxed at OI, and the remaining $50,000 is STCG.
Qualified and non-qualified retirement plans differ in each of the following except: A. Rollover provisions. B. Permissible discrimination. C. Timing of employer deductibility. D. Timing of employee taxability.
D The timing of employee taxation on properly executed non-qualified and qualified plans are the same. Non-qualified plans can be split dollar plans, executive bonus plans, etc.
Which of the following apply to legal requirements for a qualified thrift/savings plan? A. Participants must be allowed to direct the investments of their account balances. B. Employer contributions are deductible when contributed. C. In-service withdrawals are subject to financial need restrictions. D. After-tax employee contributions cannot exceed the lesser of 100% of compensation or $57,000.
D This correctly describes the Section 415(c) limits on maximum contributions permitted by law. Participants do not have to be given the right to direct their investments. Employees make after-tax contributions to a thrift; employers don't make contributions. Answer "C" is incorrect because only 401(k) plans have statutory hardship withdrawal requirements, not thrift/savings plans.
Sam Davis, age 47, earning $100,000 per year, wants to establish a defined benefit plan. He employs 4 people whose combined salaries are $50,000 and range in age from 22-27. The average employment period is 3.5 years. Which vesting schedule is best suited for Sam's plan? A. 3-year cliff. B. 3-7 year graded. C. 100% immediate vesting. D. 2-6 year graded.
D This plan will be top heavy, based upon the disparity between Sam's compensation and that of his employees. A is incorrect. Although a 3-year cliff vesting schedule would be permitted, it would allow his employees to be fully vested if they separated from service after the 3.5-year average employment period. B is incorrect. Since the plan will be top heavy, a 3-7-year graded vesting schedule would not be permitted. C is incorrect. Although a full and immediate vesting schedule would be permitted, it would allow his employees to be fully vested if they separated from service after the 3.5-year average employment period.
Matt is a participant in a profit sharing plan which is integrated with Social Security. The base benefit percentage is 6%. Which of the following statements is/are true? I. The maximum permitted disparity is 100% of the base benefit level or 5.7%, whichever is lower. II. The excess benefit percentage can range between 0% and 11.7%. III. Elective deferrals may be increased in excess of the base income amount. IV. The plan is considered discriminatory because it gives greater contributions to the HCEs. I and II only. I, II and IV only. II only. I, II, III and IV.
I and II His base rate is 6% and the social security maximum disparity is 5.7% for 11.7% as the top of his range. Statement "III" is incorrect because integration does not affect voluntary deferrals by employees. Statement "IV" is incorrect because, done properly, integration is NOT considered discriminatory.
Which of the following explain the tax ramifications of a non-qualified deferred compensation plan? I. A participant in an unfunded plan will not be currently taxed if the promise of benefits is unsecured and the agreement is executed prior to the first day of service under the agreement. II. If a funded plan is established by a general partnership and the benefits for general partners are fully vested, then contributions are deductible to the partnership and each partner receives a pro-rata share of the reduced partnership income. III. A funded plan with a "Rabbi Trust" will not be currently taxable to the participant, even though vested in the benefits, due to the "substantial risk of forfeiture." IV. Payments to be made to a participant's beneficiary are not included in the decedent's gross estate if the payments are guaranteed. I only. I, II and III only. I and III only. II, III and IV only.
I and III Statement "II" is incorrect because any funded plan is taxable unless a Rabbi trust is utilized. Statement "IV" in incorrect because the NPV of the guaranteed future income will be included in the gross estate of the deceased participant.
Which of the following transactions by a qualified plan's trust are subject to Unrelated Business Taxable Income (UBTI)? I. A trust obtains a low interest loan from an insurance policy it owns and reinvests the proceeds in a CD paying a higher rate of interest. II. A trust buys an apartment complex and receives rent from the tenants. III. The trust buys vending machines and locates them on the employer's premises. IV. The trust rents raw land it owns to an oil & gas developer. I and II only. I and III only. II and IV only. I, II and IV only.
I and III Statements "I" and "III" are subject to UBTI because income from any type of leverage or borrowing within a plan is subject to UBTI. Additionally, any business enterprise run by a qualified plan is subject to UBTI. Statement "II" is not subject to UBTI (assuming it is not subject to leverage) due to a statutory exemption for rental income. Statement "IV" - The rental of raw land is also exempt. If the plan actually participated in the development of the oil & gas reserves, there would be UBTI.
Cafeteria plans have which of the following characteristics? I. Must offer a choice between at least one qualified "pre-tax" benefit and one non-qualified "cash" benefit. II. Medical Flexible Spending Accounts (FSAs) can reimburse medical expenses not covered by insurance for the participant and all dependents. III. Changes in election amount during the plan year can only occur with a "qualifying change in family status." IV. Salary reductions are not subject to income taxes but payroll taxes apply. I, II and IV only. II, III and IV only. I, II and III only. I, II, III and IV.
I, II and III Cafeteria Plans (Section 125) allow salary reductions which are taken from an employee's salary before Federal and State withholding tax as well as Social Security and Medicare taxes (FICA). At least one taxable and non-taxable benefit must be offered under a plan. Medical FSAs allow reimbursement for eligible medical expenses for the employee and any dependents. A qualifying change in status is required to make a mid-year change in elections.
Which of the following accurately describes a qualified group life insurance plan? I. The plan must benefit 70% of all employees, or a group consisting of 85% non-key employees, or a non-discriminatory class, or meet the non-discrimination rules of Section 125. II. Employees who can be excluded are: those with fewer than 3 years service, part-time / seasonal, non-resident aliens, or those covered under a collective bargaining unit. III. A non-discriminatory classification is one which has a bottom tier with benefits no less than 10% of the top tier and no more than 200% increase between tiers. IV. The minimum group size is 10. I, II and III only. I, II and IV only. I and III only. I and II only.
I, II and IV For statement III to be a correct choice, it should state: A qualified group life insurance plan, if using a non-discriminatory classification, will have a bottom tier with benefits no less than 10% of the top tier and no more than 250% increase between tiers.
Defined benefit pension plans will have to increase the funding costs associated with the plan if which of the following actuarial assumptions are made: I. Low turnover rate. II. Early retirement. III. High interest rate. IV. Late retirement. V. Salary scale assumption. I and III only. I, II and V only. I and V only. II, III and V.
I, II and V Options I, II and V increase funding costs of a DB plan.
Which of the following statement(s) concerning Unrelated Business Taxable Income (UBTI) is/are accurate? I. Dividends, interest, and other types of income derived from investments in a business are not subject to UBTI. II. A partnership interest in an investment enterprise, whether active or passive, is subject to UBTI. III. A direct business activity carried on for the production of income is considered a trade or business for UBTI purposes. IV. Securities of the employer purchased with loan proceeds by an Employee Stock Ownership Plan (ESOP) are not subject to UBTI. I only. I, II and III only. II, III and IV only. I, III and IV only.
I, III and IV Direct investment in a business generates income which is UBTI. Any investment which is purchased with "leverage" or borrowed funds generate UBTI except for a qualifying ESOP or LESOP.
Chris Barry, 59-years old, has been offered early retirement with an option of a two-year consulting contract. He has been a participant for the past 20 years in both the company defined benefit plan and defined contribution plan. His account balance is $120,000 in the profit-sharing plan and the present value of accrued benefit of the defined benefit plan is $240,000. Both provide for a lump sum distribution. Which of the following option(s) is/are available under the lump sum distribution rules? I. Elect ten-year averaging on both plans. II. Roll over the taxable portions of both plans to an IRA. III. Elect long-term capital gains treatment on the DB plan. IV. Elect five-year averaging on both plans. I, II and III only. I and II only. II only. IV only.
II only Statement "I" is incorrect because he is not old enough for ten-year averaging. Statement "II" is correct because the taxable portion of any lump sum distribution may be rolled over into an IRA. Statement "III" is incorrect because he is not old enough to qualify for pre-74 capital gain treatment nor does he even have any actual pre-74 capital gain in the plan as he has only been in the plan for the last 20 years. Statement "IV" is incorrect because five-year averaging was repealed in 1999.
A SEP-IRA is a form of defined contribution plan (although not a qualified plan). Which of the following apply to BOTH the SEP-IRA and a traditional defined contribution plan? I. Employer deductions limited to 15% of covered payroll. II. Requires a definite, written, non-discriminatory contribution allocation formula. III. Contributions cannot discriminate in favor of highly compensated employees. IV. Employer contributions subject to Medicare and Social Security taxes. V. Affiliated service group rules apply. VI. Top-heavy rules do NOT apply. VII. Permissible disparity or integration is NOT allowed. I, II, VI, and VII only. II, III, IV and VI only. II, III and V only. I, II, III, V and VII only.
II, III and V Defined contribution plans have an employer deductibility limit of 25% of covered payroll. All defined contribution plans must have a written allocation formula so assets can be distributed in the mandated individual accounts. Employer contributions must bear uniform resemblance to compensation and cannot discriminate in favor of highly compensated. Employer contributions are not subject to any payroll related taxes. Top-heavy rules do apply to both. Both plans can integrate with Social Security (sometimes called permissible disparity). (Note: 5305-SEP does not allow permissible disparity.)
Kent Reeder, age 52, works as the administrator and curator at the Museum of Antique Manuscripts, a not-for-profit organization in Metropolitan Center. He has worked there 18 years and began contributing to the 403(b) plan 12 years ago but skipped contributing last year. He earns $85,000 a year. He has asked you to maximize his contribution. Which of the following is/are TRUE? I. He may contribute $19,500 plus $6,500 for age 50+ catch-up, plus $3,000 long service catch-up. II. He may not contribute to the long-service catch-up this year due to omitting a contribution last year. III. He may contribute $19,500 plus $6,500 age 50+ catch-up. IV. He may not participate in both the long service catch-up and the age 50+ catchup the same year. V. He is not eligible for the long service catch-up. III and V only. II only. I, III and IV only. I and III only.
III and V He is not eligible for the long service catch-up because the museum is not a Health, Education, Religious (HER) organization. The maximum contribution limits for 2020 are $19,500 plus the age 50+ catch-up of $6,500.
Which of the following correctly describes the tax implications of a self-funded accident or medical plan where the employer reimburses the employee directly? I. In a discriminatory plan, the employer cannot deduct the reimbursements paid to the employee. II. In a discriminatory plan, a highly-compensated employee must include the excess benefit in his or her income. III. In a non-discriminatory plan, the benefits received by employees are generally tax free without limitation. IV. In a non-discriminatory plan, the employer can deduct reimbursements to the employee if they are paid to the employee or the employee's beneficiary and are considered reasonable compensation. V. In a discriminatory plan, benefits received by non-highly compensated employees are generally tax free without limit. I, II and IV only. II, III and IV only. III, IV and V only. I, III, IV and V only.
III, IV and V Statement "I" is incorrect because the employer can always deduct the premiums. Statement "II" - The highly compensated employees may be required to pay taxes on all or part of the reimbursements.
