Practice Exam 2 (CRPS)

Greg is a participant in a SIMPLE IRA plan sponsored by his employer. The plan makes the smallest matching contributions permitted for the current year. He earned $100,000 in annual compensation and made elective deferrals of $3,000 to the plan for 2021. What is the smallest possible matching employer contribution that may be made to the plan on Greg's behalf if the employer has been making the maximum contribution for the last three years?

=A) $1,000 B) $4,000 C) $2,000 D) $3,000 Explanation An employer that sponsors a SIMPLE IRA may choose to match contributions for all eligible employees for a given year at a rate lower than 3% (but not lower than 1%) of each employee's compensation. Hence, the minimum matching employer contribution that must be made to Greg's account is $1,000 (1% x $100,000). This reduction may only be made for two out of five years. LO 4-1

Ron, age 65, is a participant in his company's stock bonus plan. Over the years, the company contributed 1,000 shares of its stock to Ron's plan account. The basis on these shares was $15. This year, Ron retired and took a lump-sum distribution from the plan and immediately sold his shares for $25 each. Ron will have to report capital gain for the current year equal to which one of the following amounts?

=A) $10,000 B) $20,000 C) $15,000 D) $5,000 Explanation Ron is immediately taxed on the cost, or basis, of the securities received at ordinary income rates. Hence, Ron would have to include $15,000 (1,000 shares $15) as ordinary income for the current year. Ron's net unrealized appreciation (NUA) in the distribution is taxed during the current year. His NUA equals $10 per share ($25 per share less $15 per share). He will report a long-term capital gain of $10,000 ($10 NUA per share 1,000 shares). LO 7-2

You work with Arnold Sampson, a public school teacher age 39, to calculate how much he could contribute to the 403(b) offered through his school. He has returned to discuss with you his options for this year. Arnold will earn $56,000 this year, and has 10 years of service with the school district. The school has made nonelective contributions for Arnold totaling $12,000. Assume the annual contribution limit on 403(b) plans is $19,500 and the Section 415 dollar limit is $58,000 for 2021. Disregarding any potential catch-up provisions, what is the limit on Arnold's salary reduction this year?

=A) $19,500 B) $24,500 C) $6,000 D) $12,500 Explanation The Section 415 limit's definition of "compensation" under 403(b), 401(k), and Section 125 plans includes elective deferrals or contributions. Arnold's Section 415 limit is 100% of $56,000 less $12,000, or $44,000. (In 2021, his Section 415 limit is $56,000, but he's already received nonelective contributions totaling $12,000 so he has $44,000 remaining.) Therefore his deferral limit, $19,500, is unaffected. He does not have the 15 years needed for the $3,000 service catch-up. LO 3-3

George is a participant in a SIMPLE 401(k) plan sponsored by his employer. The plan makes the smallest permissible matching contributions for the year. He earned $200,000 in annual compensation and made elective deferrals of $9,000 to the plan for 2021. What minimum matching employer contribution must be made to the plan on George's behalf?

=A) $6,000 B) $2,000 C) $4,000 D) $9,000 Explanation Under a SIMPLE 401(k) plan, the employer does not have the option of reducing the matching contribution to less than 3% of an employee's compensation. Hence, the minimum matching employer contribution that must be made to George's account is $6,000 (3% x $200,000). LO 4-1

Which, if any, of the following statements pertaining to stock bonus plans is/are correct? I. Stock bonus plans may provide for permitted disparity. II. If there is no public market for the employer's shares, the employer must stand ready to buy back the shares an employee receives from a stock bonus plan at fair market value. III. After benefits are distributed in the form of stock, the recipient can continue to defer tax on the value of the stock until such time that he or she sells the shares. IV. If the company is closely held, employee-participants can vote on all issues.

=A) I and II B) II and III C) I and III D) III and IV Explanation Stock bonus plans may provide for permitted disparity (sometimes referred to as Social Security integration). A qualified plan that uses permitted disparity provides benefits that favor highly compensated employee-participants by taking into account employer-provided Social Security contributions on behalf of each participant. If there is no public market for the employer's shares, the employer must stand ready to buy the shares an employee receives from a stock bonus plan at fair market value, as determined by an independent appraiser. After benefits are distributed in the form of stock, the recipient can continue to defer tax on the appreciated value of the stock until such time that he or she sells the shares (NUA). However, the employee-recipient is immediately taxed on the cost, or basis, of the securities received, at ordinary income tax rates. If the company is closely held, employees can vote their shares on certain important issues, like mergers, sales, and recapitalization; if publicly held, they can vote on all issues. LO 2-2

Survivor annuities offered to retiring plan participants have which of the following requirements? I. they are not required if the employee has been married for less than one year before the annuity starts II. the minimum benefit must be equal to or greater than the benefit paid on a joint-and-50%-to-surviving-spouse annuity III. can only be elected if the spouse provides written consent IV. can be paid as a lump sum upon the death of the participant

=A) I and II B) II and IV C) II and III D) I, III, and IV Explanation Statements I and II are correct. Survivor annuities are automatically selected unless the spouse rejects the annuity in writing. Survivor annuities cannot be paid as a lump sum upon the death of the participant if annuity payments have begun. LO 7-4

Which of the statements below describe one or more characteristics of distributions from Section 457 plans? I. A distribution is exempt from the 10% early withdrawal penalty if the participant is younger than age 59½. II. To qualify for a hardship withdrawal, the participant must demonstrate "immediate and heavy financial need" and not have any other resources that are "reasonably available." III. A one-time, in-service withdrawal cannot exceed $6,000. IV. College education costs for a participant's child qualify for hardship withdrawals.

=A) I only B) II and IV C) I and II D) II and III Explanation Statement I is true. The 10% early distribution penalty under IRC Section 72(t) does not apply to Section 457 plans. In contrast, this penalty applies to certain distributions from qualified plans, 403(b) plans, and IRAs. Statements II, III, and IV are false. The law specifies that a Section 457 plan shall not make distributions available to participants or beneficiaries until the calendar year in which the participant attains age 59½, unless the participant separates from service, or the participant is faced with an unforeseeable emergency. This last provision is similar to the hardship withdrawals allowed under 403(b) or 401(k) plans, except that any distribution must be related to an unforeseeable emergency. Plans must define an unforeseeable emergency as a severe financial hardship. It could be caused by an unexpected illness or accident suffered by the participant or a member of the participant's family. College education costs for a participant's child may qualify as a hardship withdrawal under a 403(b) or 401(k) plan, but they would not qualify as an unforeseeable emergency under a 457 plan. One-time, in-service withdrawals cannot exceed $5,000. LO 3-4

Which of the following are factors that should be considered in determining if a SEP or SIMPLE IRA would be appropriate? I. A SEP may be more appropriate than a SIMPLE IRA for employees who join the company later in life. II. For participants with lower incomes, a SIMPLE plan may allow greater contributions than a SEP. III. A SEP is superior to a SIMPLE plan if an employer's objective is to gain the highest tax deduction. IV. A SEP will provide greater contributions than a SIMPLE IRA for participants with higher incomes.

=A) I, II, III, and IV B) I and IV C) I and II D) II and III Explanation If the employer wants to meet the needs of employees who join the company later in life, the SEP is likely to be more appropriate since it allows larger contributions. The reverse may be true of younger employees: They have many more years in which to accumulate retirement funds and generally place less value on having a retirement plan. For participants with lower incomes, a SIMPLE plan could allow greater contributions. For example, if the participant's income were $30,000, the maximum contribution under a SEP would be $7,500 (25% of $30,000). Under a SIMPLE plan, the employee could contribute $13,500 in 2021, with the employer matching up to 3%, or $900 (3% of $30,000). In contrast, a SEP will provide greater contributions than a SIMPLE IRA for participants with higher incomes. For example, if the participant's income were $80,000, the maximum contribution under a SEP would be $20,000 (25% of $80,000). Under a SIMPLE plan, the employee could only contribute $13,500 in 2021, with the employer matching up to 3%, or $2,400 (3% of $80,000). LO 4-3

In a defined contribution plan, the annual addition to a participant's account includes which of the following? I. forfeitures II. expenses III. worker contributions IV. employer contributions

=A) I, III, and IV B) II and III C) I only D) III only Explanation The annual addition for any year is the sum of employer contributions, employee contributions, and forfeitures. However, the benefits ultimately received by plan participants are determined by employer contributions, employee contributions, investment results (gains or losses and interest/dividend earnings), expenses, and, in some cases (depending upon the wording of the plan document), amounts forfeited by participants who leave the company prior to becoming fully vested. LO 2-1

Best practices for financial planners include. I. always look out for the best interest of your employer II. always look out for the best interest of your clients III. disclosure of conflicts of interest replaces a scope of engagement contract IV. disclosing conflicts of interest is not as good as eliminating them

=A) II and IV B) I and III C) II and III D) I and IV Explanation Options II and IV are correct. Advisers should always keep their clients' best interest in mind. It is better to eliminate a conflict of interest than to disclose it. Option I might mean job security, but it has nothing to do with doing what's best for the client, and having a fiduciary responsibility to the client. Option III is not correct. Both disclosures of conflicts of interest and scope of engagement letters are best practices for working with clients. LO 1-4

Which of the following are correct statements pertaining to IRA rollover requirements? I. If an IRA account is distributed directly to the IRA participant, the original IRA custodian must withhold 20% from the proceeds. II. An IRA rollover must be completed within 60 days following the distribution date. III. An IRA account may be rolled over to another IRA once a year. IV. Direct trustee-to-trustee IRA transfers may be made as often as the IRA owner wishes.

=A) II, III, and IV B) I, III, and IV C) II and IV D) I, II, and III Explanation Once a year, an IRA owner may rollover his or her account to a new IRA within 60 days after distribution from the original IRA. Direct trustee-to-trustee transfers may be made as often as desired. The 20% withholding requirement does not apply to IRA distributions; the 20% mandatory withholding applies to eligible rollover distributions made directly to the plan participant from employer-sponsored qualified retirement plans or TSAs. LO 7-3

Which of the following statements correctly describe requirements for a Section 457 plan in 2021? I. Distributions from the plan are not permitted until age 72. II. To avoid adverse income tax effects, the agreement must be executed during the same month as the participant's services are provided. III. Eligible participants include employees of agencies, instrumentalities, and subdivisions of a state, and Section 501 tax-exempt organizations. IV. The deferral limit is the lesser of $19,500 or 100% of compensation.

=A) III and IV B) I and II C) II and IV D) I and III Explanation All of the organizations in Option III may establish a Section 457 plan, and deferrals are limited to the lesser of $19,500 or 100% of compensation in 2021 (Option IV). Option I. is wrong since one could receive a distribution prior to age 59½ if it was due to separation from service or an unforeseen emergency, and Option II. is incorrect as the agreement must be executed before the first day of the month in which the services will be performed. The result will be a loss of the tax deferral for that month if the agreement is made during the month. LO 3-4

Which of the following early distributions from a SEP-IRA would be exempt from the 10% penalty? I. Distributions to make up for lost earnings while the IRA owner recovered from a broken leg. II. Distributions by a 56-year-old SEP-IRA owner due to separation from service. III. Distributions used to pay medical expenses that exceed 7.5% of the SEP-IRA owner's adjusted gross income. IV. Distributions to pay tuition, fees, and books for the SEP-IRA owner's spouse attending graduate school.

=A) III and IV B) I and II C) II and IV D) II and III Explanation Distributions due to the permanent disability of the SEP-IRA owner are not subject to the penalty, but recovery from a broken leg would not qualify as a permanent disability. The separation from service after age 55 exception applies to qualified plans and 403(b) plans, not SEP-IRAs. Distributions used to pay medical expenses that exceed 7.5% of the SEP-IRA owner's AGI or for qualified education expenses are exempt from the 10% early withdrawal penalty. LO 7-2

Your client, Axle Enterprises, has asked you for more information about retirement plans that do not require an employer to make contributions on an annual basis. Which of these retirement plans do NOT require annual contributions? I. SIMPLE IRA II. Traditional defined benefit plan III. SEP IV. Stock bonus plan

=A) III and IV B) I and II C) II and IV D) II, III, and IV Explanation You should tell Axle Enterprises that of the listed plans, SEP and stock bonus plans do not require annual funding. This feature is especially important to firms that experience wide fluctuations in annual earnings. SIMPLE IRAs require employer contributions each year. Traditional defined benefit plans are pension plans. Pension plans are subject to the mandatory funding requirement. LO 5-2

Defined contribution plans have the following characteristics in common: I. Contributions are tax deductible to the employee, but not to the employer II. Employees must become vested in the plans after seven years of beginning employment III. The maximum contribution to an employee's account is $58,000 (in 2021, indexed for inflation) IV. Employees who separate from service may forfeit some of their account value

=A) III and IV B) III only C) I and II D) I only Explanation Options III and IV are correct. The maximum contribution to an employee's account is $58,000 (in 2021, indexed for inflation), and if employees separate from service before completely vesting, they lose unvested benefits. Option I is incorrect. Both employees and employers can deduct contributions from their tax returns. Option II is incorrect. Full vesting for defined contribution plan is required six years after being hired in a plan under a graded vesting schedule. LO 2-4

Last year, after separating from service with the XYZ Corp. at age 51, Jenny Morris rolled over her qualified plan lump-sum distribution into a new IRA. She had been a plan participant for 12 years. This year, she began working for a new employer that provides a profit sharing plan for employees. Jenny will be eligible to participate in her new employer's profit sharing plan in June of next year. Which one of the following statements describes an option that will be to Jenny's benefit?

=A) Jenny should plan to roll the entire IRA over into her new employer's qualified profit sharing plan in accordance with tax requirements and plan provisions if the plan allows her to do so. B) Jenny should plan to roll a portion of the IRA over into her new employer's qualified profit sharing plan in accordance with tax requirements and plan provisions. This will preserve her eligibility for forward-averaging tax treatment on this portion of her qualified plan account at a future lump-sum distribution, and she can also take lump-sum capital gains treatment on the amount remaining in her IRA. C) Jenny should take a current total distribution from the IRA, reinvesting the after-tax proceeds in her new employer's qualified profit sharing plan. D) Jenny should leave the rollover funds in the IRA for three more years; when she is age 55, she can distribute the account and benefit from capital gains treatment. Explanation If the qualified plan permits loans to be made to participants, rolling the IRA into the qualified plan would give her a resource to meet a financial need without incurring income tax or a tax penalty. Having the money in a qualified plan could also provide her more flexibility than an IRA when she begins to receive distributions. Capital gains treatment is not available on any distribution from an IRA. Taking a current distribution from the IRA would result in a current tax liability. LO 7-3

Which of the following governmental bodies does not have administrative power to create and enforce ERISA regulations:

=A) Social Security Administration B) Pension Benefit Guaranty Corporation C) Department of the Treasury D) Department of Labor Explanation The U. S. Department of the Treasury, The U.S. Department of Labor, and the Pension Benefit Guaranty Corporation administer ERISA. LO 1-1

Dan Oakley, age 41, has been contributing $2,000 annually to his IRA for seven years; his contributions have been fully deductible. The most recent year-end account value was $18,100. He also has accumulated $16,800 in his profit sharing plan account at work; the plan permits loans. This year, Dan needs approximately $5,000 to replace the 15-year-old shingles on the roof of his home and is considering either withdrawing this amount from his IRA or borrowing it from his profit sharing plan account. Which one of the following best describes the potential tax liability from these two options?

=A) Withdrawing the funds from his IRA will result in a tax liability; Dan will be subject to ordinary income tax and an early withdrawal penalty on the $5,000 withdrawal amount. B) Neither option results in any tax liability as long as the withdrawal or the loan complies with qualified plan requirements. C) Borrowing the funds from his profit sharing plan will result in a tax liability; Dan will be subject to ordinary income tax and an early withdrawal penalty on the entire loan amount. D) Neither option results in any tax liability. Explanation The $5,000 IRA withdrawal will be subject to ordinary income tax and to the 10% early withdrawal penalty. Plan loans that meet all legal requirements are not subject to income tax. LO 7-2

Which of the following is an exception to the prohibition against assigning a plan participant's benefits?

=A) all of these B) qualified domestic relations orders C) IRS collections D) voluntary assignments Explanation There are several exceptions to the prohibition of assigning a plan participant's benefits. An exception to the prohibition is compliance with QDROs. Other exceptions involve IRS collection efforts and voluntary assignments. LO 7-5

Edward Bennett, age 71, has contributed $300,000 in after-tax dollars to his qualified retirement plan at work. The balance in his account is $400,000. Edward's benefit is payable as a joint and survivor annuity with his 70-year-old wife, Eve. Edward wants you to tell him how much of each monthly annuity payment he receives from the plan will be tax free. Using the table below, how will you calculate the tax-free amount? Combined Ages of Annuitants at Annuity Start Date Number of Monthly Payments 110 or less 410 111-120 360 121-130 310 131-140 260 141 and over 210

=A) divide $300,000 by 210 B) divide $300,000 by 260 C) divide $100,000 by 260 D) divide $100,000 by 210 Explanation Edward and Eve's combined ages at their annuity starting date is 141. Based on their combined ages, they will receive an estimated 210 monthly payments over their lifetimes. By dividing $300,000 (after-tax contributions) by the estimated 210 payments they will receive, they will know how much of each monthly annuity payment is a tax-free return of capital. The balance of each payment is therefore fully taxable. LO 7-3

The retirement plan committee for Neighborhood Books Inc. is concerned that the chosen plan should provide the company's owner with attractive benefits. However, the owner has stated that she already has enough money for retirement. The committee is trying to sell the owner on adopting the plan they want and need to show her ways the company might benefit from the plan. Which of the following business owner objectives are best served through a traditional defined benefit plan?

=A) maximize retirement benefits for older employees B) promote employee savings C) share business ownership with employees D) employee appreciation of the plan by younger employees Explanation A traditional defined benefit plan would maximize retirement benefits of older employees. This would decrease the amount of income taxes due from the company. LO 4-4

Jan Acres is president and CEO of Acres of Diamonds Inc. and owns 50% of the company stock. The company provides a 15% money purchase plan. Jan is now 53 and earns $150,000. Her two daughters also work for the company and they each earn $75,000; each owns 25% of the company's stock. There are seven other employees who have been with the firm for at least one year, and who are age 21 or older. The other employees' incomes range from $12,000 to $35,000. Jan wants to increase the retirement benefit for herself, but is concerned about having the cost of the plan increase. You have advised her to amend the plan to take permitted disparity (Social Security integration) into account,

=A) with the permitted disparity at 5.7%. B) as an offset plan, with the excess contribution at 20.7%. C) by providing employer contributions equal to 5.7% of compensation in excess of the Social Security taxable wage base only. D) with the excess contribution at 7.7%. Explanation A defined contribution plan's permitted disparity cannot exceed the old age insurance tax of 5.7%. The excess contribution would be 20.7% or 5.7%, but a Social Security "offset" is only applicable to defined benefit plans. The integration level is not specified in the scenario; however, the integration level is an income level, not a percentage. The integration level would normally be the Social Security wage base. LO 3-1

Qualified plans must allow certain participants with account balances equal to or greater than which one of the following amounts to keep their funds in the plan?

A) $10,000 =B) $5,000 C) $7,000 D) $3,000 Explanation Qualified plans must allow certain participants with account balances of $5,000 or more to keep their funds in the plan. Since funds left in the plan continue to be tax-deferred, the client may be indifferent to the idea of doing a rollover. Whether it is advisable for a participant to keep his or her funds in the plan depends upon how the funds are managed and whether a better risk/return situation is feasible through an IRA rollover. LO 7-3

Assume Mike Radford, a nonhighly compensated employee, defers 6% of his $60,000 salary into a safe harbor 401(k) plan that uses the statutory matching approach. Mike's 401(k) account must receive an employer matching contribution at least equal to which one of the following amounts?

A) $3,000 B) $3,600 =C) $2,400 D) $1,800 Explanation If an employer uses the safe harbor statutory matching approach, contributions to a nonhighly compensated employee such as Mike Radford must be equal to 100% of elective contributions up to 3% of compensation (100% of $1,800 [3% x $60,000 = $1,800]), and 50% of elective contributions between 3% and 5% of compensation (50% x [2% x $60,000] = $600). In other words, Mike's 401(k) account will receive an employer matching contribution equal to 4% of his salary. The other matching schedule for a safe harbor plan is a straight 100% match on the first 4%. This is called the "enhanced matching formula." LO 3-1

Ted, age 44, is a participant in a SIMPLE 401(k) plan sponsored by his employer. He earned $400,000 in annual compensation and made elective deferrals of $13,500 to the plan for 2021. What is the maximum employer contribution that may be made to the plan on Ted's behalf?

A) $5,300 B) $13,500 C) $4,000 =D) $8,700 Explanation With a SIMPLE 401(k), when the employer provides the 3% matching contribution, the maximum includible compensation limitation applies. Thus, if Ted earns $400,000 at a firm offering a SIMPLE 401(k) and he makes an elective deferral of $13,500, the 3% matching contribution would be $8,700 (3% x $290,000). If the employer provided the 2% nonelective contribution instead, the compensation limitation ($290,000, as indexed in 2021) applies. For example, if Ted's employer provides the 2% nonelective contribution to a SIMPLE 401(k), and Ted earns $400,000, the employer's nonelective contribution would be $5,800 in 2021 ($290,000 x 2%). LO 4-1

Jim is a participant in a SIMPLE IRA plan sponsored by his employer. He earned $416,667 in annual compensation and made elective deferrals of $13,500 to the plan for 2021. What is the maximum employer contribution that may be made to the plan on Jim's behalf?

A) $6,500 =B) $12,500 C) $5,800 D) $7,950 Explanation With a SIMPLE IRA, when the employer provides the 3% matching contribution, the maximum includible compensation limitation ($290,000 for 2021) does not apply. Thus, if Jim earns $416,667 at a firm offering a SIMPLE IRA and he makes an elective deferral of $13,500 (the maximum for 2021), the 3% matching contribution would be $12,500 (3% of up to $416,667 of Jim's earnings, but not to exceed $13,500). However, if the employer provides the 2% nonelective contribution, the maximum includible compensation limitation does apply. For example, if Jim's employer provides the 2% nonelective contribution to a SIMPLE IRA, and Jim earns $416,667, the employer's contribution would be $5,800 ($290,000 x 2%). LO 4-1

For a given plan year, an employer may contribute a maximum of what percentage of each employee's annual compensation to a SEP?

A) 15% =B) 25% C) 100% D) 10% Explanation An employer may contribute and deduct as much as 25% of each employee's annual compensation to a SEP up to a maximum of $58,000 (for 2021). The compensation cap for 2021 SEP contributions is $290,000. LO 4-2

In a profit sharing plan that utilizes a 2-6 year graded vesting schedule, what is the employee's vested percentage in the employer's plan contributions after three years of completed service?

A) 60% B) 20% =C) 40% D) 50% Explanation After the completion of two years of service, the participant becomes 20% vested in his or her employer contributions. For each additional year of service after two years, an increase in vesting must occur at a rate of at least 20% per year. The participant is fully vested at the end of six years of service. LO 6-2

Which of the following individuals would be considered a fiduciary of a retirement plan as specified under ERISA?

A) A bank officer who approved a loan to an ESOP to purchase stock. B) An actuary who provides the plan with periodic reports and prepares the annual minimum funding requirement for the upcoming year. C) A person who provides legal advice to the plan, and reviews any documents that the plan adopts. =D) An administrator of the plan with discretionary authority over selecting the investment options and share classes provided by the plan. Explanation An administrator of the plan with discretionary authority over selecting the investment options and share classes provided by the plan would be a plan fiduciary. LO 1-1

Which one of the following characteristics is similar for SIMPLE 401(k) plans and regular 401(k) plans?

A) ACP test B) employer contribution formulas =C) hardship withdrawal rules D) top-heavy rules Explanation Hardship withdrawals are available from SIMPLE 401(k) plans and regular 401(k) plans. The top-heavy rules and the ACP test do not apply to SIMPLE 401(k) plans; however, these rules do apply to regular 401(k) plans. A SIMPLE 401(k) plan's employer contribution formula cannot be discretionary; however, a regular 401(k) plan may use a discretionary employer contribution formula. LO 4-1

As a general rule, which of the following retirement plans may be exempt from Title I of ERISA? I. salary deferral only 403(b) plan sponsored by a nonprofit hospital II. 401(k) plan with matching employer contributions sponsored by a charitable organization III. 403(b) plan with matching employer contributions sponsored by a public school IV. salary deferral only 401(k) plan sponsored by a private school

A) II, III, and IV =B) I and III C) II and IV D) I, III, and IV Explanation 401(k) plans are always subject to Title I of ERISA, but 403(b) plans sponsored by a 501(c)(3) tax-exempt organization are not if participation is voluntary, with only employee salary reduction, and there is minimal employer involvement in the plan. 403(b) plans sponsored by a governmental entity (public educational system) are never subject to these ERISA requirements. LO 3-3

Which of the following are characteristics of new comparability profit sharing plans?

A) Contributions are allocated to participants on the basis of age and compensation. =B) Highly compensated employees making the same salary but with different ages will receive the same allocations to their accounts. C) Contributions are much higher than the amounts that are allowed under a defined benefit plan. D) Nonhighly compensated employees making the same salary but with different ages will receive different allocations to their accounts. Explanation As a general rule, new comparability profit sharing plans are designed to provide the same percentage of contributions for a particular category of employees (e.g., shareholders, highly compensated employees, or key employees), even though their ages vary significantly; and provide the same percentage allocation (based on compensation) for all other employees (e.g., nonshareholders, nonhighly compensated employees, or non-key employees). Therefore, contributions are not allocated to participants on the basis of age and compensation. A new comparability profit sharing plan is a defined contribution plan; therefore, employer contributions cannot exceed 25% of the total covered compensation. In contrast, employer contributions to a defined benefit plan may exceed this amount. LO 2-3

Which one of the following is a correct statement about rollovers?

A) Corrective distributions of excess deferrals from 401(k) plans are eligible for rollover treatment. =B) A direct rollover may be accomplished by providing a distributee with a check payable to the custodian or trustee of the rollover plan or IRA, and appropriate instructions. C) A qualified plan distribution is not subject to income tax withholding if rolled over within 60 days of receipt. D) Hardship distributions from a 401(k) plan are eligible for rollover treatment. Explanation IRS regulations indicate that providing a distributee with a check made payable to a trustee for delivery is an acceptable way to accomplish a direct rollover. Under current rules, mandatory 20% withholding is imposed on a qualified plan or TSA distribution (if the distribution is eligible for rollover treatment) if the plan issues a distribution check to the participant (answer a.). Corrective distributions of excess deferrals and hardship distributions from 401(k) plans (answers b. and c., respectively) do not qualify as eligible rollover distributions. LO 7-3

Frank is age 54 and married. Frank and his wife, Helen, have a daughter named Meredith attending college. Frank has been making salary reduction contributions to his employer-sponsored 401(k) plan for the past four years, and is considered a highly compensated employee. The current vested balance of his 401(k) is $21,500. His account includes $3,500 of earnings on his contributions and $10,000 of employer matching contributions and earnings on the employer contributions. The plan provides for both hardship withdrawals and plan loans; the plan loans are available to all plan participants on an equal basis. Frank needs to use some of his plan assets to pay college tuition. Which of the following is a correct statement about how Frank could meet Meredith's college expenses?

A) Frank could withdraw the full $21,500 from his 401(k) account under the hardship provisions. =B) The maximum plan loan Frank could take is $10,750. C) Frank would not have to pay a premature distribution penalty tax if he made the maximum hardship withdrawal. D) Frank is not allowed to take a loan from the plan since he is a highly compensated employee. Explanation Frank can borrow up to 50% of the nonforfeitable accrued benefit of $21,500—i.e., $10,750. As long as loans are available to all plan participants on an equal basis, highly compensated employees may take loans. A hardship distribution from a 401(k) plan for education expenses would be subject to the 10% premature distribution penalty. Frank is only able to take a hardship withdrawal on his contributions. He would have also been able to take a hardship withdrawal on the employer contributions if they were safe harbor contributions, QNECs, or QMACs. In this case the scenario only said they were normal matching contributions. LO 7-2

Which of the following statements describe characteristics of tax-sheltered annuity (TSA) plans authorized under IRC Section 403(b)? I. Distributions received after age 59½ may be eligible for 10-year forward-averaging tax treatment. II. Salary reductions generally are limited to $13,500. III. Special catch-ups are available to employees of health care, educational, and religious organizations. IV. Plans may be offered by public school systems and organizations that are tax exempt under IRC Section 501(c)(3).

A) I and II =B) III and IV C) I and IV D) II and III Explanation TSA distributions are never eligible for 10-year forward averaging, regardless of the recipient's age. The salary reduction limit is not $13,500. TSAs may be offered by public schools and tax-exempt organizations, and special catch-ups are available to employees of health care, educational, and religious organizations (HER). LO 3-3

Which of the following retirement plans may be characterized as qualified plans? I. SIMPLE 401(k) II. SEP-IRA III. profit sharing plan IV. SIMPLE IRA

A) I and II B) II and IV C) I, III, and IV =D) I and III Explanation All qualified plans may be classified as either defined contribution or defined benefit plans. Profit sharing and SIMPLE 401(k) plans are qualified plans. A SEP (simplified employee pension) is a tax-deferred individual plan. A SEP provides a separate IRA set up for the sole benefit of each employee-participant. All of the assets held by a SEP-IRA are the property of the account owner. A SIMPLE IRA is also a tax-deferred individual plan. Like a SEP, a SIMPLE IRA provides a separate IRA set up for the sole benefit of each employee-participant. LO 4-1

Which of the following statements describe basic provisions of Section 457 plans? Salary reduction deferrals are generally limited to $19,500 in 2021. Plans may be established only by state and local governments. Special catch-up provisions offered at age 50 and older may not be used with the final three-year catch-up. The same minimum distribution requirements apply as for qualified plans.

A) I and II B) II and IV C) II and III =D) I, III, and IV Explanation Only statement II is incorrect-eligible organizations also include tax-exempt organizations. LO 3-4

Which one of the following retirement plans provides a benefit (or contribution) formula that skews contributions in favor of older owner-employees and gives the employer considerable contribution flexibility? I. SIMPLE IRA II. age-weighted profit sharing plan III. safe harbor 401(k) plan IV. traditional defined benefit plan

A) I and II B) II and IV C) II, III, and IV =D) II only Explanation As with a traditional profit sharing plan, contributions to an age-weighted profit sharing plan can be discretionary. Safe harbor 401(k) plans favor highly compensated employees who maximize their elective deferrals to this type of plan. Traditional defined benefit plans and SIMPLE IRAs require mandatory funding. LO 5-2

Which of the following are correct statements about the permitted disparity rules (Social Security integration rules) for defined benefit plans? I. A plan which provides a benefit for wages up to the integration level, plus a higher benefit for wages that exceed the integration level, is an integrated defined benefit excess plan. II. A plan which provides that an employee's benefit otherwise computed under the plan formula is reduced by a fixed amount or formula amount is an integrated defined benefit offset plan. III. Covered compensation is the average of the participant's compensation not in excess of the taxable wage base for the three-consecutive-year period ending with or within the plan year. IV. The base benefit percentage is determined by calculating the benefits provided by the plan based on compensation below the integration level, and expressing these benefits as a percentage of compensation below the integration level.

A) I and III =B) I, II, and IV C) I and II D) II and IV Explanation Options I, II, and IV correctly state the definition of integrated defined benefit excess plans, the definition of integrated defined benefit offset plans, and how to determine the base benefit percentage. Covered compensation means the average Social Security wage base over the 35 years prior to an individual's Social Security retirement age. LO 2-1

Which of the following are correct statements about the permitted disparity rules (Social Security integration rules) for qualified plans? I. An integration level for a defined contribution plan that exceeds the current year's taxable wage base may be selected. II. The permitted disparity level in a defined benefit plan must be reduced for early retirement. III. It is not possible to have a defined benefit formula in which lower-paid employees receive no benefit. IV. The maximum permitted disparity provided under a defined benefit plan is 26.25% for a flat benefit plan and 0.75% for a unit credit plan.

A) I and III B) I and II C) II and IV =D) II, III, and IV Explanation The permitted disparity level must be reduced if a participant retires early. It is no longer possible to have an "integrated excess" plan that does not provide any benefits (or contributions) to employees with wages below the integration level. This was permitted under prior law. The permitted disparity for a flat benefit plan is 26.25% and 0.75% for a unit credit plan. These are the maximums. The integration level selected cannot exceed the current year's taxable wage base; however, it may be less. LO 3-1

Which of the following legal requirements apply to employee stock ownership plans (ESOPs)? I. ESOPs must permit age-55 participants who have at least 10 years of participation the opportunity to diversify their accounts. II. ESOPs cannot be integrated with Social Security. III. An employer's deduction for ESOP contributions and amounts made to repay interest on an ESOP's debt cannot exceed 25% of the participants' payroll. IV. The mandatory 20% income tax withholding requirement does not apply to distributions of employer stock from an ESOP.

A) I and III B) II and III =C) I, II, and IV D) I and IV Explanation I and II correctly state the diversification rule and the rule that prohibits integrated ESOPs. There is no limit on amounts used to pay interest on ESOP debt. ESOP distributions of employer stock only are not subject to the 20% income tax withholding requirement. LO 2-2

Compared to a 401(k) plan, which of the following are unique features of 403(b) plans? I. 403(b) plans are exempt from the ACP test. II. Special nondiscrimination requirements apply to 403(b) plans. III. 403(b) plans are exempt from the ADP test. IV. 403(b) plans may offer a 15 years of service catch-up provision

A) I and III B) II and IV C) I, III, and IV =D) II, III, and IV Explanation Statements II, III, and IV are true. Unique nondiscrimination requirements apply to 403(b) plans; if one employee is allowed to enter into a salary reduction agreement, then all employees who are willing to have a salary reduction of at least $200 (not indexed) must be permitted to do so. Although 403(b) plans are exempt from the ADP test, the ACP test applies if a 403(b) plan maintained by a 501(c)(3) tax-exempt employer provides matching contributions or employees are allowed to make after-tax contributions. 403(b) plans may offer a 15 years of service catch-up provision; however, this feature is not available under a 401(k) plan. LO 3-3

Which of the following are advantages of SEP-IRAs? I. SEP-IRAs may be funded as late as the due date of the employer's tax return, including extensions. II. SEP-IRAs are exempt from IRS reporting requirements. III. SEP-IRAs can offer retirement plan loans. IV. SEP-IRAs are permitted to utilize catch-up provisions.

A) I and III B) III and IV C) II and IV =D) I only Explanation Option I is a correct statement. An employer need not fund a SEP by year-end. Instead, an employer may make contributions, including the initial contribution, as late as the due date of the employer's income tax return, including extensions. Option II is incorrect because the trustee of a SEP-IRA is required to file Form 5498 with the IRS each calendar year. Option III is incorrect because SEP-IRAs cannot offer loans. Option IV is incorrect because SEPs do not have catch-up provisions. LO 4-2

From an employee's perspective, which of the following are disadvantages of participating in a profit sharing plan? I. Retirement benefits cannot be determined in advance. II. The limit on employer contributions is less than the contribution limit for other defined contribution plans. III. Older individuals who join the company are at risk of accumulating fewer retirement benefits. IV. The plan may provide for discretionary contributions only.

A) I and IV =B) I, III, and IV C) I and II D) II and III Explanation Profit sharing retirement benefits cannot be determined in advance. This is because (1) the employer contribution may vary from year to year, and (2) accumulation of account assets will depend upon investment results. This lack of certainty makes retirement planning difficult. Older individuals who join the company are at risk of accumulating few retirement benefits from a profit sharing plan, particularly if the company's contributions are discretionary and the company has experienced wide fluctuations in profits and losses. Furthermore, many profit sharing plans provide for discretionary contributions only. However, the limit on tax-deductible employer contributions to profit sharing plans is the same as the limit on tax-deductible employer contributions to money purchase or target benefit plans. LO 3-1

From an employer's standpoint, which of the following are factors favoring a SEP over a SIMPLE IRA? I. slower vesting requirements II. the possibility of a larger contribution III. less restrictive reporting requirements IV. employers eligible to sponsor this type of plan

A) I and IV =B) II and IV C) I and III D) II and III Explanation Contributions to a SEP or SIMPLE IRA are 100% vested immediately. Both plans have relatively easy reporting requirements. SEP contributions can be larger than SIMPLE IRA contributions. SIMPLE IRAs may only be established by businesses with 100 or fewer employees who earned at least $5,000 during the preceding year. In contrast, a SEP may be established by businesses with any number of employees. LO 4-3

David, age 52, is an engineering professor and draws a regular salary. However, he is also a part-time consultant, earning $70,000 in self-employment income (Schedule C income). David wants to make the maximum contribution to his 401(k) profit sharing Keogh plan in which he is the sole participant. Which of the following are correct statements about David's 401(k) profit sharing Keogh plan for the current year? I. He can make a deductible employer contribution and elective deferrals to his 401(k) profit sharing Keogh plan. II. To determine the maximum deductible employer contribution, he must multiply his earned income (Schedule C income, reduced by one-half of his self-employment taxes) by 20%, the maximum contribution rate. III. He can delay making a deferral election until after the end of the plan year, thus preserving cash flow that may be needed by the business. IV. He can make catch-up contributions for the current year.

A) I and IV B) I and II =C) I, II, and IV D) I, II, III, and IV Explanation Statements I, II, and IV are true. One disadvantage of a 401(k) Keogh plan for David (or any other sole proprietor or partner) is that he must commit himself to setting aside or making elective deferrals during the plan year, thus using cash flow that may be needed by the business. However, David may wait until after the end of the plan year to see if he wants to make a deductible employer contribution to the plan. LO 3-1

Which of the following vesting schedules could be used by a profit sharing plan with a 401(k) feature that is not top-heavy if the employer matches employee elective deferrals during the current plan year? I. three- to seven-year graded II. five-year cliff III. two- to six-year graded IV. three-year cliff

A) I only =B) III and IV C) II and III D) I and II Explanation If the employer matches elective deferrals, the vesting schedules for employer matching contributions may not exceed a two- to six-year graded vesting schedule, or three-year cliff vesting. LO 6-2

Which of the following are methods plans can use to avoid disqualifying the plan and minimize penalties? I. Fix errors before the plan is audited II. Document errors, corrections that were made, and steps taken that prevent future errors on a voluntary basis III. Negotiate penalties and taxes with the IRS IV. None of the above-disqualification and penalties are non-negotiable

A) I only B) I and III C) I and II =D) I, II, and III Explanation Statements I, II, and III are correct. All are methods that are part of the Employee Plans Compliance Resolution System (EPCRS). LO 6-3

Which of the following individuals who perform services for a public school are eligible to participate in a 403(b) plan offered by the school? I. clerical employees II. principals III. independent contractors IV. janitors

A) I only B) II and III C) i and II =D) I, II, and IV Explanation Anyone who performs services as an employee for a public school, either directly or indirectly, is eligible. This includes principals, teachers, clerical employees, and even janitors. As a general rule, a politically appointed university regent or an employee of the state teachers' retirement system would not be eligible to participate. The following test is used to determine if an individual is an employee as opposed to an independent contractor. If an individual is subject to the direction and control of a qualified employer regarding what work to do and how to do it, he or she is an employee. If an individual is subject to the direction and control of another as to the result only, and not how to do the work, he or she will generally be an independent contractor, and not an eligible employee. LO 3-3

Which, if any, of the following retirement plans frequently give a participant the authority to direct the investment of funds in his or her account? I. SEP plans II. 403(b) plans III. defined benefit plan IV. cash balance plan

A) I, II, III, and IV =B) I and II C) II, III, and IV D) II and III Explanation A personal IRA must be established for each SEP participant. A SEP participant has the authority to direct the investment of all funds in his or her IRA. Almost all 403(b) plans use participant-directed investments; therefore, investment choices generally are made by the employee-participant. In a defined benefit plan, there are no individual accounts for the employee/participant to control. The cash balance plan uses a hypothetical account that receives pay credits and interest credits. Thus, there are no actual funds in the hypothetical account for the participant to control. LO 6-1

Which of the following are exempt from the 10% early withdrawal penalty on qualified plan distributions and SEP-IRA distributions before age 59½? I. Distributions due to the permanent disability of the participant or account owner. II. Distributions of up to $10,000 taken by a qualified first-time homebuyer. III. Distributions to cover medical insurance premiums paid for the owner, spouse, and dependents while unemployed when the owner has received at least 12 consecutive weeks of unemployment compensation. IV. Distributions to the extent that they are used to pay medical expenses exceeding 7.5% of the individual's adjusted gross income.

A) I, II, III, and IV B) I, II, and III C) I and II =D) I and IV Explanation Statements I and IV are correct. Distributions due to the permanent disability of the participant or account owner and distributions to the extent that they are used to pay medical expenses exceeding 7.5% of an individual's adjusted gross income are exempt from the 10% early withdrawal penalty on qualified plan distributions and SEP-IRA distributions before age 59½. However, the following distributions before age 59½ from a SEP-IRA (but not a qualified plan) are exempt from the 10% early withdrawal penalty: distributions to pay for medical insurance premiums following the loss of employment, and distributions of up to $10,000 taken by a qualified first-time homebuyer. LO 7-2

Which of the following requirements for standardized defined contribution prototype plans and nonstandardized defined contribution prototype plans usually are similar? I. requirements for allocating employer contributions II. requirements for determining initial eligibility III. requirements for permitted disparity (Social Security integration)

A) I, II, and III =B) II and III C) I only D) I and II Explanation Statements II and III are true. Certain features of standardized plans and nonstandardized plans are virtually identical-for example, initial eligibility requirements, permitted disparity (Social Security integration), and top-heavy vesting requirements. Statement I is incorrect. A nonstandardized adoption agreement may be drafted to require a participant to complete 1,000 hours of service and/or be employed on the last day of the plan year before being entitled to receive an allocation of employer contributions to the defined contribution plan. In contrast, a standardized plan is limited in terms of the service requirements that it may impose. It must require an employer to make an allocation of employer contributions (and forfeitures, if any) on behalf of any participant who terminates employment during the plan year and completes at least 501 hours of service during the plan year. LO 5-4

Which of the following describes unique differences between an ESOP and other qualified plans? I. Shareholders can sell their shares directly to an ESOP. II. An ESOP allows S corporations to take larger deductions than do other defined contribution plans. III. Participants in an ESOP maintained by a privately owned company who have attained age 50 and meet certain other requirements may invest a certain portion of their account in assets other than employer securities. IV. An ESOP can borrow money from a financial institution to purchase employer stock.

A) I, II, and III B) I, II, III, and IV =C) I and IV D) II and III Explanation It is true that shareholders can sell their shares to an ESOP. Also, an ESOP trustee can borrow money from a financial institution to purchase the employer stock. (When used to borrow money, the plans are also called LESOPs.) An S corporation can contribute up to 25% of the aggregate annual compensation of participating employees to an ESOP-this is similar to the deduction limit for other defined contribution plans. In contrast, a LESOP allows C corporations to take larger contributions than other defined contribution plans. Participants in an ESOP maintained by a privately owned company who have attained age 55 (not age 50) and who have been participants for at least 10 years ("qualified participants") may annually elect to have a portion of their account invested in assets other than employer securities during the next six plan years ("qualified election period") after they become qualified participants. LO 2-2

From the perspective of a plan participant, which of the following are advantages of a SIMPLE IRA plan? I. Hardship withdrawals are permitted. II. Employer contributions are immediately vested. III. Plan loans are permitted. IV. Benefits are portable.

A) I, III, and IV =B) II and IV C) I and III D) II only Explanation Employer contributions to SIMPLE 401(k) plans and SIMPLE IRA plans are immediately 100% vested. This is advantageous for a plan participant in either type of plan. The following qualified plan rules apply to SIMPLE 401(k) plans but not to SIMPLE IRA plans: in-service withdrawal requirements and hardship withdrawal requirements. Hence, these features may be available to SIMPLE 401(k) plan participants but not to SIMPLE IRA plan participants. Benefits are portable for a SIMPLE IRA participant, as the participant owns the IRA account, and can roll the account to another IRA or qualified plan. Remember that distributions during the first two years of plan participation are generally subject to income tax and a 25% penalty unless rolled over to another SIMPLE IRA. LO 4-1

Which of the following are correct statements about survivor benefits from a qualified pension plan? I. A pension plan is required to provide a qualified optional survivor annuity if the survivor annuity is at least 75% of the amount payable during the joint lives of the participant and spouse. II. The qualified joint and survivor annuity (QJSA) may be waived if the spouse gives written consent to the effect of the election and a beneficiary is designated. III. The QJSA payable to the spouse must be at least 50%, but not more than 100%, of the annuity amount payable during the joint lives and actuarially equivalent to a single life annuity over the life of the participant. IV. A plan is not required to provide a survivor annuity if the plan participant and spouse have been married for less than one year.

A) I, III, and IV B) I and IV =C) II, III, and IV D) I, II, and III Explanation Since 2008, a pension plan has been required to provide a qualified optional survivor annuity (QOSA) if the survivor annuity is not at least 75% of the amount payable during the joint lives of the participant and spouse. If the survivor annuity is less than 75% of the amount payable during the joint lives of the participant and spouse, the QOSA is 75% of the amount payable during the joint lives of the participant and spouse. If the survivor annuity is at least 75% of the amount payable during the joint lives of the participant and spouse, the QOSA is 50% of the amount payable during the joint lives of the participant and spouse. The joint and survivor annuity option can be waived by the spouse via written consent, which includes acknowledging the effect of the waiver, if a beneficiary is designated. The QJSA must be actuarially equivalent to a single life annuity over the life of the participant and at least 50%, but not more than 100%, of the annuity payable during the joint lives of the participant and spouse. If the participant and spouse have been married for less than one year, the plan does not have to provide a survivor annuity. LO 5-3

Which of the following individuals who perform services for a state university are eligible to participate in a Section 457 plan offered by the university? I. state university professors II. state university president III. independent contractors IV. janitors

A) II and III B) I and II C) I only =D) I, II, III, and IV Explanation Section 457 plans offered by state and local governments (and agencies and instrumentalities thereof such as a state university) can be offered to everyone, particular groups, or individual employees-such as highly compensated individuals-whom the employer wants to benefit for some reason. Section 457 plans can even be offered to independent contractors; i.e., workers who are not classified as employees. LO 3-4

Which of the following are characteristics of an age-weighted profit sharing plan? I. An age-weighted allocation formula permits contributions to favor older employees compared to younger employees. II. An age-weighted allocation formula permits contributions to individual accounts to exceed the Section 415 limitations. III. If an age-weighted plan becomes top-heavy, the plan must also provide a minimum contribution to non-key employees of 3% of pay. IV. An employer that utilizes an age-weighted allocation formula becomes subject to the minimum funding standards.

A) II and III B) I and IV C) I, II, and III =D) I and III Explanation An age-weighted profit sharing plan favors older employees, and is typically used to provide maximum contributions for owner employees and key employees. As a result, an age-weighted plan is frequently top-heavy and must comply with the minimum contribution of top-heavy plans. LO 4-4

The upper limit on which of the following types of contributions is higher for a regular 401(k) plan compared with a SIMPLE 401(k) plan? I. catch-up contributions II. employee elective deferrals III. employer matches

A) II and III B) I only C) I and II =D) I, II, and III Explanation All three statements are correct. The upper limit on contributions from employee elective deferrals, catch-up contributions, and employer matching contributions is higher for a regular 401(k) plan than for a SIMPLE 401(k) plan. Clearly, participants in a regular 401(k) plan can defer more income and put away a greater amount for retirement. Also, an employer may provide for larger matching contributions under a regular 401(k) plan. LO 4-1

Which, if any, are correct statements about common reasons for retroactively amending a qualified retirement plan? I. To correct mistakes made by the employer in the selection of alternatives in the plan's adoption agreement. II. To comply with new requirements due to recent legislation. III. To retroactively reduce plan benefits for a group of employees.

A) II only =B) I and II C) I only D) II and III Explanation Plans must be amended retroactively to correct a defect or to comply with changing requirements due to recent legislation. Some plan amendments are necessary because of mistakes made by the employer in the selection of alternatives in the adoption agreement. The remedial period is the time period during which a retroactive amendment must be adopted; if the amendment is not adopted during this period, the IRS may disqualify the plan for the plan year(s) involved. A plan amendment may not retroactively reduce plan benefits. LO 5-5

Which of the following are correct statements about cash balance plans? I. A cash balance plan does not require the services of an actuary. II. Cash balance plans typically provide for annual contributions that accumulate at a specified rate and are pooled in a single fund. III. Cash balance plans are final average plans. IV. Cash balance plans have design features that are similar to a defined contribution plan.

A) II, III, and IV B) I, III, and IV C) I and III =D) II and IV Explanation Option I is incorrect because a cash balance plan is a type of defined benefit plan. A cash balance plan must provide the actuarial assumptions on how the hypothetical account balance is converted into an annuity. For married participants, the plan must provide a qualified joint and survivor annuity (QJSA). Options II and IV are correct. A cash balance pension plan is a defined benefit plan with design features similar to a defined contribution plan. There is generally a hypothetical account for each participant. Keep in mind that the accounts are hypothetical and are used primarily for bookkeeping-participants do not have actual individual accounts. A cash balance plan's pension benefit is based upon the value of the hypothetical account. The plan provides for annual contributions-normally employer contributions, but employee contributions may be included-that accumulate at a specified rate of return. Option III is incorrect. Cash balance plans are career average plans. A final average pay plan's benefit formula is based upon compensation earned at the end of an employee's career. In contrast, a cash balance plan's career average benefit formula averages a participant's compensation over his or her length of service, including the years of service when compensation is typically lower. LO 4-4

Which of the following years of service may be disregarded for vesting purposes? I. Years of service before a qualified retirement plan went into effect. II. Years of service before a one-year break in service. III. Years of service during which the employee declined to make elective contributions. IV. Years of service before the employee reached age 21.

A) III and IV B) II and III =C) I only D) I, II, III, and IV Explanation In general, all years of service with an employer must be counted for vesting purposes. However, there are limited exceptions to this general rule. The following years of service may be disregarded: years of service before the qualified retirement plan went into effect (as stated in option I); years of service before a one-year break in service if the number of consecutive one-year breaks in service equals or exceeds the greater of five or the number of pre-break years of service, and if the participant did not have any nonforfeitable right to the accrued benefit (not merely years of service before a one-year break in service of service as stated in option II); years of service during which the employee declined to make mandatory contributions (not elective contributions as stated in option III because these contributions are not mandatory); or years of service before the employee reached age 18 (not age 21 as stated in option IV). LO 6-2

Most of the employees of Slade Corporation are middle aged or older. Which of the following are factors that the corporation should consider when determining whether to implement a 401(k) plan? I. Older workers, as a group, tend to contribute a much smaller percentage of income than do their younger colleagues. II. As a general rule, a younger employee is less likely to value a 401(k) plan as highly as would an older employee. III. Because most current and prospective employees are middle aged or older, a 401(k) might be just the way to improve the recruitment and retention of desirable employees.

A) III only B) I, II, and III C) I and II =D) II and III Explanation Statement I is false. The age of a current or recruitable employee may influence how he or she perceives the value of a 401(k). In effect, a younger person is less likely to value a 401(k) plan as highly as would an older employee, for whom retirement is a subject of more immediate concern. Ironically, it is these younger workers, because of the greater number of years they have to participate, who stand to gain the most from a 401(k) plan. Statements II and III are true. Younger workers, as a group, tend to contribute a much smaller percentage of income than do their older colleagues. Apparently, people get more serious about retirement as they get closer to retirement age; also, older people frequently have more discretionary income to contribute (or defer). If most current and prospective employees are middle aged or older, a 401(k) might be just the way to improve the recruitment and retention of desirable employees. However, if most current and prospective employees are young and fairly transient, a 401(k) plan may not be worth the cost. LO 5-1

Dane Corporation wants to establish a simplified employee pension (SEP) for its fiscal year ending December 31, 2021. To accomplish this goal, the corporation must establish a SEP no later than which one of the following dates?

A) March 15, 2022 B) December 31, 2021 =C) due date for filing its corporate tax return, including extensions D) due date for filing its corporate tax return, excluding extensions Explanation An employer such as Dane Corporation need not establish a SEP by year-end. Instead, an employer may establish the SEP as late as the due date of the employer's income tax return, including extensions. LO 4-2

Which one of the following describes a consequence of terminating a qualified plan?

A) The plan administrator must apply for a determination letter. B) After a plan is terminated, the only acceptable course of action for an employer is to file for bankruptcy. C) The sponsoring organization must reexamine its prototype plan documents to determine what caused the plan termination. =D) Participants must receive immediate, 100% vesting of all accrued benefits. Explanation Following termination of a qualified plan, all accrued benefits must be 100% immediately vested. Plan termination may or may not be the result of financial distress and therefore bankruptcy will not necessarily follow. Determination letters are not required following plan termination. LO 6-4

Which one of these statements is correct regarding the CFP Board Code and Standards?

A) The standards mirror the vacated DOL fiduciary standard and apply only to retirement investors B) The standards require all CFP professionals to be fiduciaries under all circumstances. =C) The standards require CFP professionals to act as fiduciaries when providing "financial advice." D) The standards only apply to CFP professionals who are financial planners or carrying out material elements of financial planning. Explanation Under the CFP Board Code and Standards, CFP professionals will be required to act as a fiduciary when providing any sort of financial advice even if it is limited in scope. LO 1-2

Which one of the following statements describes a disadvantage to an employee of a profit sharing plan?

A) This type of plan ranks low in motivating employees. B) The employer assumes the investment risk. =C) The employer is not required to contribute and might not make regular contributions, thereby decreasing the potential accumulations of participants. D) The employer must have profit to make any contribution. Explanation A profit sharing plan's chief disadvantage to participants is the flexibility the employer has in making contributions. The contributions made may not be sufficient to accumulate the amount necessary to yield the retirement income needed. LO 3-1

Northwest Instruments Corp. made matching contributions to its SIMPLE 401(k) in the last three years. Assume all eligible employees earn at least the maximum includible compensation limit and all defer the maximum amount allowed. Due to extensive capital expenses anticipated this year, the company is considering how to reduce expenses. The company will not be able to continue to make the 3% matching contribution and has called you to discuss their options. Which of the following could you recommend?

A) With SIMPLE 401(k) plans, employers who begin using the 3% matching contribution do not have any option available to modify the company's contribution. B) Since they have satisfied the 3% matching contribution for three years, Northwest Instruments Corp. could reduce the matching contribution to 1%. C) Employer contributions under a SIMPLE plan are "discretionary," and Northwest Instruments Corp. could provide notice that they will not provide any contribution this year. =D) By providing adequate notice, Northwest Instruments Corp. could move to the 2% nonelective contribution this year, although the savings would be minimal. Explanation Under a SIMPLE 401(k), an employer does not have the option to change the percentage used for the matching contribution. However, the employer can use the 2% nonelective contribution instead of the 3% matching contribution. Under the scenario described, however, the savings would be minimal. LO 4-1

Which one of the following is a statutory exception to the rules governing prohibited transactions?

A) an interest-free loan made to a qualified plan by an employer-plan sponsor =B) a loan to an employee stock ownership plan by a disqualified person when the loan is primarily for the benefit of participants and beneficiaries and bears a reasonable rate of interest C) an employer contribution of real estate subject to a mortgage to a qualified profit sharing plan and the plan assumes liability for the mortgage D) the acquisition by a money purchase pension plan of employer securities equal to 15% of the value of the plan's assets Explanation The law permits loans to an employee stock ownership plan by a disqualified person when the loan is primarily for the benefit of participants and beneficiaries and bears a reasonable rate of interest. Hence, this is a statutory exception to the prohibited transaction rules. The Department of Labor (DOL) has issued a class exemption covering interest-free loans made to qualified plans by their sponsoring employers. If a plan, such as a money purchase pension plan, is not an eligible individual account plan, the acquisition or sale of qualifying employer securities may still be permitted by ERISA if the acquisition and holding is no more than 10% of the value of plan assets. If an employer contributes real estate subject to a mortgage to a qualified profit sharing plan and the plan assumes liability for the mortgage, a prohibited transaction will result. Authority issued by DOL provides that in-kind contributions of unencumbered property to a profit sharing plan are not prohibited transactions if, by the terms of the plan, they are funded solely at the discretion of the employer and the employer is not otherwise obligated to make a contribution measured in terms of cash. However, this is regulatory authority and is not a statutory exception to the rules governing prohibited transactions. LO 1-2

Sandy Williams has been employed by Poynter Corporation for 40 years and is a 4% owner of the company. She is a participant in the corporation's profit sharing plan, will celebrate her 70th birthday on July 3 of this year, and plans to retire in four more years. Which of the following correctly describes the date by which Sandy must start taking distributions from her profit sharing account?

A) by April 1 of this year =B) by April 1 of the year following the year she retires C) by the date she attains age 72 D) by December 31 of this year Explanation Distributions from qualified plans, IRAs, SEPs, SIMPLE IRAs, TSAs, and other retirement accounts must begin by a certain date. This rule does not apply to Roth IRAs. For IRAs, SEPs, SIMPLE IRAs, and more than 5% owners of a business with a qualified plan, that date is April 1 of the year following the year in which the participant attains age 72. However, distributions from qualified plans, 403(b) plans, and 457 plans to individuals who are not 5% owners (such as Sandy Williams) must begin by April 1 of the year following the later of the year the participant attains age 72, or the year in which the participant retires. LO 7-3

All of the following would be considered an administrative nonfiduciary function under ERISA except

A) collecting and applying contributions. B) applying eligibility rules to participation or benefits. C) preparing drafts of government filings. =D) taking action to enforce or interpret terms of the plan. Explanation Taking action to enforce or interpret terms of a qualified plan would be a fiduciary function that requires taking into account the best interests of the plan participant(s). All of the other choices would be administrative functions. LO 1-2

The fiduciary duty of care specifically requires

A) consulting with other experts as needed. B) keeping current on applicable tax laws and regulations. =C) having the necessary competence to provide fiduciary advice. D) disclosing material conflicts of interest. Explanation The duty of care requires the fiduciary to have the competency and knowledge to give fiduciary advice. Disclosing material conflicts of interest falls under the fiduciary duty to disclose. Consulting with other experts as needed is the fiduciary duty to consult, and keeping up to date on applicable laws and regulations is the fiduciary duty to keep current. LO 1-2

One of the primary purposes of an investment policy is to

A) identify the securities to be included in the portfolio. B) separate the role of the client and the investment professional. C) project market returns for the portfolio. =D) provide a basis for review. Explanation The two purposes of an investment policy are (1) to provide a foundation on which the client's portfolio is constructed and (2) to provide a basis for review of and adaptation to changing conditions. LO 1-2

Smythe Corporation's profit sharing plan automatically distributes a terminated participant's plan benefit worth less than $5,000. In the past, the plan has purchased a certificate of deposit for participants that could not be located. According to the Department of Labor, which one of the following methods should be used for handling a missing participant's profit sharing plan benefits worth $3,000?

A) maintain the former employee's account in the plan until the employee has been located B) forfeit the participant's entire account balance, assuming the plan provides a method to reinstate the benefits if the individual subsequently claims them =C) establish an IRA and roll over the missing participant's plan benefits into that account D) escheatment of the participant's assets to the state where the individual was last domiciled Explanation Employers who (according to the terms of the plan) involuntarily distribute a missing (or other) terminated participant's accrued benefit worth more than $1,000 but not exceeding $5,000 must automatically roll over such amounts into an IRA. Although some authorities suggest escheat as a potential solution for dealing with a missing participant's profit sharing plan assets that exceed $5,000, it is the Department of Labor's position that state escheat laws are preempted by ERISA, a federal law. The other method mentioned for dealing with a missing participant's profit sharing plan assets that exceed $5,000 is sometimes used. LO 7-5

Under ERISA rules, advisers are considered to be fiduciaries if they

A) meet any of the five tests of fiduciary responsibility. B) meet three out of the five tests of fiduciary responsibility. C) disclose in writing that they are a fiduciary. =D) meet all five tests of fiduciary responsibility. Explanation Under ERISA, advisers have to meet all five tests to be held to a fiduciary standard. LO 1-3

The required beginning date for required minimum distributions is April 1 of the calendar year following the later of the calendar year in which the employee (1) attains age 72, or (2) retires. This rule pertains to all but which one of the following?

A) qualified plan B) 457 plans C) 403(b) plans =D) IRAs Explanation Distributions from an IRA must commence by April 1 of the year following the calendar year in which the individual attains age 72. Whether or not the individual retires is irrelevant. Participants with a qualified plan, 403(b) plan, or 457 plan can defer RMD until the later of age 72 or termination of employment. LO 7-3

Which of the following represents a personal objective of a business owner considering adoption of a retirement plan?

A) reward key employees B) recruit and/or retain employees C) reduce the income taxes paid by the corporation =D) estate planning considerations Explanation Personal objectives of a business owner would include maximizing tax benefits for the owner, maximizing retirement benefits or income for the owner, and providing estate liquidity. LO 5-1

Which of the following objectives of a business owner are best served through a cash balance plan?

A) share business ownership with employees B) promote employee savings C) provide employer with discretion in funding =D) recruiting and motivating employees Explanation An employer who places high priority on recruiting new employees, motivating employees, and ease in communications may be a candidate for a cash balance plan. LO 4-4

You are working with John Stewart in designing a SEP plan that will take permitted disparity into account (Social Security integration). Assume that the total FICA tax is 15.3%, with the employer and employee each paying 7.65% of compensation below the wage base. If John uses a 7% base contribution, what will the maximum permitted disparity be?

A) the 6.2% portion of FICA that is not applied to health insurance B) the 7.65% FICA tax =C) the 5.7% portion of FICA D) the 7% base contribution Explanation The permitted disparity cannot exceed the lesser of the base contribution or greater of either the Social Security tax on employees used for old-age insurance (6.2%) or 5.7%. With FICA at 7.65% for the employer, 7.65% for the employee, 1.45% is for health insurance, 0.5% is for disability, and 5.7% is for old-age insurance. LO 2-1

Which one of the following qualifies to offer a 403(b) plan to its employees?

A) trade association B) chamber of commerce =C) private school D) agricultural or horticultural organization Explanation Organizations described in Internal Revenue Code Section 501(c)(3) that qualify to offer a 403(b) plan to their employees include those that operate exclusively for religious, charitable, scientific, public safety-testing, literacy, and educational purposes. As a general rule, nonprofit schools (like a private school) are operated as IRC Section 501(c)(3) organizations and may offer 403(b) plans. Some tax-exempt organizations are not 501(c)(3) organizations; hence, they cannot offer 403(b) plans. The following are a few examples of tax-exempt organizations that cannot offer 403(b) plans: civic leagues; labor, agricultural, or horticultural organizations; business leagues, chambers of commerce, trade associations; recreational clubs; and fraternal associations. LO 3-3

Participant-directed defined contribution plans should educate their employee account-holders

A) upon separation of service B) because it is harder to get highly compensated employees to contribute than rank-and-file employees C) on how to save for retirement when they also want to save for college D) on how to pay for college Explanation Saving for retirement is an educational topic for mid-career employees. Highly compensated employees tend to contribute more than rank-and-file employees. Employers do not need to educate their employees on how to pay for college or after they are no longer employees. LO 7-1