Chapter 7: Qualified Plans
In a defined contribution plan
The contribution is known and the benefit is unknown
Qualified plans are designed for
Benefits of employees and must use a benefit or contribution formula not discriminating in favor of the prohibited group (officers, stockholders, or highly paid employees) AND they have a vesting requirement. These plans must be permanent, written and binding, and communicated to employees.
Only qualified plan NOT for retirement
529 College Fund
Funds moved from a Traditional IRA into a ROTH are
Taxable income in the year of the move
All of the following would be different between qualified and nonqualified retirements plans except
Taxation on accumulation
ROTH and 259 are
Not taxable distributions - All other qualified plans are taxable
Has less than 25 employees
SEP
How are contributions to a tax-sheltered annuity treated with regards to taxation?
They are not included as income for the employee, but are taxable upon distribution
Penalty free withdrawals of $5000 to defray costs of having or adopting a child
401(k)
Can allow for higher contributions than a SIMPLE plan in most instances
SEP
457 Deferred Compensation Plan
Plan for government employees except federal employees (thrift plans) or members of Congress
Start-up and ongoing cost very low
- SIMPLE - SEP
Similarities between Roth and Traditional IRA
- Contribution maximums - 6% penalty for over/excess contributions
Traditional IRA - Distributions
1. Distributions cannot begin before age 59 ½; 2. Early distributions are assessed 10% penalty - EXCEPTIONS: a. Down payment on 1st home b. College education c. Severe medical expenses of the annuitant d. Death of annuitant - {distributions to non-spouse beneficiaries must be made within 10 years. "Stretching" the RMD from an inherited account over your own lifetime has been eliminated.}
In Traditional IRA distributions are Ordinary Income and are
100% taxable - The Secure Act changed this to age 72 for those turning 70.5 in the year 2020 and after
Allows employees to take a reduction in their current salaries by deferring amounts into a retirement plan
401(k)
Employers get a maximum tax credit of $500 per year if they create a
401(k) plan with automatic enrollment
Earnings are not subject to Federal Tax and are usually not subject to state tax
529 College Fund
Employer can decide whether to make contribution year-to-year
SEP
Maximum contribution (lesser of 25% of salary or IRS dollar limit changeable each year)
SEP
Employees elect to defer part of their salaries into an IRA account [there are maximum limits, and it could also be set up as a §401(k) plan
SIMPLE
Mandatory company match (generally 3%) every year
SIMPLE
529 College Fund Benefits
- Federal tax benefits - State tax benefits - Donor retains control of funds - Low maintenance - Simplified tax reporting - Flexible - Substantial deposits allowed - Gift and estate tax benefits
Lifetime maximum* contributions (and be careful of gift tax limits) (*currently $520k in New York)
529 College Fund
Differences between Roth and Traditional IRA
- Contributions are NOT tax deductible - Distributions are received tax free as long as after age 59 ½ and ROTH in existence for at least 5 years - No 70 ½ rule (72 beginning in year 2020) - No 10% early distribution penalty (could be penalty on earnings/interest withdrawn in first 5 years)
Qualified Plans
Are annuities used to accumulate money for later use that are IRS sanctioned. They provide tax breaks for plan's participants. ERISA, (Employee Retirement Income Security Act/Agency) is the Federal Agency that sets plan requirements.
A traditional IRA is an individual retirement account that allows individuals to
Direct pretax income, up to specific annual limits, towards investments that can grow tax deferred (no capital gains or dividend income is taxed)
To receive full benefit, employee must be
Fully vested (Death Benefit Plan/Define Contribution Plan)
Traditional IRA contributions
Into plan are tax deductible
Completely funded by the company via a uniform contribution rate - no employee salary deferrals
SEP - BUT: employee can still contribute to their own separate IRA account
An overall limit on contributions of employee and employer combined
SIMPLE
Cannot have more than 100 employees
SIMPLE
Types of Qualified Plans
1. Individual - Traditional IRA - ROTH IRA 2. Self-employed or Business Owners (not for independent contractors) - KEOGH/HR-10 Plan 3. Small Businesses - SIMPLE: Savings Incentive Match Plan for Emplyees - SEP: Simplified Employee Pension 4. Corporations - Defined benefit plan - Defined contribution plan 5. 401K Plan 6. Specialized Plans - 403(b) Tax Sheltered Annuity - 457 = Deferred Compensation Plan - 529 = College Fund
KEOGH/HR-10 Plan
- A tax deferred pension plan available to self employed individuals or unincorporated biz for determined purposes - Can be a defined benefit or defined contribution plan although most are defined contribution (fund retirement with pretax dollars) - Contributions into plan are tax deductible - Contribution maximum is up to 100% of annual profits or IRS dollar limit - To contribute: a. Must work at least 1000 hours / year -or- b . Own at least 10% of the business.
Defined Contribution Plan
- Plan is described by what employer promises to put into retirement plan - Profit sharing plan / 401(k) plan - These plans favor younger employees.
Contributions are State tax deductible ($5,000/$10,000 single/married filing jointly)
529 College Fund
Under a defined benefit retirement plan, who determines what benefits a retired employee will receive?
Employer
An employer has sponsored a qualified retirement plan for its employees where the employer will contribute money whenever a profit is realized. What is this called?
Profit sharing plan
Must be the only retirement plan company has
SIMPLE
Roth IRA
Tax break later - The money you deposit has already been taxed. You pay no taxes when you make withdrawals after age 59 1/2
Traditional IRA
Tax break now - You get your tax break up front and pay no taxes on the money you put in until you withdraw it - 6% penalty for over/excess contribution - Distributions must begin before age 70 1/2 - RMD = Required Minimum Distribution
Distributions used for college received
Tax free
Defined Benefit Plan
- Employer sets up plan - This employee retirement plan is described by what employee will receive when they retire as long as they qualify - These plans favor older employee - Uses IRS formulas to calculate the rate of contributions
403(b) Tax Sheltered Annuities
- Retirement plan for employees of non-profits and schools - Usually employees must pay Social Security and Medicare tax on their contributions - Contributions are excluded from employee's current income
Employee is 100% vested IMMEDIATELY
- SIMPLE - SEP
No annual filings with the IRS
- SIMPLE - SEP
Very little paperwork to start and easy to administer
- SIMPLE - SEP
Under a SIMPLE plan, which of the following is TRUE regarding taxation on both contributions and earnings?
They are tax deferred until withdrawn
Traditional IRA contribution maximums
You may continue contributing beyond age 70 ½ as long as you have earned income (beginning 2020