RETIREMENT PLANNING: Ch5. Profit Sharing Plans
What are the features of a Qualified Automatic Contribution Arrangement (QACA)?
- Automatic Deferrals - Matching or nonelective contributions - notice to employees
Which ways can employees contribute to a 401(k) and their applicable deferral contribution limits?
- Traditional elective deferrals - Contribution to a ROTH account
What is the income tax impact of 401(k) employee deferral contributions?
- no fed or state tax, but still subject to payroll (medicare tax)
401(k) Vesting
-all contributions and earnings are 100% vested.
What is the max annual percentage contribution to a profit sharing plan considering the covered compensation limit?
25%
Define "profit sharing plan" as a per Treasury Regulation 1.401-1(b)
A profit sharing plan is a plan established and maintained by an employer to provide for the participation in profits by employees or their beneficiaries. It is primarily a plan of deferred compensation and thus tax deferral.
When must the employer deposit employee deferral contributions into the 401(k) plan?
As early as possible but no later than the 15th of each month.
How can profit sharing plan contributions be used with the 401(k) plan?
Because the 401k plan consists of a CODA attached to a profit sharing plan/stock bonus plan, employers may also make a contribution to the profit sharing plan. These contributions, or "nonelective employer contributions" don't count against the plan limit of 25%
List the advantages for employees to have a 401(k).
Benefit to employer: - minimal expense - no annual contribution requirement - owner employees may participate Benefit to employee: - tax deferral - self-directed investments - shelter current income from taxation
What are the general characteristics of cash or deferred arrangement? "CODA"
CODA, or 401(k): - employees can defer a portion of their salary on a pretax basis to the qualified plan, thereby reducing their current income tax liability - distbn's are taxed, as this is a tax deferral acct
When is the deadline for establishing and funding a profit sharing plan?
Contributions can be made to the plan as late as the due date of the company's income tax return.
What are the permissible employer contributions necessary to comply with safe harbor status?
Employer must match 100% of first 3% of employee elective deferrals and 50% of employee elective deferrals greater than 3% up to 5%.
True/False Permitted disparity is a method of allocating plan contributions that allows the employer to make contributions only to highly compensated individuals because they do not receive Social Security.
False. It just means employer gives them a larger contribution than lower paid employees.
TRUE/FALSE An employer is not required to deposit the employee's 401(k) plan deferral contribution until the 15th day of the month following the deferral.
False. It must be as soon as responsibly possible, or up until the 15th.
What are the vesting schedules available for profit sharing plans?
PSP vesting rules are the same as for defined contribution plans. A standard 3-year cliff or 2-6 year graduated vesting applies.
Identify key differences between pension and profit sharing plans
Pensions pay a pension at retirement, whereas profit-sharing plans defer compensation and thus are a tax deferral strategy. Pension plans have mandatory funding standards, whereas PSP's don't. PP's can only be invested up to 10% in employer securities, whereas under PSP's you can be >100%. PP's don't allow in-service withdrawals, but PSP's do.
What are matching contributions and their allowed vesting schedules?
The employer can match up to $52K (so, an employee can contribute $17.5k and employer can add incentives to contribute an additional $32.5k) and those contributions must be fully vested as either a 3-year or 2-6year vesting schedule.
TRUE/FALSE The employee 401(k) is indexed for inflation after 2006.
True
True/False All eligible employees are included in the calculations for the ADP test including those employees who elect not to defer.
True
Describe how entrance days work for 401k plans.
Usually 2 waiting periods six months or less after eligibility starts - can jump in on the nearest one.
What are the eligibility rules for 401ks?
- 21 years of age - with one year (1000 hours) given - unless 2 years service, but then fully vested after those 2 years
True/False New comparability plans are safe, flexible plans that allow the employer to allocate all benefits to the owner(s).
False. New Comparability Plans is a profit sharing plan where contributions are made to an employee's account based on their respective classification in the company, but not all the benefits go to the owner (just the largest percentage does).
True/False An employee can contribute the maximum deferral limit of $17.5k to the 401k pretax acct and another $17.5k to the Roth account if both accts are available in the plan?
False. One or the other.
True/False A pension plan can be funded using 100% employer securities.
False. only up to 10% with a pension plan.
True/False If a CODA plan fails the aADP test, the plan will be terminated.
False
True/False The pre-PPA 2006 safe harbor provisions require that a 401k plan use top-heavy vesting schedules to avoid calculating the ADP test.
False
True/False A tax-exempt organization cannot establish a 401k plan.
False.
True/False Hardship withdrawals are available if there is an immediate and heavy financial burden even if the participant has other assets available to satisfy the need.
False.
True/False Matching contributions vest at either a 2-6year or 5-year cliff vesting schedule.
False.
True/False A distribution from a 401k plan is not available until the plan participant either retires or dies.
False.
True/False A profit sharing plan is a plan established and maintained by an employer to provide participation in the profits of the company solely for officers and shareholders.
False. For all employees.
How can forfeitures be used in plan contributions?
Forfeitures (amounts not vested in someone's plan if/when they leave) can reduce future plan contributions or be reallocated to the remaining participant's accounts.
What are the requirements for a 401(k) plan to offer a Roth Account?
In order to offer a Roth Acct... contributions under a qualified cash or deferred arrangement must be: 1) designated irrevocably by the employee at time of election 2) treated by employer as includible in employee's gross income at the time the employee would have received the contribution amount 3) maintained the plan in a separate account
TRUE/FALSE A negative election is an election the employee can make that states they want to participate in the plan.
True
TRUE/FALSE Employee deferral contributions to 401(k) plans are subject to payroll taxes at the time of contribution.
True
True/False The elective deferrals of the HCE may be limited based on teh elective deferrals of the NHCE.
True
True/False A hardship distribution can be taken from a 401k plan for an amount equal to the employee's total elective contribution less the value of any previous hardship distributions.
True.
True/False Age-based profit sharing plans use both age and compensation as the basis for allocating contributions to employee accounts.
True.
True/False Profit sharing plans must be established by the end of the tax year for which the employer wants to make contributions, and contributions must be made by the due date of the income tax return including extensions.
True.
True/False A catch-up contribution can allow an eligible employee to defer more than the annual additions limit of $52k for 2014.
True. $5.5k more, to be exact.
TRUE/FALSE As a maximum, an individual over 50 years old can defer $23K in 2014 to a 401(k) plan.
True.
What are the uses of the catch-up contribution rules and the limits on catch-up contributions?
- Catch-up Contributions: if 50+ years, you can increase your deferral limit up to $5,500 - making your annual contribution limit $23K ($17.5K + 5.5K) - So, if over 50+ and maxing to deferral limit, along with employer match up to $52K, you could effectively be contributing up to $57.5K
What remedies are available if a company fails the ADP test?
- Corrective distributions (reduce deferrals of HC's by distributing those excess funds back to HC's) - recharacterization - qualified nonelective contributions (QNEC) - qualified matching contributions (QMC)
Under what circumstances may individuals take distributions from their 401k plan?
- the retirement, death or separation of service of the participant - the termination of the plan without the establishment of another plan - certain acquisitions of the company or company assets - turning age 59.5
What are the methods available for allocating contributions and their main characteristics?
1) Allocate based on a percentage of each employee's compensation 2) "Offset or Excess Method" which allows higher paid employees to receive a greater share allocation, so as to offset the fact that the lower wage earners will receive more in social security. -- similar to Permitted Disparity or Social Security Integration 3) New Comparability Plans 4) Integrated (Permitted Disparity) 5) Age-Weighted plans (age & compensation)
What are the safe harbor rules?
A 401k plan that satisfies a minimum contribution or matching test and allows the plan sponsor to bypass the ADP test, the ACP test and top-heavy tests. To bypass the tests, employers must provide a min contribution at the beginning of the plan year that is 100% vested (up to 3% of compensation).
What are the ADP tests and how are they calculated?
Actual Deferral Percentage (ADP) tests limits employee elective deferrals for HC employees based on the elective deferrals of non-HC employees. Test 1: Cannot have HC deferral percentage mroe than 1.25 times the total of all other NHC employees Test 2: HC deferral percentage / NHC deferral percentage does not exceed 2% test. CALCULATED: 1 - divide everyone into HC and NHC groups 2 - calculate the actual elective deferral ratio (ADR) for each of the eligible employees by dividing the ADR by employees compensation ($15,000 ADR / $150,000 compensation = 10%) 3 - Compare all of then to determine if the plan complies with either the 1.25 test or 200%/2% test.
What is "Hardship Distributions"?
Distributions for specific hardships that must be limited to the max distribution amount (employee's total elective deferral contributions as of the date of distbn - "minus" amount of previous distributions of elective contributions. - medical care - purchase of a new home, excluding mortgage payments - payments necessary to avoid eviction
Which type of entities may establish a 401(k) plan?
Employers such as corporations, partnerships, LLCs, proprietorships and tax exempt entities like 501(c)(3)'s.
What are the eligibility requirements for profit sharing plans?
PSP's are subject to standard eligibility rules of other qualified plans. So, standard eligible age is 21 and one year of service.
When are distributions allowed from profit sharing plans?
PSP's dont' usually allow distbns except upon termination, hardship, disability or retirement, however if you complete 2yrs of service in the plan you may be eligible for early distbns.
What is a DBk retirement plan?
This is the combo of a 401k plan and defined benefit plan. Employers who offer both plans may consider a DBk to reduce plan cost and paperwork, so long as that employer employs 2-500 people.
What is a TSP plan?
Thrift Savings Plan is a retirement savings and investment plan for Federal employees and members of uniformed services. - Employee contributions are same as 401k limit $17.5k - Agency contributions is 1% the employee's annual pay - Employee deferrals are also matched up to 3% and pay 50% of deferrals between 3-5%. Matching is always fully vested. Deferral limit $17.5K or $23k if above 50. Contribution limit still $52k
Why would an employer want to elect to convert a 401k plan to a safe harbor status?
To bypass ADP/ACP/Top-heavy tests and rules.
Employers can establish 401k plans with minimal expense.
True.
Governmental entities cannot establish 401k plans today.
True.
