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52 Cards in this Set
- Front
- Back
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Retirement Plans
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• Legal structures to accumulate employer and
employee money for retirement • Wide variety of financial products, including annuities, may be used to fund retirement plans |
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Nonqualified Plans pt.1
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• Do not meet requirements set by federal law in
order to be qualified • Not eligible for favorable tax treatment – Contributions are not tax deductible – Interest and earnings may be taxed annually even if not withdrawn or may accumulate tax deferred depending on the investment vehicle |
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Nonqualified Plans pt. 2
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• Taxation of nonqualified plans
– Upon distribution, the part of the distribution considered cost basis (taxes already taken out prior to contribution) is not taxable; the part considered earnings is taxable at the individual’s current income tax bracket – Distributions taken before age 59 ½ are subject to taxation and 10% penalty for early withdrawal • Some hardship withdrawals are permitted without penalty but are still taxed as ordinary income |
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Qualified Plans pt. 1
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• Do meet certain requirements of the Internal
Revenue Code with respect to participation, funding, benefits, vesting, etc. – Employer-sponsored qualified plans must meet the federal law requirements of the Employee Retirement Income Security Act (ERISA) • Are eligible for favorable tax treatment – Contributions by employer are tax-deductible expense to the business – Employee contributions are usually pre-tax or tax deductible |
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Qualified Plans pt. 2
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• Are eligible for favorable tax treatment
(continued) – Generally not currently taxable to the employee • Not taxable to employees until withdrawn from the plan – Allowed to accumulate in the plan on a tax-deferred basis – Distribution typically done at retirement, meaning taxation generally under special, advantageous rules for retirees |
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Qualified Plans pt.3
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• Taxation of qualified plans
– Distributions consisting of qualified contributions (no taxes taken out prior to contribution) and all earnings will be taxed at the individual’s current income tax bracket – If nonqualified contributions involved (taxes already taken out prior to contribution), only the part of the distribution considered to be earnings will be taxed • Nonqualified contribution example: a contribution to an individual’s IRA account where due to circumstances (participation in an employer’s qualified plan and/or income level) the contribution was allowable but not deductible to the individual |
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Qualified Plans pt. 4
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• Taxation of qualified plans (continued)
– Distributions taken before age 59 ½ are subject to taxation and 10% penalty for early withdrawal • Some hardship withdrawals are permitted without penalty, but are still taxed as ordinary income • Within the qualified category are two kinds of overall plans – Defined benefit plans – Defined contribution plans |
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Defined Benefit Plan pt.1
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• Offers benefits that are determined using a
definite complicated formula • Plan specifies amount of benefit to be received at retirement – Typically a specified percentage of pre-retirement income – Contributions to defined benefit plans must be made in amounts that fund the benefits promised to plan participants • Employer’s responsibility to see this is accomplished |
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Defined Benefit Plan pt.2
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Funding for defined benefit plans can be
provided through either a group deferred annuity or an individual deferred annuity, and other ways as well – Group deferred annuity • Employer holds a master contract and certificates of participation are given to the persons covered by the plan • Specified amounts of deferred annuity are purchased each year in order to provide a specified retirement income to an employee |
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Defined Benefit Plan pt. 3
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• Funding for defined benefit plans (continued)
– Individual deferred annuity • Individual deferred annuities taken out on each plan participant • Premium rate is determined individually, on the basis of attained age and sex • Premiums are level to retirement unless an employee’s compensation changes and an increase in retirement benefits is warranted – When this situation occurs, an additional annuity contract is purchased to fund the increase in the retirement benefit level • Example: defined benefit pension plan |
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Defined Contribution Plan
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• Focuses on the contributions made to the plan,
not the benefits the plan will pay out • Benefit not predetermined and unknown – Will depend on how much is contributed and the performance of the investment |
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Profit-Sharing Plans pt. 1
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• Form of defined contribution plan
• Established and maintained by an employer primarily to provide for the participation in the business’ profits by its employees • Must provide a definite, predetermined formula for allocating all contributions made to the plan among all plan participants |
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Profit-Sharing Plans pt. 2
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• Amount of annual contributions may vary—
flexible contributions – Based on company profits – Contributions may be skipped in years with no profit • Contributions held in trust • When employee retires or leaves under other circumstances, the contributions that have been allocated to that employee, plus all earnings on them, are distributed to the employee |
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Money-purchase Plan pt. 1
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• One of simpler forms of defined contribution
plans • Employer makes a fixed contribution to the plan each year • Contributions allocated among the plan participant’s accounts • At retirement, employee receives whatever benefit may be purchased with the money in the employee’s plan account |
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Money-purchase Plan pt. 2
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• A money-purchase plan must meet three
requirements – Contributions and earnings must be allocated to participants in accordance with a definite formula – Distributions can be made only in accordance with amounts credited to participants – Plan assets must be valued at least once a year, adjusting participants’ accounts accordingly |
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401(k) Plans pt. 1
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• Is a cash or deferred arrangement (CODA)
– A modified profit-sharing or pension plan • Called a 401(k) plan after section of IRC code that authorizes it • Term CODA refers to two different methods by which an employee can defer a portion of his pay into a 401(k) plan – All or part of a cash bonus may be deferred into the plan on a pretax basis – Percentage of salary can be deferred into the plan on a pretax basis |
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401(k) Plans pt. 2
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• Employee contributes pretax to her own
retirement • Employer may match part of employee contribution • Maximum contribution limits apply, as well as a catch-up provision • Growth and earnings accumulate tax deferred • Qualified contributions and all earnings upon distribution are taxable at current income tax bracket |
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401(k) Plans pt. 3
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• Early withdrawal penalties apply
• Some hardship withdrawals are permitted without penalty but are still taxed as ordinary income |
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Individual Retirement Accounts
and Annuities |
• Offered by the government as an incentive to
individuals to plan for their own retirements |
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Traditional IRA pt. 1
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• Based on earned income
• Individual can contribute up to age 70 • Investment earnings and interest grow tax deferred |
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Traditional IRA pt. 2
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• Contribution limits
– The lesser of 100% of earned income up to $5,000 for 2008 – Individuals age 50 and up may make an additional $1,000 catch-up contribution – Spouses without earned income also eligible for a spousal IRA • Subject to same contribution limits • Married couple must file a joint tax return • Must set up separate IRAs – Contribution limits set to increase in future |
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Traditional IRA pt. 3
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• Contributions may be fully deductible, partially
deductible, or not deductible, depending upon – The individual’s, or the individual’s spouse if filing jointly, participation in an employer sponsored retirement plan – The individual’s, or married couple filing jointly, adjusted gross income |
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Traditional IRA pt. 4
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• Withdrawals/distributions
– Nonqualified contributions not taxed – Qualified contributions and all earnings taxed as income at current tax bracket – If done before age 59 ½ , 10% early withdrawal penalty applies • Some hardship withdrawals are permitted without penalty but are still taxed as ordinary income – Hardship withdrawals may include death, disability, qualified education costs, first home buyer, and certain medical expenses – Must begin by age 70 ½ or 50% penalty applies |
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Roth IRAs pt. 1
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• Based on earned income
• No contribution age limits apply • Income limitation does apply – Eligibility to contribute phases out at specified income levels • If eligible, contribution limits same as with traditional IRA |
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Roth IRAs pt. 2
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• Earnings grow tax deferred and not taxable
upon withdrawal as long as – Account has been in existence minimum of five years – Not withdrawn before age 59 ½ • Withdrawals do not have to begin by age 70 ½ |
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Savings Incentive Match Plan for
Employees (SIMPLE) pt. 1 |
• Designed for certain smaller employers
• To be eligible to establish a SIMPLE, a business must – Employ no more than 100 employees who earned more than $5,000 the preceding year – Have no other qualified plan • Can take form of either an employer-established IRA or a 401(k) plan |
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Savings Incentive Match Plan for
Employees (SIMPLE) pt. 2 |
• Contributions
– Under either form, employees may elect to make contributions of a percentage of their compensation up to $10,500 (for 2008) – Individuals age 50 and over can also make catch-up provisions of $2,500 (for 2008) – Contributions not included in employee’s taxable income but are subject to employment tax – Employers must contribute by either • Matching employee’s contributions up to 3% of employee’s income |
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Savings Incentive Match Plan for
Employees (SIMPLE) pt. 3 |
– Employers must contribute by either (continued)
• Contributing 2% of compensation to the account of each eligible employee who has earned at least $5,000 that year – Under IRA format, employers who elect to match contributions may, in some years, reduce matching percentage to as low as 1%, but may not reduce matching percentage below 3% for more than two years in any five year period • Option to reduce matching percentage not available under 401(k) format |
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Savings Incentive Match Plan for
Employees (SIMPLE) pt. 4 |
– Employer contributions are deductible from the
employer’s income, excludable from the employee’s income, and not subject to employment tax – Employees must be immediately 100% vested in all contributions – Distributions • Generally taxed like distributions from regular IRAs • 10% penalty tax applies to withdrawals made before age 59½ – Some hardship withdrawals are permitted without penalty but are still taxed as ordinary income • 25% penalty tax applies to withdrawals made from a SIMPLE within its first two years |
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Simplified Employee Pensions (SEPs) pt. 1
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• Employer sponsored IRAs
• IRA established for each eligible employee – Age 21 or older – Worked for employer for at least three of last five years – Received at least a specified compensation in current year eligible • Employer makes contributions to the eligible employee’s account – Contributions excludable from employee’s gross income |
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Simplified Employee Pensions (SEPs) pt. 2
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• Maximum contribution lesser of 25% of earned
income up to a specified amount • Maximum contribution deductible by employer is 25% of total compensation paid to all participating employees • Very administrative friendly as compared to other plans |
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Keogh Plans (HR-10) pt. 1
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• For self-employed persons and their employees
– Sole proprietors, partnerships, non-incorporated • Employers make tax-deductible contributions (maximum limitations apply) on behalf of themselves and their employees • Employers must include all full-time employees – Full-time defined as at least 21 years of age and has completed one year or more of continuous full-time employment (1,000 hours or more) |
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Keogh Plans (HR-10) pt. 2
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• Growth is tax deferred
• Withdrawals taxed as income • Standard early withdrawal penalties apply |
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Tax-Sheltered Annuity (TSA)
or (403(b)) Plans pt 1 |
• For employees of qualified IRC Sec. 403(b) (tax
exempt) organizations – Eligible persons include employees of public schools and employees of non-profit, tax-exempt 501(c)(3) organizations |
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Tax-Sheltered Annuity (TSA)
or (403(b)) Plans pt 2 |
• A tax sheltered annuity involves tax deferral and
a salary reduction (not a deduction) – Before-tax (pre-tax) dollars are subtracted from the individual’s gross income by way of a salary reduction and deposited into an annuity – Since individual’s salary has been reduced, his tax liability is also reduced – Growth and earnings accumulate on a tax deferred basis |
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Tax-Sheltered Annuity (TSA)
or (403(b)) Plans pt. 3 |
• Maximum contribution limits apply, as well as a
catch-up provision • Withdrawals are fully taxable as current income • Early withdrawal penalties apply • Some hardship withdrawals are permitted without penalty but are still taxed as ordinary income |
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Plan Distributions pt. 1
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• As a rule, funds from a qualified retirement plan
or IRA may be distributed at any age when employment is terminated, the plan is terminated, or the employee retires • If the distribution is considered to be premature (i.e., made before age 59½), a 10% penalty tax is generally applied to the distribution in addition to the regular income tax due – Exception to this penalty being certain allowable hardship withdrawals |
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Plan Distributions pt. 2
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There is also an age limit when distributions
from a qualified plan or an IRA must begin – Must begin no later than April 1 of the year following the calendar year in which the participant reaches age 70½ – Minimum amount that must be distributed each year is set by regulation – Failure to comply with this distribution requirement is a nondeductible excise tax equal to 50% of the amount by which the minimum amount required to be distributed exceeds the amount actually distributed – An exception to this withdrawal requirement is the Roth IRA |
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Plan Distributions pt. 3
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• For Social Security, an actuarial reduction in
benefits is made for those who retire before their normal retirement age • For defined benefit plans, if a participant retires before he has participated in that plan for 10 years, the maximum benefit to which he is entitled must be further reduced by 10% for each year his number of years of plan participation at retirement is less than 10 |
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Incidental Limitations pt. 1
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• On a conditional basis, life insurance may be
purchased with contributions to (or accumulations in) some types of qualified plans • When allowable, IRS imposes certain limits on the purchase of insurance as part of a qualified plan – These incidental limitations designed to ensure the death benefit of life insurance coverage purchased under a qualified plan is incidental to the other benefits provided by the plan |
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Incidental Limitations pt. 2
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• When allowable, IRS imposes certain limits on
the purchase of insurance as part of a qualified plan (continued) – In a defined benefit plan, the face value cannot exceed 100 times the monthly pension benefit – With a defined contribution plan, when an ordinary life policy is used, 50% of the plan contribution is the limit – With universal life, the formula stipulates 25% |
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Taxation of Plan Benefits pt. 1
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• Tax treatment of funds paid to plan participants
at retirement – Only funds that escape taxation at distribution are those that have already been taxed • Applicable funds from plans that allow participants to make voluntary, after-tax contributions – These funds not taxed at distribution |
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Taxation of Plan Benefits pt. 2
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• Tax treatment of funds (continued)
– Distributions made in the form of installments may be made partially income tax free • Portion of each payment that represents money already taxed to the recipient, if any, is excluded from gross income • Remainder taxed as ordinary income in the recipient’s tax bracket |
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Taxation of Plan Benefits pt. 3
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• Tax treatment of funds (continued)
– Lump-sum distributions of plan benefits upon a participant’s death are considered income in respect of a decedent • Generally subject to income tax when received by the estate or other beneficiaries • Less any amount the plan participant contributed using after-tax dollars • Itemized deduction may be available to the beneficiary for any federal estate taxes paid on income in respect of a decedent, even if beneficiary not the one who paid the estate tax |
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Taxation of Plan Benefits pt.4
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• Tax treatment of funds (continued)
– Tax treatment of benefits received as annuity installments by beneficiaries after plan participant’s death usually treated like those received by the participant • A portion of payments may be income tax free if participant made contributions to plan with after-tax dollars |
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Rollover pt. 1
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Occurs when money in an IRA or other qualified
retirement plan is transferred to a different IRA or other qualified retirement plan through the recipient (funds in the recipient’s control) • Rollovers between IRAs may be made only once within a 12-month period |
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Rollover pt.2
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• From date funds are withdrawn from old IRA,
IRA owner has 60 days to make the deposit to the new IRA – Any funds not rolled over within that 60-day period become taxable to the extent they consist of deductible contributions and earnings on any contribution – Premature distribution penalties will also apply |
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Rollover pt. 3
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• For rollovers involving employer sponsored
plans, if plan participant takes a lump-sum distribution, the plan administrator will withhold 20% of the amount withdrawn • Qualified plan distributions following a participant’s death subject a surviving spousebeneficiary to same rollover rules to which original participant would have been subject |
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Transfers
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• Occurs when money in an IRA (or other qualified
retirement plan) is transferred directly to a different IRA (or other qualified retirement plan) – Transfer takes place directly between custodians of the applicable accounts – Funds never in the recipient’s control • For transfers involving employer sponsored plans, 20% withholding rate does not apply (due to funds never being in recipient’s control) • No tax or penalty apply • No limit on number of transfers |
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The Employee Retirement Income
Security Act (ERISA) pt.1 |
• Enacted to protect the interests of participants in
employee benefit plans as well as the interests of the participants’ beneficiaries – Deals with qualified pension plans, plus some sections apply to group insurance plans • Fiduciary responsibility – Anyone with control over plan management or plan assets of any kind must discharge that fiduciary duty solely in the interests of the plan participants and their beneficiaries – Strict penalties imposed on those who do not fulfill this responsibility |
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The Employee Retirement Income
Security Act (ERISA) pt. 2 |
• Reporting and disclosure
– Certain information concerning any employee welfare benefit plan, including group insurance plans, must be made available to plan participants, their beneficiaries, the Department of Labor, and the IRS |
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The Employee Retirement Income
Security Act (ERISA) pt. 3 |
• Reporting and disclosure (continued)
– Examples of required distributed information include • Summary plan description to each plan participant and the Department of Labor – Including any material modifications that details changes in any plan description • An annual return or report submitted to the IRS • Summary annual report to each plan participant • Any terminal report to the IRS – Imposes severe monetary penalties imposed for failure to comply – For severe situations, civil and criminal action could apply |
