Chapter 19

1. Chapter 19

2. Deferred Compensation • Favorable tax consequences include: • Deferral of taxes on amounts contributed to retirement plans until the individual retires or receives a distribution from the plan. • An immediate deduction (FOR AGI) for contributions to qualified retirement plans. • Deferral of taxation on income earned by retirement plan assets.

3. Qualified Pension and Profit-Sharing Plans • Qualified Plans • Must be non-discriminatory and benefit employees exclusively • Must meet vesting and funding requirements,. • Tax Benefits • Employer: receives an immediate tax deduction for pension and profit-sharing contributions made on behalf of employees. • Not taxed on either employer or employee contributions or earnings of plan assets until the funds are withdrawn at retirement.

4. Qualified Pension and Profit-Sharing Plans--Continued • Pension Plans • Systematic and definite payments are made to a pension trust • May provide incidental benefits such as disability, death, or medical insurance benefits. • May be non-contributory (employer only) or contributory (voluntary employee contributions that supplement those made by the employer) • May be either defined benefit or defined contribution plans.

5. Qualified Pension and Profit-Sharing Plans--Continued • Defined Benefit Plans • Establish a contribution formula based on actuarial techniques. • Forfeitures of un-invested amounts must be used to reduce the employer contributions that would otherwise be made under the plan. • Review Concept Summary 19-1, Page 19-6

6. Qualified Pension and Profit Sharing Plans--Continued • Defined contribution plan • Separate account for each participant • Forfeitures of un-reinvested amounts may be either reallocated to other participants or used to reduce employer contributions. • Fixed amounts contributed based on a specific formula. • Benefits are based on the total value of a participant’s account at time of retirement. • Stock bonus plan is a special kind of defined contribution plan. • Investments are the employer company’s stock. • Contributions to trust in stock or in cash. • Similar requirements to profit-sharing plans • ESOP’s allow employer a dividends paid deduction

7. Qualified Pension and Profit-Sharing Plans--Continued • Profit-Sharing Plans Distinguishing Features • Definite pre-determined formula to allocate employer contribution. • Annual contributions not required, but substantial recurring contributions must be made. • Employees may be given the option to receive cash or employer contribution. • Forfeitures reallocated to remaining participants. • Lump sum payments based oh vesting schedule. • Incidental benefits are available.

8. § 401(k) Plans • Participants can receive up; to $ 13,000 cash or have a contribution made on their behalf to a profit sharing or stock bonus plan. • Plan contributions are pretax, 100% vested • Catch up provisions for participants who are ≥ 50 years of age

9. DeferredCompensation Arrangements • Limitations on Employer Contributions • Defined contribution plans--for 2004 < $41,000 or 100% of the employee’s compensation An overall maximum deduction of 20% (25%before adjustment) of employee compensation. • An overall maximum deduction of 20% (25%before adjustment) of employee compensation. • Defined benefit plans< $ 165,000 for 2003 or 100% of the participant’s average compensation for the highest three years is the maximum benefit • Non Qualified Plans • Un-funded, nonrefundable promise to pay fixed amounts of compensation in future periods. • Restricted property plans (usually employer stock) subject to a substantial risk of forfeiture.

10. Deferred Compensation Arrangements • Simple Retirement Plans • Savings incentive match plan • Can be adopted by employers who have 100 or fewer employees who received at least a$ 5,000 in compensation from the employer during the preceding year. • May be an IRA or a § 401(k) plan • Employees can contribute up to $9,000 for 2004; employers match.

11. Deferred Compensation Arrangements • Plans for Self-employed individuals • Keogh (HR 10) Plans • Subject to same contribution and benefit limitations as other qualified corporate plans • An employee covered under a qualified pension or profit sharing plan can establish a Keogh plan for self employment income. • For 2004 may contribute the smaller of $ 41,000 or 100% of earned income. • Plan must be established before the end of the tax year but contributions may be made to the due date (including extensions).

12. Deferred Compensation Arrangements • Traditional IRA • Deduction for AGI for contribution—maximum for 2004 of $ 3,000 or 100% of compensation • Income on IRA investments is not subject to taxation • Individuals who are active participants in an employer-sponsored retirement plan must have an AGI  $ 45,000 (S,HH) or $ 65,000 (MFJ), $10,000 phase out range for the deduction. • Non deductible contribution of $ 3,000 is available to taxpayers above the limits. • Two special rules for married couples; • Non working spouse can contribute up to $ 3,000 • If one spouse is covered and other is not, there is a $ 10,000 phase out range for AGI > $150,000

13. Deferred Compensation Arrangements • Traditional IRA’s • May be a recipient of a rollover from another qualified plan, including another IRA. Such a distribution from a qualified plan is not included in gross income if it is transferred within 60 days of receipt. • An IRA plan may be established between the end of the tax year and the due date of the return (not including extensions). Any deductible contributions made during this time are treated as a deduction for the prior year.

14. Deferred Compensation Arrangements • Traditional IRA’s—Continued • Distributions from a traditional IRA are taxed under the annuity rules of § 72. Normally distributions from an IRA are fully subject to taxation. • Withdrawals by a participant before age 59 ½ are both fully includable income and subject to a 10% penalty. Exceptions to the penalty are available for death, disability, certain lump sum distributions, qualified higher education costs, and $ 10,000 for first time home buyer.

15. Deferred Compensation Arrangements • Traditional IRA’s—Continued • Withdrawals must begin no later than April 1 of the year following the year the taxpayer reaches age 70 ½. • A non-deductible penalty is levied on excess contributions to an IRA.

16. Deferred Compensation Arrangements • Roth IRA’s • Contributions are non-deductible • Maximum contribution < $ 3,000 ($ 6,000 spousal IRA’s) or 100% of earned income. • Contributions must be made by the due date (excluding extensions) of the return • Taxpayer can make withdrawals after an initial five year holding period if any of the following requirements are met: • Distribution made on or after participant attains 59 ½ • Distribution made at death to a beneficiary • Participant becomes disabled • Participant is a first time home buyer ($10,000 limit) • Return of capital from Roth IRA is not taxable, distributions first from capital, then income. Income tax free >59 1/2 • AGI phase out rules apply beginning at $ 95,000 (S,HH) and $ 150,000 MFJ

17. Deferred Compensation Arrangements • Simplified Employee Pension Plans • Employer may contribute to an IRA covering an employee an amount equal to < of $ 41,000 or 25% of each qualified employees earned income. • Plan must be established by extension due date. • Contributions may be made by extension due date. • Subject to many of the same restrictions as qualified plans. • $ 13,000 statutory limit for employee contributions, with catch up features. • Review Concept Summary 19-3, Page 19-24.