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CFP Review > Retirement Planning & Employee Benefits > Flashcards

Retirement Planning & Employee Benefits Flashcards

1
Q

Important Numbers for 2021

  • Covered Compensation
  • Defined Benefit Maximum Limit
  • Defined Contribution Maximum Limit
  • 401(k), SARSEP, 457, 403(b) Employee Deferral Limit
  • Highly Compensated Employee
  • Key Employee
  • Social Security Wage Base
A

EXAM: These are provided on the exam tables

Important Numbers for 2021

  • Covered Compensation - $290,000
  • Defined Benefit Maximum Limit - $230,000
  • Defined Contribution Maximum Limit - $58,000
  • 401(k), SARSEP, 457, 403(b) Employee Deferral Limit - $19,500
  • Highly Compensated Employee - $130,000
  • Key Employee Officer - greater than $185,000
  • Social Security Wage Base - $142,800
  • Key Employee 1% Ownership - $150,000 (this number not provided on exam tables)
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2
Q

What are the (4) Pension Plan Types?

A

Defined Benefit Pension Plans:
Defined Benefit Pension Plans
Cash Balance Pension Plans

Defined Contribution Pension Plans:
Money Purchase Pension Plans
Target Benefit Pension Plans

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3
Q

What are the (7) Profit Sharing Plan Types?

A

Defined Contribution Profit Sharing Plans:
Profit Sharing Plans
Stock Bonus Plans
Employee Stock Ownership Plans (ESOP)
401(k) Plans
Thrift Plans
New Comparability Plans
Age-Based Profit Sharing Plans

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4
Q

Pension Plans vs. Profit-Sharing Plans

  • Legal Promise of the Plan
  • Are in-service withdrawals permitted?
  • Is the plan subject to mandatory funding standards?
  • Percent of plan assets allowed to be invested in employer securities
  • Must the plan provide qualified joint and survivor annuity and a qualified pre-survivor annuity?
A

Pension Plans

  • Legal Promise of the Plan - Paying a pension at retirement
  • Are in-service withdrawals permitted? - No*
  • Is the plan subject to mandatory funding standards? - Yes**
  • Percent of plan assets allowed to be invested in employer securities - 10%
  • Must the plan provide qualified joint and survivor annuity and a qualified pre-survivor annuity? - Yes

Profit-Sharing Plans

  • Legal Promise of the Plan - Deferral of compensation and taxation
  • Are in-service withdrawals permitted? - Yes (after two years) if plan document permits
  • Is the plan subject to mandatory funding standards? - No
  • Percent of plan assets allowed to be invested in employer securities - Up to 100%
  • Must the plan provide qualified joint and survivor annuity and a qualified pre-survivor annuity? - No
  • * Under the Pension Protection Act of 2006, defined benefit pension plans can provide for in-service distributions to participants who are age 59 1/2 or older.*
  • ** For plan years beginning in 2008, the funding rules under IRC Section 412 have been amended by the Pension Protection Act of 2006.*
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5
Q

Defined Benefit vs. Defined Contribution Plans

  • What is the annual employer contribution limit?
  • Who assumes the investment risk?
  • How are forfeitures allocated?
A

Defined Benefit Plans

  • What is the annual employer contribution limit? - Not less than the unfunded current liability
  • Who assumes the investment risk? - Employer
  • How are forfeitures allocated? - Reduce plan costs

Defined Contribution Plans

  • What is the annual employer deductible contribution limit? - 25% of covered compensation
  • Who assumes the investment risk? - Employee
  • How are forfeitures allocated? - Reduce plan costs or allocate to other participants
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6
Q

Defined Benefit vs. Defined Contribution Plans (continued)

  • Is the plan subject to Pension Benefit Guaranty Corporation (PBGC) coverage?
  • Does the plan have separate investment accounts?
  • Can credit be given for prior service for the purpose of benefits?
A

Defined Benefit Plans

  • Is the plan subject to Pension Benefit Guaranty Corporation (PBGC) coverage? - Yes (except professional firms with less than 25 employees)*
  • Does the plan have separate investment accounts? - No, they are commingled
  • Can credit be given for prior service for the purpose of benefits? - Yes

Defined Contribution Plans

  • Is the plan subject to Pension Benefit Guaranty Corporation (PBGC) coverage? - No
  • Does the plan have separate investment accounts? - Yes, they are usually separate
  • Can credit be given for prior service for the purpose of benefits? - No

*ERISA Section 4021, 29 U.S.C. Section 1321.

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7
Q

How are payroll taxes treated regarding plan contributions?

A
  • Employers and employees are exempt from payroll taxes on contributions to a qualified retirement plan, providing up to a 15.3 percent (12.4 percent OASDI and 2.9 percent Medicare tax) savings on taxes for employer contributions into a qualified plan.
  • This payroll tax exclusion does not apply to employee elective deferrals to retirement plans such as 401(k), 403(b), SIMPLEs, SARSEPs, and 457 plans.
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8
Q

What are the standard eligibility requirements for qualified plans?

A

An employee is considered eligible to participate in the plan after completing a period of service that extends beyond the later of either the employee’s attaining age 21 or the completion of one year of service (defined as a 12 month period in which the employee works at least 1,000 hours).

For tax years beginning after December 31, 2020, long-term, part-time employees can make elective deferrals if:
Employee worked at least 500 hours per year for 3 consecutive years and is age 21 by the end of the three consecutive years. Periods prior to January 1st, 2021 will not count towards the 3 consecutive years. The long-term part-time employees eligible will be able to make their first contribution in 2024.

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9
Q

What is the standard exception to the special eligibility rules?

A
  • As an exception to the eligibility rule, a qualified retirement plan may require that an employee complete two years of service to be eligible for participation in the qualified retirement plan.
  • If the employer elects this special exception for its qualified retirement plan, then plan participants are immediately vested in their accrued benefit or account balance upon completion of two years of service. This exception is not available to 401(k)s.
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10
Q

Characteristics of highly compensated employees

A

Owner Employees

Either an owner of > 5%* for current or prior plan year (owner plus attribution)
OR
Compensation in excess of $130,000 for 2021** for prior plan year

Nonowner Employees

Compensation in excess of $130,000 for 2021** for prior plan year

  • * 5% ownership may include ownership by spouse, children, grandchil­dren, or parents (attribution rules).*
  • ** If special employer election is made, add “and in top 20% of employees ranked by salary.”*
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11
Q

What is the Defined Benefit 50/40 Test?

A
  • The 50/40 coverage test requires the defined benefit plan to benefit the lesser of 50 nonexcludable (eligible) employees or 40 percent of all nonexcludable (eligible) employees on each day of the plan year.

**To remember that it’s 50 employees or 40%, remember “people come first”.

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12
Q

Characteristics of a Key Employee

A
  • A key (decision-makers as opposed to just highly paid) employee is any employee who is any one or more of the following:
    • A greater than five percent owner, or
    • A greater than one percent owner with compensation in excess of $150,000 (not indexed), or
    • An officer with compensation in excess of $185,000 for 2021.
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13
Q

Characteristics and Requirements of a Top Heavy Defined Benefit Plan

  • Definition
  • Funding
  • Vesting
A

Characteristics and Requirements of a Top Heavy Defined Benefit Plan

  • Definition - More than 60% of the total accrued benefits of the defined benefit plan are for the benefit of key employees.
  • Funding - Must be at least 2% x years of service x compensation factor.
  • Vesting - The plan participant’s benefits must vest at least as rapidly as a 2 to 6 year graduated vesting schedule or a 3-year cliff vesting schedule.
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14
Q

Characteristics and Requirements of a Top Heavy Defined Contribution Plan

  • Definition
  • Funding
  • Vesting
A

Characteristics and Requirements of a Top Heavy Defined Contribution Plan

  • Definition - More than 60% of the total account balances of the defined contribution plan are for the benefit of key employees.
  • Funding - 3% minimum to all eligible employees or less if less provided to the key employees.
  • Vesting - The plan participant’s benefits must vest at least as rapidly as a 2 to 6 year graduated vesting schedule or a 3-year cliff vesting schedule.
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15
Q

Defined Benefit Maximum Plan Limitations

A

Covered Compensation

$290,000 for 2021

Maximum Benefit

Lesser of:

  • $230,000 for 2021 or
  • Average of 3 highest consecutive years of compensation
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16
Q

Defined Contribution Maximum Plan Limitations

A

Covered Compensation

$290,000 for 2021

Maximum Benefit

Lesser of:

  • 100% of compensation or
  • $58,000 for 2021 (not including catch-up provision of $6,500 for those 50 and older) Total plus catch up would be $64,500.

Defined Contribution Limit (415c) coordinated as follows:

Employer Contributions
+
Employee Contributions
+
Plan Forfeitures
———————————————–
= Lesser of $58K or 100% of Compensation (this is known as the 415c limit)

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17
Q

What does CODA stand for?

A

Cash or deferred arrangement

Qualified plans that include a CODA, such as a 401(k) plan.

The CODA allows a salary deferral component (employees make contributions pre-tax) up to $19,500 (2021) or an additional $6,500 catch up if over age 50).

The CODA attaches to a PSP (profit sharing plan) or SBP (stock bonus plan). The PSP/SBP component allows the ER to contribute up to the maximum defined contribution limit of $58K (2021).

If EE salary defers $19,500, ER could contribute up to $38,500 ($58K-$19.5K=$38.5K)

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18
Q

What is the 25 Percent Test?

A
  • The 25 percent test consists of two tests, a 25 percent test and a 50 percent test. The test used depends upon the type of life insurance provided by the plan.
  • If a term insurance or universal life insurance policy is purchased within the qualified plan, the aggregate premiums paid for the life insurance policy cannot exceed 25 percent of the employer’s aggregate contributions to the participant’s account.
  • If a whole life insurance policy is purchased within a qualified plan, the aggregate premiums paid for the whole life insurance policy cannot exceed 50 percent of the employer’s aggregate contributions to the participant’s account.
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19
Q

Characteristics of the Pension Benefit Guaranty Corporation (PBGC Insurance)

A
  • The plan sponsors of defined benefit pensions plans pay premiums for insurance coverage designed to pay the “promised pension” in the event the plan is underfunded or unfunded.
  • The PBGC pays only a limited retirement benefit ($6,034.09 per month or $72,409.08 per year (2021) in the event of a plan completely or partially terminating with an unfunded or underfunded liability.
  • The PBGC does NOT insure defined contribution pension or profit sharing plans, AND it does not insure defined benefit pension plans of professional service corporations with 25 or fewer participants.
  • The PBGC does insure all other defined benefit plans and covered plans are required to pay a flat-rate, per participant premium.
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20
Q

Characteristics of Defined Benefit Pension Plans

  • Actuary (Annually)
  • Investment Risk Borne by
  • Treatment of Forfeitures
  • PBGC Insurance
  • Credit for Prior Service
  • Social Security Integration
  • Separate Investment Accounts
  • Favors Younger/Older
A

Characteristics of Defined Benefit Pension Plans

  • Actuary (Annually) - Yes
  • Investment Risk Borne by - Employer
  • Treatment of Forfeitures - Must reduce plan costs
  • PBGC Insurance - Yes
  • Credit for Prior Service - Yes
  • Social Security Integration - Offset or excess
  • Separate Investment Accounts - No, commingled
  • Favors Younger/Older - Older
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21
Q

Characteristics of Defined Contribution Pension Plans

  • Actuary (Annually)
  • Investment Risk Borne by
  • Treatment of Forfeitures
  • PBGC Insurance
  • Credit for Prior Service
  • Social Security Integration
  • Separate Investment Accounts
  • Favors Younger/Older
A

Characteristics of Defined Contribution Pension Plans

  • Actuary (Annually) - No (except target benefit at inception)
  • Investment Risk Borne by - Employee
  • Treatment of Forfeitures - Reduce plan costs or allocate to other plan participants
  • PBGC Insurance - No
  • Credit for Prior Service - No
  • Social Security Integration - Excess only
  • Separate Investment Accounts - Yes, separate (usually)
  • Favors Younger/Older - Younger
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22
Q

Characteristics of a Pension Plan

  • Legal Promise of the Plan
  • Are in-service withdrawals permitted?
  • Is the plan subject to mandatory funding standards?
  • Percent of plan assets allowed to be invested in employer securities
  • Employer annual contribution limit of covered compensation
A

Characteristics of a Pension Plan

  • Legal Promise of the Plan - Paying a pension at retirement
  • Are in-service withdrawals permitted? - No*
  • Is the plan subject to mandatory funding standards? - Yes
  • Percent of plan assets allowed to be invested in employer securities - 10%
  • Employer annual contribution limit of covered compensation - 25%**
  • * Defined benefit pension plans may allow in-service withdrawals for participants age 59 1/2 or older as a result of the PPA 2006.*
  • ** The plan must meet minimum funding standards. Defined benefit pension plans may exceed 25%.*
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23
Q

Characteristics of a Profit-Sharing Plan

  • Legal Promise of the Plan
  • Are in-service withdrawals permitted?
  • Is the plan subject to mandatory funding standards?
  • Percent of plan assets allowed to be invested in employer securities
  • Employer annual contribution limit of covered compensation
A

Characteristics of a Profit-Sharing Plan

  • Legal Promise of the Plan - Deferral of compensation and thus tax deferral
  • Are in-service withdrawals permitted? - Yes (after two years)
  • Is the plan subject to mandatory funding standards? - No
  • Percent of plan assets allowed to be invested in employer securities - 100%
  • Employer annual contribution limit of covered compensation - 25%***

*** Increased from 15 percent by the EGTRRA 2001 for years after 2001

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24
Q

Characteristics of Permitted Disparity (Social Security Integration)

A
  • Permitted disparity is a technique or method of allocating plan contributions to employees’ accounts so that a higher contributions will be made for those employees whose compensation is in excess of the Social Security wage base ($142,800).
  • P_rofit sharing plans only allow the excess method to be used_.
  • The excess rate is limited to the LESSER of twice the base rate or a difference of 5.7 percent. As a result the excess rate is generally 5.7 percent higher than the base rate.

EXAM: Know that the excess rate is generally 5.7% higher than the base rate

  • *Base Rate + Permitted Disparity = Excess Rate.**
  • *“BP = Exxon” where Permitted Disparity equals the less of the Base Rate or 5.7%**
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25
Q

List the entities which may establish a 401(k) plan.

A

Entities Which May Establish a 401(k) Plan

  • Corporations
  • Partnerships
  • LLCs
  • Proprietorships
  • Tax-exempt entities
  • *TIP: “401(k)’s are for CPP’s & LLC’s & TEE’s”**
  • *“Corps, Partners, Proprietors, LLC’s and Tax Exempt Entities”**
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26
Q

Characteristics of a Roth IRA

  • Contribution Limit
  • Catch-Up Contribution Limit
  • Income Limit
  • Conversion from a traditional IRA account allowed?
  • Available for loans?
  • Qualified Distributions (not subject to tax or penalty)
  • Distributions that are not qualified
  • Required Distributions
A

Characteristics of a Roth IRA

  • Contribution Limit - $6,000 (2021)
  • Catch-Up Contribution Limit - $1,000 (2021)
  • Income Limit - Married: $198k - $208k, Single: $125k - $140k, Married filed separately: $10,000 modified AGI (2021)
  • Conversion from a traditional IRA account allowed? - Yes
  • Available for loans? - No
  • Qualified Distributions (not subject to tax or penalty) - To be qualified, the account must be held for at least 5 years AND the distribution must be made on account of a first time home purchase, disability, death, or on or after the attainment of age 59½.
  • Distributions that are not qualified - Specific Ordering Rules: contributions first, conversions second, and earnings third
  • Required Distributions - Not subject to minimum distributions during owner’s lifetime

Note: There is no income limit to convert to a Roth.

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27
Q

Characteristics of a Roth 401(k) Account

  • Contribution Limit
  • Catch-Up Contribution Limit
  • Income Limit
  • Conversion from a traditional IRA account allowed?
  • Available for loans?
  • Qualified Distributions (not subject to tax or penalty)
  • Distributions that are not qualified
  • Required Distributions
A

Characteristics of a Roth 401(k) Account

  • Contribution Limit - $19,500 (2021)
  • Catch-Up Contribution Limit - $6,500 (2021)
  • Income Limit - No income limits. However, participant must have income for the deferral.
  • Conversion from a traditional IRA account allowed? - No
  • Available for loans? - Yes
  • Qualified Distributions (not subject to tax or penalty) - To be qualified, the account must be held for at least 5 years and the distribution must be made on account of disability, death, or on or after the attainment of age 59½.
  • Distributions that are not qualified - Distribution is determined under Section 72. Each distribution will consist of basis and earnings.
  • Required Distributions - Follows minimum distribution rules (i.e., distributions must begin by April 1 in the year following the year in which the participant reaches 72 (those 70 1/2 after 12/31/19). Those 70 1/2 by 12/31/19 follow old RMD rules.
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28
Q

What constitutes a qualified distribution from a Roth IRA?

If a distribution is NOT qualified, what are the consequences?

A

“HAD 5 YEARS”

  • *5 year holding period AND**:
  • Home purchase ($10k lifetime)
  • Age 59.5 (on or after attainment)
  • Death & Disability

Consequences are that earnings are TAXABLE. Early withdrawal penalties can be applied to CONVERIONS & EARNINGS.

Non-qualified distributions are distributed in order:

  1. Contributions (basis)
  2. Conversions (basis) + penalties
  3. Earnings (taxable) + penalties
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29
Q

Summarize various permissible levels of ADP for highly compensated employees based on contributions by non-highly compensated employees.

A

ADP Schedule

If the ADP for NHC Employees is > The Permissible ADP for HC Employees is:

NHCEs ADP is: 0% to 2% = 2 x ADP of NHCEs for HCEs

NHCEs ADP is: 2% to 8% = 2% + ADP of NHCEs for HCEs

NHCEs ADP is: 8% plus = 1.25 x ADP for NHCEs for HCEs

  • *If HCE’s Avg. ADP is over the permissible ADP (as calculated above), then the plan fails the ADP test.**
  • *See pg. 61 for example**
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30
Q

What are the 4 alternative remedies available if a plan fails the ADP or ACP tests?

A
  1. Corrective distributions - Requires a return of contributions to the highly compensated.
  2. Recharacterization - Requires excess deferrals to be recharacterized as after tax contributions.
  3. Qualified non-elective contributions (QNEC) - The employer makes a contribution to all non-highly compensated employees’ accounts.
  4. Qualified matching contributions (QMC) - The employer contributes to the non-highly compensated employees who made a contribution.
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31
Q

Requirements of the Safe Harbor Match

A

If the employer elects to use a match rather than the non-elective contribution, the standard safe harbor match formula requires the employer to match 100% of the first 3% of employee elective deferrals and 50% of employee elective deferrals contributing more, up to 5% max.

Safe Harbor plans need a plan election, not simply making the appropriate match.

Ex: Employer elects to use match vs. non-elective contribution under the Safe Harbor Provision. Employer matches using the above amounts.

  • *Employee’s elective deferral is 5%. What is the Employer Safe Harbor Match amount?**
  • *It will be 3% + 50%(2%) = 4%**
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32
Q

What are loan provisions in a 401(k) or 403(b)?

A

Loans are funds that are distributed from a qualified plan or 403(b) with the expectation of repayment

  • A plan may permit loans with a limit:
    • Lesser of 50% of vested account balance or $50,000. This amount is further reduced by the highest outstanding loan amount within the last 12 months.
    • De minimis loans, up to $10,000 can be made without adhering to the 50% limit.
  • Repayment is generally over 5 years:
    • Loans cannot be repaid early, must be paid ratably through the term
    • Loans from home mortgage may be longer than 5yrs as long as they are defined as reasonable.
    • Unpaid loans upon termination are usually treated as a distribution subject to ordinary income tax and possibly early withdrawal penalty (10%).
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33
Q

Examples of Distributions that are Allowed for CODA Type Plans

A
  • The retirement, death*, or separation of service of the participant and attainment of age 55*;
  • The termination of the plan without the establishment of another plan;
  • Certain acquisitions of the company or company assets;
  • The attainment of age 59½ by the participant*; or
  • Certain hardships.
  • Distributions on account of any of these items are taxable as ordinary income to the extent the participant does not have an adjusted basis in the 401(k) plan and may also be subject to a 10 percent penalty.

*Note: Not subject to 10% penalty.

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34
Q

Characteristics of Stock Bonus Plans

  • Plan Establishment
  • Date of Contribution
  • Type of Contributions
  • Deductible Contribution Limit
  • Valuation
  • Eligibility
  • Allocation Method
A

Characteristics of Stock Bonus Plans

  • Plan Establishment - December 31
  • Date of Contribution - Due date of tax return plus extensions
  • Type of Contributions - Generally stock
  • Deductible Contribution Limit - 25% of covered compensation
  • Valuation - Generally needed annually
  • Eligibility - Same as other Qualified Plans (age 21 and 1 year of service or 2 years with 100% vesting)
  • Allocation Method - % of compensation or formula based on age, service of classification
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35
Q

Characteristics of Stock Bonus Plans (continued)

  • Vesting
  • Portfolio Diversification
  • Voting Rights
  • Type of Distributions
  • In-Service Withdrawals
  • Loans
  • Taxation of Distributions
A

Characteristics of Stock Bonus Plans (continued)

  • Vesting - Same as other Defined Contribution Qualified Plans (3-year cliff or 2 to 6 year graduated vesting)**
  • Portfolio Diversification - No***
  • Voting Rights - Generally yes
  • Type of Distributions - Generally in stock
  • In-Service Withdrawals - May be allowed after two years
  • Loans - May be allowed (but not usually)
  • Taxation of Distributions - Lump-sum distributions will qualify for NUA treatment. Other distributions are treated as ordinary income.
  • **Effective for plan years after 2006 under the Pension Protection Act of 2006.*
  • *** Diversification may be required as a result of the PPA 2006.*
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36
Q

Characteristics of Profit Sharing Plans

  • Plan Establishment
  • Date of Contribution
  • Type of Contributions
  • Deductible Contribution Limit
  • Valuation
  • Eligibility
  • Allocation Method
A

Characteristics of Profit Sharing Plans

  • Plan Establishment - December 31
  • Date of Contribution - Due date of tax return plus extensions
  • Type of Contributions - Generally cash
  • Deductible Contribution Limit - 25% of covered compensation
  • Valuation - Generally unnecessary
  • Eligibility - Same as other Qualified Plans (age 21 and 1 year of service or 2 years with 100% vesting)
  • Allocation Method - % of compensation or formula based on age, service of classification
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37
Q

Characteristics of Profit Sharing Plans (continued)

  • Vesting
  • Portfolio Diversification
  • Voting Rights
  • Type of Distributions
  • In-Service Withdrawals
  • Loans
  • Taxation of Distributions
A

Characteristics of Profit Sharing Plans (continued)

  • Vesting - Same as other Defined Contribution Qualified Plans (3-year cliff or 2 to 6 year graduated vesting)**
  • Portfolio Diversification - Generally yes***
  • Voting Rights - Generally no
  • Type of Distributions - Generally in cash
  • In-Service Withdrawals - May be allowed after two years
  • Loans - May be allowed (but not usually)
  • Taxation of Distributions - Generally full distribution is ordinary income
  • **Effective for plan years after 2006 under the Pension Protection Act of 2006.*
  • *** Diversification may be required as a result of the PPA 2006.*
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38
Q

What are the requirements to qualify for nonrecognition of gain treatment when an owner sells all/or part of a business to an ESOP?

A
  • The ESOP must own at least 30 percent of the corporation’s stock immediately after the sale.
  • The seller or sellers must reinvest the proceeds from the sale into qualified replacement securities within 12 months after the sale and hold such securities three years.
    • Qualified replacement securities are securities in a domestic corporation, including stocks, bonds, debentures, or warrants, which receive no more than 25 percent of their income from passive investments. The qualified replacement securities can be in the form of stock in an S Corporation.
  • The corporation that establishes the ESOP must have no class of stock outstanding that is tradable on an established securities market.
  • The ESOP may not sell the stock acquired through the rollover transaction for three years.
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39
Q

Similarities and Differences between Stock Bonus Plans and ESOPs

  • Plan Establishment
  • Date of Contribution
  • Type of Contributions
  • Deductible Contribution Limit
  • Valuation
A

Stock Bonus Plans

  • Plan Establishment - December 31
  • Date of Contribution - Due date of tax return plus extensions
  • Type of Contributions - Generally stock
  • Deductible Contribution Limit - 25% of covered compensation
  • Valuation - Generally needed

ESOPs

  • Plan Establishment - December 31
  • Date of Contribution - Due date of tax return plus extensions
  • Type of Contributions - Generally stock
  • Deductible Contribution Limit - 25% of covered compensation plus interest paid on loan
  • Valuation - Generally needed plus dividends (in certain circumstances)
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40
Q

Similarities and Differences between Stock Bonus Plans and ESOPs (continued)

  • Eligibility
  • Allocation Method
  • Integration with Social Security
  • Vesting
A

Stock Bonus Plans

  • Eligibility - Same as other Qualified Plans (21 and 1 year of service or 2 years with 100% vesting)
  • Allocation Method - % of compensation or formula based on age, service of classification
  • Integration with Social Security - Yes
  • Vesting - Same as other Defined Contribution Qualified Plans (3-year cliff or 2 to 6 year graduated vesting)*

ESOPs

  • Eligibility - Same as other Qualified Plans (21 and 1 year of service or 2 years with 100% vesting)
  • Allocation Method - % of compensation or formula based on age, service of classification
  • Integration with Social Security - No
  • Vesting - Same as other Defined Contribution Qualified Plans (3-year cliff or 2 to 6 year graduated vesting)*
41
Q

Similarities and Differences between Stock Bonus Plans and ESOPs (continued)

  • Portfolio Diversification
  • Voting Rights
  • Distributions
  • In-Service Withdrawals
  • Loans
  • Taxation of Distributions
A

Stock Bonus Plans

  • Portfolio Diversification - No*
  • Voting Rights - Generally yes
  • Distributions - Generally stock
  • In-Service Withdrawals - May be allowed after two years of participation
  • Loans - May be allowed (but not usually)
  • Taxation of Distributions - Ordinary income with NUA treatment available

ESOPs

  • Portfolio Diversification - No
  • Voting Rights - Generally yes
  • Distributions - Generally stock
  • In-Service Withdrawals - May be allowed after two years of participation
  • Loans - May be allowed (but not usually)
  • Taxation of Distributions - Ordinary income with NUA treatment available

* Diversification may be required under PPA 2006.

42
Q

Characteristics of Net Unrealized Appreciation (NUA)

A
  • Taxpayers who receive a lump-sum distribution of employer securities (such as stock) may benefit using a special tax treatment on the distribution. This tax treatment allows the more favorable capital gain tax treatment instead of ordinary income tax treatment on the NUA portion of the distribution as well as a deferral of recognition of the gain on the NUA portion until the distributed employer securities are sold.
  • Net unrealized appreciation (NUA) is defined as the excess of the fair market value of the employer securities at the date of the lump-sum distribution over the cost of the employer securities at the date the securities were contributed to the qualified plan.

Fair Market Value at Date of Distribution - Value of Securities Used at the Date of the Employer Contribution = Net Unrealized Appreciation

43
Q

What are the 10% penalty exceptions for IRA’s?

A

To avoid the 10% penalty exceptions for IRA’s, remember:
What does a “BAT” say? “HIDE ME”

  • Birth or legal adoption ($5K within 12 months)
  • Age (59.5)
  • Tax Levy
  • Home purchase (first time up to $10K lifetime limit. “First” time home purchase = a home purchase in 2/5 years. Still lifetime limit)
  • Insurance (health)
  • Death and Disability
  • Education (higher)
  • Medical expenses above 7.5% AGI
  • Equal periodic payments (do not need to be separated from service)

BAT’s avoid 10% IRA penalties by saying: HIDE ME!

44
Q

For Qualified Plans to avoid the 10% penalty, they make a “MES AT DQ”

A

“Birth MES AT DQ” = 10% Penalty Exceptions for Qualified Plans

a BIRTH will make a MES AT Dairy Queen

  • Birth & legal adoption ($5K)
  • Medical expenses above 7.5 AGI
  • Equal Periodic Payments (must be separated from service in QP)
  • Separation of Service after age 55
  • Age 59.5
  • Tax Levy
  • Death & Disability
  • QDRO
45
Q

What are the exceptions to the 10% early withdrawal penalty for qualified plans?

A
  • Death
  • Attainment of age 59½
  • Disability
  • Substantially equal periodic payments (Section 72(t))
  • Medical expenses that exceed 7.5% of AGI
  • Qualified Domestic Relations Order (QDRO) – as long as share is moved to a Rollover IRA/qualified plan
  • Qualified public safety employee who separates from service after age 50
  • Attainment of age 55 and separation from service
  • Birth or Legal Adoption ($5,000 within 12 months of event)

Exam Tip: Sometimes questions will say “X individual turned 55 today and made a distribution from their plan last year. Will the be subject to the early withdrawal penalty.” Answer would be yes because the participant was not 55 last year.

46
Q

Who makes up each Beneficiary category?

Eligible Designated Beneficiary

Designated Beneficiary (non-eligible)

Non-Designated Beneficiary

A

Eligible Designated Beneficiary

  • Surviving spouse for the employee or IRA owner
  • Child of employee or IRA owner who has not reached majority
    • At age of majority becomes a designated beneficiary
  • Disabled or Chronically ill individual
  • Any other individual who is not more than ten years younger than the employee or IRA owner
    • Hint: A twin brother/sister

Designated Beneficiary (non-eligible)

  • Any individual designated as a beneficiary by the employee (not meeting the definition above)
    • Any beneficiary greater than 10 years younger.

Non-Designated Beneficiary

  • Non listed Beneficiary, Charities and some trusts.
47
Q

Beneficiary’s distribution options prior to account depletion

  • Eligible Designated Beneficiary
  • Designated Beneficiary (non-eligible)
  • Non-Designated Beneficiary
A

Options prior to account depletion*

Eligible Designated​ Beneficiary** Ex: Surviving Spouse, Child of employee/IRA owner not yet age of majority, Disabled or Chronically ill, individual who is NOT more than 10 years younger than owner (e.g. a twin)

  1. Beneficiary can receive distributions over their remaining single life expectancy.
  2. Spouse only: Rollover plan balance to their own IRA.
  3. Minor child must use Designated Beneficiary rules upon reaching the age of majority.

Designated Beneficiary (non-eligible)​ Ex: Any beneficiary greater than 10yrs younger or not meeting the definition for an Eligible Designated Beneficiary, Child who has reached the age of majority.

  1. Account balance distributed by the 10th anniversary of owner’s death

Non-Designated Beneficiary (follows pre-SECURE Act Rules) Ex: Non-listed beneficiaries, charities and some trusts

  • Before RMD - Distribute participant’s account within 5 years.
  • After RMD - Distributions must continue over the remaining distribution period of the deceased owner (uniform life table). The decedent’s remaining distribution period is reduced by one each year.
  • * In all cases, the beneficiary can take more than the minimum distribution (or faster than required).*
  • ** Upon the death of the Eligible Designated Beneficiary, the account must be distributed per the Designated Beneficiary rules.*
48
Q

What are the important numbers to remember for the Keogh Calculation for a Self-Employed individual?

A
  • 92.35% (Multiply by Net Self-Employment income = Earnings subject to tax)
  • 12.4% and 2.9% (12.4% x up to $142,800, 2.9% x all income = Self-Employment tax)
  • ½ (Net Self-Employment income minus ½ of Self-Employment tax = Adjusted Net Self-Employment Income, AKA Earned Income)
  • Maximum of 20% (Multiply by Earned Income above = Self-Employed individual’s plan contribution
49
Q

Keogh Calculation

  • Self-Employed Contribution Rate
  • Self-Employment Tax
  • Self-Employed Individual’s Contribution
A
  1. Calculate the self-employed individual’s contribution rate:
    * *REMEMBER: THE MAX RATE IS 20%**

Self-Employed Contribution Rate = Contribution Rate To Other Participants
1 + Contribution Rate to Other Participants

  1. Calculate Self-Employment Tax:

Net Self-Employment Income
Times: 92.35%
Net Earnings subject to Self Employment Tax
Times: 12.4% up to $142,800 + 2.9% on all net earnings
Equals: Self-Employment Tax

  1. Calculate the self employed individual’s contribution:

Net Self-Employment Income
Less: 50% of Self-Employment Tax
Equals: Adjusted Net Self-Employment Income (Earned Income)
Times: Self-Employed Contribution Rate
Equals: Self-Employed Individual’s Qualified Plan Contribution

50
Q

Characteristics of a disqualified person

A
  • A fiduciary of the plan.
  • A person providing services to the plan.
  • An employer, any of whose employees are covered by the plan.
  • An employee organization, any of whose members are covered by the plan.
  • Any direct or indirect owner of 50% or more of any of the following:
    • The combined voting power of all classes of stock entitled to vote, or the total value of shares of all classes of stock of a corporation that is an employer or employee organization described in (3) or (4).
    • The capital interest or profits interest of a partnership that is an employer or employee organization described in (3) or (4).
    • The beneficial interest of a trust or unincorporated enterprise that is an employer or an employee organization described in (3) or (4).
  • A member of the family of any individual described in (1), (2), (3), or (5). (A member of a family is the spouse, ancestor, lineal descendant, or any spouse of a lineal descendant.
51
Q

Examples of prohibited transactions

A
  • Transfer of plan income or assets to, use of them by, or for the benefit of a disqualified person.
  • Self dealing by a fiduciary.
  • Receipt of consideration by a fiduciary for his own account when working with a party dealing with the plan (e.g. attorney, accountant).
  • Selling, exchanging, leasing, buying as well as lending or borrowing between a disqualified person and the plan.
52
Q

The Catch-Up (Over Age 50) amounts for IRA’s:

  • Traditional IRAs
  • Roth IRAs
  • SEPs
  • SARSEPs
  • SIMPLE
A
  • Traditional IRA - $1,000
  • Roth IRA - $1,000
  • SEP – N/A
  • SARSEP - $6,500
  • SIMPLE - $3,000
53
Q

Examples of Earned Income

A
  • W-2 income
  • Schedule C net income
  • K-1 income from an LLC (SE income)
  • K-1 income from a partnership where the partner is a material participant (general partner)
  • Alimony payments from divorces finalized and not modified by 12/31/2018
54
Q

Examples of Unearned Income

A
  • Earnings and profits from property, such as rental income, interest income, and dividend income
  • Capital gains
  • Pension and annuity income
  • Deferred compensation received (compensation payments postponed from a past year)
  • Income from a partnership for which you do not provide services that are a material income producing factor
  • Any amounts excluded from income, such as foreign income and housing costs
  • Unemployment benefits
  • Investment returns as a limited partner in a partnership
  • Income flowing from an S-corporation via Schedule K-1
  • Social Security benefits
  • Worker’s compensation
  • Alimony received from divorces finalized or modified after 12/31/2018
55
Q

Summarize the deductibility phaseouts of an IRA contribution for:

  • Non Active Participant
  • Active Participant
  • One Spouse is an Active Participant and One is Not
A

Taxpayer (and spouse) are NOT active participant(s):

  • No AGI phase out limit

Taxpayer IS/ARE active participant(s):

  • $66,000 to $75,000 single
  • $105,000 - $125,000 MFJ

One spouse is active. Non-active spouse uses:

  • $198,000 - $208,000
56
Q

Similarities and Differences between Traditional IRAs and Roth IRAs:

  • Earned Income
  • Contributions
  • Deductions
  • Investment Choices
  • Minimum Distribution Rules
  • Prohibited Transactions
A

Traditional IRA VS. Roth IRA

  • *Earned Income** YES YES
  • *Contributions** YES YES
  • *Deductions** YES NO
  • *Investment Choices** YES YES
  • *RMD Rules** YES NO (UNLESS: Bene Roth IRA)
  • *Prohibited Transactions** YES YES
57
Q

Requirements for a Qualified Distribution from a Roth IRA

A
  • A qualified distribution is a distribution from a Roth IRA that satisfies both of the following tests:
  1. The distribution must be made after a five-taxable-year period.
  2. The distribution satisfies one of the following four requirements (triggers):
    • Made on or after the date on which the owner attains the age 59½;
    • Made to a beneficiary or estate of the owner on or after the date of the owner’s death;
    • Is attributable to the owner being disabled; or
    • For first time home purchase (lifetime cap of $10,000 for first time homebuyers includes taxpayer, spouse, child, or grandchild who has not owned a house for at least 2 years).
58
Q

What is the tax treatment and penalties of the following distributions from a Roth IRA?

  • Contributions
  • Conversions
  • Earnings
A

Contributions
Subject to taxation? - No

Subject to 10% penalty? - No

Conversions

Subject to taxation? - No

Subject to 10% penalty? - Yes or No*
No if conversion was OVER 5 years ago OR No if distribution meets 10% penalty exception

Earnings

Subject to taxation? - Yes (non-qualified distribution)

Subject to 10% penalty? - Yes or No*
(No if distribution is for a 10% penalty exception)

*Penalty will not apply if the distribution falls within the 10% penalty exceptions.

59
Q

Prohibited Investments for an IRA

A
  • IRAs have a wide selection of investment choices, BUT certain types of investments are prohibited and are not allowed to be held within an IRA, mainly life insurance and collectibles.
  • If either life insurance or collectibles are purchased within an IRA, the purchase is deemed as distributions, the value of the purchase is subject to tax and/or penalty.
  • Collectibles include all of the following:
    • any work of art, antiques, metal or gems, stamps or coins, wines etc.
  • An EXCEPTION to the collectibles rule exists for certain US minted coins and bullion, such as American Gold, Silver, and Platinum Eagle coins, are permitted to be held in an IRA account (can be purchased, not transferred in). However, coins of most foreign countries, such as South African Krugerrands, are considered collectibles and are therefore not permissible investments for an IRA.
  • Note: In addition, investments in gold, silver, platinum, or palladium bullion are permitted.
  • *EXAM TIP: “IRA’s allow you to invest in Gold and Silver Precious Plating”**
  • *GOLD**
  • *SILVER**
  • *PLATINUM**
  • *PALLADIUM**
60
Q

Examples of Prohibited Transactions for an IRA

A
  • If an individual or beneficiary of an IRA engages in any of the following transactions, then the account will cease to be an IRA as of the first day of the current taxable year:
    • Selling, exchanging, or leasing of any property to an IRA;
    • Lending money to an IRA;
    • Receiving unreasonable compensation for managing an IRA;
    • Pledging an IRA as security for a loan;
    • Borrowing money from an IRA; or
    • Buying property for personal use (present or future) with IRA funds.
61
Q

List the entities that can establish SIMPLE plans.

A
  • C Corporations
  • S Corporations
  • Limited Liability Companies (LLC)
  • Partnerships
  • Proprietorships
  • Government Entities
62
Q

What are the eligibility characteristics for SIMPLEs?

A
  • Employees who earned $5,000 or more from the employer in any two preceding calendar years
  • Employees who are expected to earn $5,000 during the current calendar year
63
Q

Characteristics of SIMPLE IRA, SIMPLE 401(k), and 401(k) plans

  • Application
  • Style
  • Established by What Date
A

SIMPLE IRA

  • Application - Small employers (limit of 100 employee’s with compensation > $5,000)
  • Style - Self-reliant employee elective deferral contributions and employer match
  • Established by What Date - Generally, October 1 of the year the plan starts

SIMPLE 401(k)

  • Application - Same as SIMPLE IRA
  • Style - Self-reliant employee elective deferral contributions and employer match
  • Established by What Date - Same as SIMPLE IRA

401(k)

  • Application - Most employers
  • Style - Self-reliant employee elective deferral contributions and employer match
  • Established by What Date - By date of tax filing with extentions
64
Q

Characteristics of SIMPLE IRA, SIMPLE 401(k) and 401(k) plans

  • Ability to have Other Plans
  • Filings and Costs
  • Annual Testing
A

SIMPLE IRA

  • Ability to have Other Plans - Must not have another retirement plan
  • Filings and Costs - No annual filing requirement, minor costs
  • Annual Testing - None required if meet contribution requirements
    starts

SIMPLE 401(k)

  • Ability to have Other Plans - Same as SIMPLE IRA
  • Filings and Costs - Same as 401(k)
  • Annual Testing - None required if meet contribution requirements

401(k)

  • Ability to have Other Plans - There may be other plans
  • Filings and Costs - Annual filing required and administrative costs
  • Annual Testing - Required
65
Q

Characteristics of SIMPLE IRA, SIMPLE 401(k) and 401(k) plans

  • Vesting
  • Employee Elective Deferral Contribution Limit
  • Catch-Up Contribution for Age 50
A

SIMPLE IRA

  • Vesting - All contributions are fully vested
  • Employee Elective Deferral Contribution Limit - $13,500 for 2021
  • Catch-Up Contribution for Age 50 - $3,000 for 2021

SIMPLE 401(k)

  • Vesting - All contributions are fully vested
  • Employee Elective Deferral Contribution Limit - Same as SIMPLE IRA
  • Catch-Up Contribution for Age 50 - Same as SIMPLE IRA requirements

401(k)

  • Vesting - Vesting schedules allowed
  • Employee Elective Deferral Contribution Limit - $19,500 for 2021
  • Catch-Up Contribution for Age 50 - $6,500 for 2021
66
Q

Characteristics of SIMPLE IRA, SIMPLE 401(k) and 401(k) plans

  • Employer Contribution
  • Loans Permitted
A

SIMPLE IRA

  • Employer Contribution - The employer must generally make: A dollar-for-dollar match up to 3% of pay or a 2% nonelective contribu­tion (based on covered comp limit for nonelective contributions) for each eligible employee.
  • Loans Permitted - No

SIMPLE 401(k)

  • Employer Contribution - Same as SIMPLE IRA except for the employer-match cannot be reduced to as low as 1% for no more than 2 out of 5 years, including the year of election.
  • Covered compensation limits apply.
  • Loans Permitted - Same as 401(k)

401(k)

  • Employer Contribution - Employer may contribute
  • Loans Permitted - Yes
67
Q

What is the early withdrawal penalty for a SIMPLE plan during the 2-year period beginning on the date the employee first participated in the SIMPLE plan?

A

25% - The increased penalty is to encourage participants to save for their retirement

68
Q

Characteristics of 403(b) plans

  • Application
  • Style
  • Subject to ERISA
  • Established By What Date
  • Characteristics
  • Elective Deferral Contribution Limit
  • Available Contribution
  • Additional After-Tax Contributions Permitted
A

Characteristics of 403(b) plans for 2021

  • Application - Not-For-Profit institution (large universities)
  • Style - Self-reliance plans; employee only contributions
  • Subject to ERISA - Maybe (if organized as a qualified plan)
  • Established By What Date - End of year
  • Characteristics - Self-reliant savings plan
  • Elective Deferral Contribution Limit - $19,500 + $6,500 catch-up contribution
  • Available Contribution - $58,000 or 100% of compensation including elective deferrals
  • Additional After-Tax Contributions Permitted - Permissible by plan document
69
Q

Characteristics of 403(b) plans

  • Investment Risk
  • Investment Alternatives
  • Penalties
  • Loans Permitted
  • Rollovers
  • ERISA Protected
  • In-Service Withdrawals
  • Vesting
A

Characteristics of 403(b) plans

  • Investment Risk - Employee has investment choices and risks
  • Investment Alternatives - Limited to Insurance Annuities and Mutual Funds
  • Penalties - 10% early withdrawal (if applicable)
  • Loans Permitted - Yes (regular qualified plan rules on loans if plan permits)
  • Rollovers - Yes, to IRA, qualified plan, or other 403(b)*
  • ERISA Protected - Yes, if ERISA plan. ERISA not applicable if governmental or church TSA
  • In-Service Withdrawals - Generally no, except hardships, which are plan specific
  • Vesting - 100% at all times for contributions and earnings

* Rollovers to Roth IRAs are permitted after December 31, 2007.

70
Q

Public 457(b), Private 457(b) and 457(f) Plans

  • Eligible/Ineligible
  • Employer/Sponsors
  • Assets in Plan
  • Elective Deferral Contribution Limits
A

Public 457(b) Plans for 2021

  • Eligible/Ineligible - Eligible
  • Employer/Sponsors - Governmental Entities
  • Assets in Plan - Protected by Trust
  • Elective Deferral Contribution Limits - $19,500

Private 457(b) Plans

  • Eligible/Ineligible - Eligible
  • Employer/Sponsors - Tax-Exempt Organizations under 501(c)
  • Assets in Plan - Not Protected by Trust; Available to Employer’s Creditors
  • Elective Deferral Contribution Limits - $19,500

457(f) Plans

  • Eligible/Ineligible - Ineligible
  • Employer/Sponsors - Governmental Entities (Rare) & Tax-Exempt Entities under 501(c)
  • Assets in Plan - Not Protected by Trust; Available to Employer’s Creditors
  • Elective Deferral Contribution Limits - No Limit
71
Q

Public 457(b), Private 457(b) and 457(f) Plans

  • Age 50 and Over Catch-Up Provisions
  • 3-Year Catch-Up Provisions
  • Rollovers Permitted?
A

Public 457(b) Plans for 2021

  • Age 50 and Over Catch-Up Provisions - Yes
  • 3-Year Catch-Up Provisions - Yes, $19,500
  • Rollovers Permitted? - Permitted to 401(k), 403(b), 457(b), or IRA plans*

Private 457(b) Plans

  • Age 50 and Over Catch-Up Provisions - No
  • 3-Year Catch-Up Provisions - Yes, $19,500
  • Rollovers Permitted? - Not Permitted Unless Rolled Into Another 457(b)

457(f) Plans

  • Age 50 and Over Catch-Up Provisions - No
  • 3-Year Catch-Up Provisions - No
  • Rollovers Permitted? - Not Permitted

* Rollovers to Roth IRAs are permitted after December 31, 2007.

72
Q

Characteristics of 457 Plans

  • Application
  • Style
  • Qualified Plan
  • Established By What Date
  • Characteristics
  • Elective Deferral Contribution Limit
  • Available Employer Contribution
A

Characteristics of 457 Plans for 2021

  • Type of Plan - Nonqualified Deferred Compensation Plan
  • Application - Employees of state and local government, tax-exempt governmental agencies, and 501 entities
  • Style - Self-reliant, employee elective tax-deferred savings
  • Qualified Plan - No
  • Established By What Date - End of year
  • Characteristics - Deferred compensation plan
  • Elective Deferral Contribution Limit -

Lesser of $19,500 or 100% of compensation + $6,500 catch-up for age 50 or older (catch-up for public only)

Available Employer Contribution - Permitted, but very unusual

73
Q

Characteristics of 457 Plans

  • Additional After-Tax Contributions Permitted
  • Investment Risk
  • Investment Alternatives
  • Penalties
  • Loans Permitted
  • Rollovers
  • ERISA Protected
  • In-Service Withdrawals
A

Characteristics of 457 Plans

  • Additional After-Tax Contributions Permitted - No
  • Investment Risk - Employee selects investments and bears risk
  • Investment Alternatives - Broad
  • Penalties - 10% for early withdrawal
  • Loans Permitted - No
  • Rollovers - Public 457(b) plans may be rolled over to 457, 403(b), 401(k), or IRA plans permitting. Private 457(b) plans can only be rolled to other 457(b) plans. 457(f) plans cannot be rolled over.
  • ERISA Protected - No
  • In-Service Withdrawals - Yes
74
Q

What type of plans are offered to emloyees of public schools and tax-exempt organizations?

A

Tax-Sheltered Annuities (TSA)

Examples: 403(b)’s and some 457(b)’s

They offer tax-deferred employee payroll deduction. ​

75
Q

Characteristics of Unfunded Promise to Pay, Rabbi Trust, and Secular Trust for:

  • Funded with assets
  • Funded (for purposes of ERISA)
  • Risk of forfeiture without employer financial instability
  • Risk of forfeiture if employer is insolvent
  • When is there taxable income to the executive?
  • When is the payment deductible to employer?
  • Accomplishes the objective of deferral
A
76
Q

Incentive Stock Options (ISOs) holding period and requirements

A
  • A qualified sale requires waiting until 2 years from the date stock was granted and 1 year from the date the stock was exercised.
  • Sales prior to either holding period being met are disqualified dispositions and terminate most of the tax benefits - it effectively triggers similar treatment as a NQSO.
77
Q

Requirements for Incentive Stock Option

A
  1. ISOs can only be granted to an employee of the corporation issuing the ISOs.
  2. At the date of the ISO grant, the exercise price must be greater than or equal to the fair market value of the stock.
  3. An ISO cannot be transferred except at death.
  4. The aggregate fair market value of ISO grants must be less than or equal to $100,000 per year per executive. Any excess grant over the $100,000 is treated as a NQSO.
  5. To qualify as an ISO, the executive must not dispose of the stock within two years of the grant of the ISO or within one year of the exercise of the ISO.
  6. The executive must be an employee of the corporation continuously from the date of the grant until at least three months prior to the exercise.

Note: Item #4 above is tested occasionally and Item #5 above is tested often.

78
Q

Taxation of NQSO and ISO at:

  • Grant Date
  • Exercise
  • Taxation
A

Taxation of NQSO at:

  • Grant Date - No taxable income to holder if issued at the current or greater share price.
  • Exercise - Executive gives options and exercise price to company. Company issues stock to executive to replace option.
  • Taxation - At exercise, executive recognizes W-2 income to extent of difference between current stock price and exercise price.

Taxation of ISO at:

  • Grant Date - No taxable income to holder if issued at current or greater
    share price.
  • Exercise - Executive gives options and exercise price to company. Company issues stock to executive to replace option.
  • Taxation - At exercise, executive does not recognize any regular taxable income but will have an AMT adjustment for the appreciation over the exercise price.
79
Q

NQSO and ISO:

  • Adjusted Basis in Stock
  • Taxation When Stock is Sold
A

NQSO and ISO:

  • Adjusted Basis in Stock - Executive’s adjusted basis in stock is equal to the fair market value of stock (exercise price in cash plus the recognition of W-2 income).
  • Taxation When Stock is Sold - Capital gain or loss treatment.

NQSO and ISO:

  • Adjusted Basis in Stock - Executive’s adjusted basis in stock is equal to the exercise price.
  • Taxation When Stock is Sold - Capital gain or loss treatment.
80
Q

Qualified Transportation and Parking

A
  • The regulations provide for an exclusion of the value of qualified transportation benefits from an employee’s gross income. This exclusion for transportation benefits is subject to the following limitations:
    • $270 per month for commuter highway transportation and transit passes combined, and
    • $270 per month for 2021 for qualified parking.
  • For any given month, if the value of a benefit is more than the limit, then any excess amount above the limit, less any amount the employee paid, is included in the employee’s income. The excess may not qualify as a de minimis benefit.

Note: For years after 12/31/17 the cost of the transportation benefit is not deductible to the employer.

81
Q

Adoption Assistance Programs

A
  • An employee may exclude from their gross income amounts paid for, or expenses incurred, by the employer for qualified adoption expenses concerning the adoption of a child by an employee if these amounts are furnished according to a written adoption assistance program.
  • An employer may establish a written adoption assistance program that will pay expenses related to an adoption not exceeding $14,440 for 2021 to an employee.
  • The amount paid is excluded from the employee’s income, but it is subject to an income phaseout starting at $216,660 of adjusted gross income (AGI) for 2021.
  • Must adopt a child under the age of 18 to receive the credit.
  • Nondiscrimination requirements apply.
82
Q

Taxation of Group Disability

A
  • Premiums paid by the employer are deductible by the employer and are not included in the employee’s gross income.
  • When the employer pays the premium and the value is excluded from the employee’s gross income, any disability income benefit received by the employee is taxable to the employee.
  • If the employee pays the entire premium with after-tax income or the employer pays the premium and the employee includes the premium payment in income, any benefits received will be considered tax-exempt.
83
Q

Allowed benefits for a Cafeteria Plan

A
  • Accident and health benefits (but not medical savings accounts or long-term care insurance).
  • Adoption assistance.
  • Dependent care assistance.
  • Group term life insurance coverage (including costs that cannot be excluded from wages).
84
Q

Benefits not allowed for a Cafeteria Plan

A
  • Archer Medical Savings Accounts (see accident and health benefits).
  • Athletic facilities.
  • De minimis (minimal) benefits.
  • Educational assistance.
  • Employee discounts.
  • Lodging on employer’s business premises.
  • Meals.
  • Moving expense reimbursements.
  • No-additional-cost services.
  • Transportation benefits.
  • Tuition reduction.
  • Working condition benefits.
85
Q

The Endorsement Method of Split Dollar Insurance

A
  • Under a split-dollar life insurance plan using the endorsement method, the employer owns the life insurance policy on the employee and the employer pays the policy premium.
  • The employer withholds the right in the plan to be repaid for all of its premium either at the employee’s death or the surrender of the life insurance policy.
  • Usually any death benefit or cash surrender value in excess of the employer’s refund is paid to the policy beneficiaries.
86
Q

The Collateral Assignment Method of Split Dollar Insurance

A
  • Under a split-dollar life insurance plan using the collateral assignment method, the employee owns the life insurance policy and the employer makes a loan to the employee to pay the policy premiums.
  • In this case, at the employee’s death or at the surrender of the policy, the employer loan will be repaid and any excess will be paid to the policy beneficiaries.
87
Q

Characteristics of MSAs and HSAs

  • Established
  • Creators
  • Health Insurance Deductible
  • Maximum Out-of-Pocket
A

MSA

Established: Before 2006

Creators: Employer with less than 50 employees or Self-employed individuals

Health Insurance Deductible: Single $2,400 - $3,600; Family $4,800 - $7,150

Maximum Out-of-Pocket: Single $4,800; Family $8,750

HSA

Established: 2004 and Later

Creators: Any individual

Health Insurance Deductible: Single is at least $1,400; Family is at least $2,800

Maximum Out-of-Pocket: Single $7,000; Family $14,000

88
Q

Characteristics of MSAs and HSAs (continued)

  • Maximum Contribution
  • Catch-Up Contribution Available
  • Penalty for Nonqualified Expenditures
A

MSA

Maximum Contribution: Single is 65% of deductible; Family is 75% of deductible

Catch-up Contribution Available: No

Penalty for Nonqualified Expenditures: Ordinary income tax and 20% penalty if owner is less than 65

HSA

Maximum Contribution: Single is 100% of deductible limited to $3,600; Family is 100% of deductible limited to $7,200

Catch-up Contribution Available: Yes, $1,000 for tax year 2010 and beyond

Penalty for Nonqualified Expenditures: Ordinary income tax and 20% penalty if owner is less than 65

89
Q

Exceptions to the 10% Early Withdrawal Penalty for:

  • IRAs
  • Qualified Plans
A

Applies to Distributions From | Exception to 10% Early Withdrawal Penalty

  • Both Qualified Plans & IRAs | Death
  • Both Qualified Plans & IRAs | Attainment of age 59½
  • Both Qualified Plans & IRAs | Disability
  • Both Qualified Plans & IRAs | Substantially equal periodic payments (Section 72(t))
  • Both Qualified Plans & IRAs | Medical expenses that exceed 7.5% of AGI
  • Both Qualified Plans & IRAs | Birth or Legal Adoption
  • Only Qualified Plans | Qualified Domestic Relations Order (QDRO)
  • Only Qualified Plans | Attainment of age 55 and separation from service
  • Only Qualified Plans | Public safety employee who separates from service after age 50
  • Only IRAs | Higher education expenses
  • Only IRAs | First time home purchase (up to $10,000)
  • Only IRAs | Payment of health insurance premiums by unemployed
90
Q

What are the Minimum Distribution Rules?

A
  • The minimum distribution rules require individuals to begin taking minimum distributions when the participant attains the age of 72 (if age 70 1/2 after 12/31/19, if not remain on old rules).
    • If the funds are not distributed by the required date, a 50 percent excise tax will be levied on the participant for failure to take the required minimum distribution (RMD).
  • Minimum distributions apply to assets in a qualified plan, IRA, 403(b), SEP, SIMPLE, or 457 plan. While minimum distribution rules do not apply to Roth IRAs, they do apply to Roth accounts in a 401(k) or 403(b) plan.
  • The first distribution must be taken by April 1 of the year following the year the participant attains the age 72.
    • However, for each year thereafter, the RMD must be taken before December 31 of the tax year.
    • If the participant delays taking the first RMD until April 1 of the year following the attainment of age 72, the second RMD must still be taken by December 31 of that same year.
91
Q

What is an exception to the required Minimum Distribution Rules?

A
  • If a participant is still employed by the plan sponsor of a qualified plan upon attainment of age 72 (if age 70 1/2 after 12/31/19), the participant does not have to begin taking RMD until April 1 of the year after the participant terminates employment with the plan sponsor.
    • The exception is not available for any participant that owns more than five percent of the ownership of the plan sponsor in the year he reaches the age of 72.
92
Q

Defined Contribution Plan Vesting Schedules

A

Employers can always be more generous (vest faster) than the standard vesting plans, but not less (vest slower).

*Attach photo

93
Q

Defined Benefit Plan Vesting Schedule

A

Employers can always be more generous (vest faster) than the standard vesting plans, but not less (vest slower).

*Attach photo

94
Q

Social Security Eligibility Requirements

A

40 credits (quarters of coverage) for workers born after 1929.

To earn one credit in 2021, a worker must earn $1,470.

Maximum 4 credits earned per year.

95
Q

Social Security

Impact of Early or Late Retirement Benefits

A

Early Retirement (for exam purposes)

  • 36 months early = 20% reduction
  • 48 months early = 25% reduction
  • 60 months early = 30% reduction

Late Retirement

8% (simple interest) increase in PIA benefit for each one year delay in retirement from full retirement age up to age 70.

96
Q

Social Security

Full Retirement Ages

A

Year Born and Full Retirement age

1937 or earlier: Retirement age 65

1938 - 1942: 65 plus 2 months for each year born after 1937

1943 - 1954: Retirement age 66

1955 - 1959: 66 plus 2 months for each year born after 1954

1960 or later: Retirement age 67

97
Q

Social Security

AIME and PIA

A

AIME - A worker’s AIME is their average indexed monthly earnings.

  • it is determined by indexing the covered earnings for each year, selecting the 35 highest years, totaling those earnings and divide by 420 (35 years x 12)

PIA - The primary insurance amount is the basic unit used to determine the amount of each monthly benefit payable under social security.

  • The amount the worker will receive if they retire at full retirement age.
98
Q

Social Security

Impact of Earnings After Retirement

A

Benefits reduced by $1 for every $2 earned over $18,960 in 2021 for workers under social security full retirment age.

Benefits reduced by $1 for every $3 over $50,250 in the year the worker reaches full retirement age

No reduction in benefits regardless of income for workers at full retirement age or older.

99
Q

Ernest converted his Traditional IRA to a Roth IRA on Dec 15, 2017. He was 35 years of age at the time and had never made a contribution to a Roth IRA. The conversion was in the amount of $60,000 ($10,000 of contributions and $50,000 of earnings). Over the years he has also made $15,000 in contributions. On May 15, 2021 he withdrew the entire account balance of $100,000 to pay for a 1 year trip around the world. Which of the following statements is true?

A) $25,000 of the distribution will be subject to income tax and $85,000 of the distribution will be subject to the 10% early withdrawal penalty.

B) $25,000 of the distribution will be subject to income tax and the 10% early withdrawal penalty.

C) Some of the distribution will be taxable but the entire distribution will be subject to the 10% early withdrawal penalty.

D) None of the distribution will be taxable nor will it be subject to the 10% early withdrawal penalty.

A

Ernest converted his Traditional IRA to a Roth IRA on Dec 15, 2017. He was 35 years of age at the time and had never made a contribution to a Roth IRA. The conversion was in the amount of $60,000 ($10,000 of contributions and $50,000 of earnings). Over the years he has also made $15,000 in contributions. On May 15, 2021 he withdrew the entire account balance of $100,000 to pay for a 1 year trip around the world. Which of the following statements is true?

Solution: The correct answer is A.

Roth distributions are tax free if they are made after 5 years and because of 1)Death, 2)Disability, 3) 59.5 years of age, and 4)First time home purchase. He does not meet the five year holding period or one of the exceptions. His distribution does not received tax free treatment.

The treatment for a non-qualifying distribution allows the distributions to be made from basis first, then conversions, then earnings. His basis will be tax free.

The conversion is also tax free since we paid tax at the time of the conversion on those earnings.

The remaining earnings since establishment of the Roth are $25,000 (100,000 - $15,000 in basis - $60,000 in conversions) and will be taxed.

The 10% penalty does apply to this distribution since he does not qualify for any of the exceptions to the penalty. The contributions escapes penalty but the conversions and earnings of $85,000 are subject to the 10% early withdrawal penalty.

Remember that in order for the conversions to escape the 10% early withdrawal penalty the distribution must occur after a 5 year holding period beginning Jan 1 in the year of conversion or meet one of the 10% early withdrawal exceptions.

This may help break it down better than the rationale.

$60,000 paid tax at conversion. Subject to penalty

$15,000 in contributions no tax, no penalty

$25,000 earnings. Taxable and subject to penalty

Of the $100,000 withdrawn,

25,000 is taxable

60,000 + 25,000 = 85,000 is subject to penalty.

Answer choice b does not take the penalty into account, the account owner is under 59 ½.

CFP Review (7 decks)

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