1 copyright 2013 dedicated defined benefit services llc advantages of micro defined benefit plans a...
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1Copyright 2013 Dedicated Defined Benefit Services LLCCopyright 2013 Dedicated Defined Benefit Services LLC
Advantages of Micro Defined Benefit Plans A 2013 Tax Strategy for High Income Professionals, Small Business Owners and Self-Employed Clients
For Broker/Dealer Use Only
2Copyright 2013 Dedicated Defined Benefit Services LLC 2Copyright 2013 Dedicated Defined Benefit Services LLC
Introductions Defined Benefit Plans as an effective tax
strategy How the new micro Defined Benefit plans
are simplified and flexible The type of clients that qualify for these
plans Questions?
Agenda
3Copyright 2013 Dedicated Defined Benefit Services LLC 3Copyright 2013 Dedicated Defined Benefit Services LLC
Introductions
Principal of The Wagner Law Group
Specialist in ERISA, employee benefits and executive compensation including qualified and non-qualified retirement plans
401k Wire: 100 Most Influential Persons in the 401(k) industry
Hundreds of articles and 13 books about retirement and benefit plans
The Wall Street Journal, Financial Times, Pension & Investments, and more
Marcia S. Wagner, EsquireManaging DirectorThe Wagner Law Group
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Introductions
Karen Shapiro, CEODedicated Defined Benefit Services, LLC
Entrepreneur and business innovator in online marketing for financial services
Co-founder of Dedicated DB and a co-founder of Leaffer Shapiro
Opened more than 2,300 Micro Defined Benefit Plans
Bank of America - 18 years, SVP & Director of Online Channel Management
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Tax Increases in 2013
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How Much Can Someone Save?
Hypothetical Example: Maximum annual contribution limits in 2013 for a business owner age 52, earning $300,000 W-2 income annually, retiring in 10 years
Assumes 5-7% funding rate for Defined Benefit Plans
Defined Benefit (DB) Plans May Allow Clients to Contribute Significantly more Earned Income than other Retirement Plans
DB + 401(k)
DB
Individual 401(k)
SEP
SIMPLE $22,150
$51,000
$56,500
$173,800
$212,100
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Tax Qualified Defined Benefit Plans
Definition– “Pension plan” which also meets the qualification
requirements under IRC Section 401(a).– Private employers may adopt tax-qualified plan.
Advantages of tax-qualified retirement plans.– Immediate deduction for employer contributions.– Employees are not taxed currently.– Earnings on plan trust assets are tax-exempt.– Tax on distributions can be deferred with rollovers.– Plan assets protected from creditors.
– PBGC insurance for benefits.– High amount of deferrals.
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Defined Benefit Plans (DB Plans)
DB plan provides stated pension benefit beginning at retirement.– Normally stated in form of life annuity.
– Employer contributions are determined actuarially.
Types of DB plans– Unit Benefit Plan: benefit formula is based on years of
service (e.g., 1% of pay for each year).– Fixed Benefit Plan: fixed $ amount payable annually.– Flat Benefit Plan: % of pay payable annually.– Cash Balance Plan: benefit stated in the form of a
hypothetical account.
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Defined Benefit Plans (cont’d)
Methods for calculating pay
– Final Average Pay – pension is based on average
compensation during defined period.
– Career Average Pay – pension is based on pay earned
during employee’s entire service period.
IRS limits on pay
– Plan may not consider more than $255,000 (2013),
$260,000 (2014) of pay per year.
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Summary of Characteristics of DB Plans
Employer considerations– Commitment to contribute to plan– Fully financed by employer– Investment risk is borne by employer
Benefit considerations– DB plan can recognize past service.– Easier to provide cost of living adjustments (COLA).– May pay disability and death benefits.– Generally may not pay layoff or medical benefits.– No in-service distributions generally.– PBGC guarantee financed by employer premiums.– High HCE.
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Basic Rules for Tax-Qualified Plans
ERISA and IRC impose comprehensive set of rules for tax-qualified retirement plans.
Philosophy of tax-qualification plan rules– To receive tax benefits, plan sponsor must help
advance government’s social policies.– For example, plan must help secure retirement
of “rank and file” employees as well as management.
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Eligibility and Participation Rules
Minimum age and service conditions.– Must not exclude on account of age beyond age 21.– May require service minimum of up to 1 year
(limited exception for 2-year minimum).
No maximum age condition permitted. “1,000 hour” rule applies to minimum service. Plan entry may be delayed up to 6 months. DB plan must benefit lesser of 50 employees
or 40% of workforce. Examples of employee exclusions:
– Non-resident aliens
– Union employees– Certain employee classifications
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Coverage and Nondiscrimination Rules
Minimum coverage rules
– Opportunity for Non-Highly Compensated Employees
(NHCs) to participate in plan must be similar to HCEs.
– Must satisfy one of following: (1)
Percentage Test: Plan covers at least 70% of NHCs
(2) Ratio Test: Ratio of percentage of NHCs covered to
percentage of HCEs covered is at least 70%
(3) Average Benefit
Percentage Test: 2-prong test.
Nondiscrimination rules
– General Test compares actual benefit accruals of NHCs
against actual benefit accruals of HCEs.
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Minimum Vesting Standards
DB benefits must fully vest in 5 years or:Years of Service Vesting Percentage
Less than 3 0%
At least 3, 4, 5 or 6 20%, 40%, 60% or 80%
7 or more 100%
Special 3 year cliff vesting for cash balance plans.
Must vest upon Normal Retirement Age.
Year of service based on “1,000 hour” rule.
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Top-Heavy Rules
Purpose– Participants who are NHCs must receive minimum
benefit or contribution if plan becomes Top Heavy.
Definition of “Top-Heavy” plan.– Disproportionate amount of plan’s accrued benefits
are for the benefit of key employees.– Key employees generally include officers earning more
than $165,000 for 2013 ($170,000 for 2014) and 1% owners.
If plan is top-heavy for any year, NHCs must receive minimum benefit/contribution.– Separate minimum vesting schedule also applies.
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Special Accrual and Funding Rules for DB Plans
Benefit accrual rule for DB plans– Plan must not provide “back loaded” benefit
accruals.– Benefit must accrue ratably over employee’s
career.– After PPA, benefit can be “front loaded”
Minimum funding standard for DB plans– Designed to ensure plans are able to pay benefits
when they become due.– Requirements backed by 10% excise tax (and
100% excise tax if deficiency is not corrected).
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Limitations on Benefits
Maximum annual benefit under DB plan
− Lesser of 100% of average pay, or $205,000 (2013), $210,000 (2014)
Maximum deduction for plan contributions
− linked to funding standards — minimum required contributions always deductible
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Advantages and Disadvantages of Tax Qualified Defined Benefit Plans
Advantages– Tax benefits, including immediate deductions.– Upon termination, assets rolled to IRA
Disadvantages– Higher income or older employees earn high benefits
– Annual contributions
Examples of plans meeting business needs– To maximally benefit owners or management– To encourage long-term employment
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How Does the “Micro” DB Work for Your Client?
Actuary calculates goal (benefit in retirement), the accumulation & contributions required to reach goal
Calculation based on– Compensation, age, years to retirement, benefit formula, interest
rates, etc.– Generally, the older you are, the higher the limit– Investment performance in subsequent years
Employer contributes annually Employer should be able to maintain the plan for a
minimum of three to five years When plan is terminated, assets rolled into an IRA
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Owner–only, Sole Proprietor
Annual earnings: $450,000 Maximum DB+ 401(k) contribution for: $212,100
– Contribution to DB plan: $173,800 – Contribution to 401(k): $38,300
Annual tax savings: $80,500 – Combined marginal tax rate of 38%
Estimated DB accumulation at age 62: $2.48 MM -10 years, 5% – 7% rate of return
Annual DB benefit: $205,000
Charles, Age 52Objective: Maximum Tax Deduction
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* Business can be incorporated or unincorporated.
Who Qualifies?
OnePersonPlus® Defined Benefit Plan– Owners and immediate family
– Owners with up to 4 common-law employees*
Defined Benefit Plan + Individual 401(k)
– Owners and immediate family
– Individual 401(k) + Defined Benefit Plan can be combined to MAXIMIZE deductible contributions for owner and spouse.
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Prime Candidates
Earned Income, 1-5 employees‒ Individuals with self employment income‒ Small business owners (1-5 person) ‒ Independent Professionals ‒ Side Income (consulting, board fees, royalties, etc.)‒ Spouse income of highly-paid executive
Wants to contribute more than $50,000 or a higher percentage of compensation
Expect to contribute at least 3-5 years
Attorney Designer Sales Rep
Board Member Engineer Physician
Consultant Farmer Programmer
Contractor Financial Advisor Real Estate Agent
Dentist Insurance Agent
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Compensation Considered for Plan
Type of Business Entity Determines What Can Be Counted as Compensation in Calculating the Contribution Amounts for a Defined Benefit Plan
Compensation Quick Reference ChartEntity Type Source of Income Compensation for Plan
Corporation W-2 income W-2 income
S-Corporation W-2 + Schedule K-1 W-2 income only
Sole Proprietorship Schedule C (net profit) Earned Income (calculate)*
Partnership Schedule K-1 (net profit) Earned Income (calculate)*
Limited Liability Company (LLC) – compensation for plan depends on how LLC is taxed. See above for partnership or corporation rules.
Employees, other than owners, are paid W-2 income for all entity types.
* Earned Income = net profit minus ½ self-employment tax minus plan contribution. Deductions for sole proprietors and partners are limited to net profit minus ½ self-employment tax.
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Married Couple in Business Together, C-Corp
Paul, Age 60, Mary, Age 58Objective: Maximize Retirement Savings 5 Years from Retirement W-2 Income: $510,000 ($255,000 each) Total annual DB contribution: $412,100
$201,200 towards Paul’s Retirement
$210,900 towards Mary’s Retirement
Annual income tax savings: $156,500 Accumulation at retirement:
Paul: $1.15 Million
Mary: $1.21 Million
1. Assumes 38% combined federal/state marginal rate.2. 5-7% rate of return.
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1. Assumes 38% combined federal/state marginal rate.2. 5-7% rate of return.
Small Business Owner, C-Corp, +2 Employees,
Owner’s W-2 income: $400,000– Employee 1 age 28 earning: $35,000– Employee 2 age 35 earning: $45,000
Maximum DB contribution for owner: $197,800– DB contribution for Employee 1: $6,100– DB contribution for Employee 2: $11,400– 92% of contribution for Mollie
Annual income tax savings for Mollie: $75,1001
Estimated accumulation for Mollie at 62: $1.73 Million2
Mollie, Endodontist, Age 55
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Sole Proprietor, Spouse with Self-Employment Income
Annual earnings: $100,000— After paying SE Tax
Maximum DB contribution for 2013: $80,000 2013 max tax savings: $30,400
— combined marginal tax rate of 38%
DB Accumulation at age 65: $461,000— 5 years, 5 - 7% rate of return
Annual DB Benefit: $40,700
Ella, interior designer, Age 60
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Owner-onlySole Proprietor, Age 40
Annual earnings: $100,000— After paying SE Tax
401(k) contribution for: $42,500 Annual tax savings: $16,150 Combined marginal tax rate of 38% Compared to SEP contribution of $25,000
Cathy is a freelance journalist, married to a high-earning corporate employee
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Owner-onlySole Proprietor, Age 40
Annual earnings: $100,000— After paying SE Tax
DB contribution: $37,100 401(k) contribution: $23,500 DB + 401(k) contribution: $60,600 Annual tax savings: $23,000 Combined marginal tax rate of 38% Compared to 401(k) contribution of $42,500
If Cathy wants to maximize her tax-deferred contribution, she could open a DB+401(k):
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New Flexibility Strategies
Adding an individual 401(k) to a DB Consultant age 50, $200,000 in W-2 income from his S-
Corporation Maximum DB Contribution ~$124,000 in 2013 More comfortable committing to $75,000 a year; more only
in high income years. 2013 Annual Estimated DB Contribution: $75,0002013 401(k) Contribution: $35,000Total 2013 Contribution $110,000 2014 DB Contribution: $75,0002014 401(k) Contribution: $0Total 2014 Contribution $75,000
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New Flexibility Strategies
Contributions ranges
Years Compensation Contribution Range Susan Chooses to Contribute
2010 $95,000 --- ---2011 $150,000 --- ---2012 $115,000 --- ---2013 $120,000 $40,000 to $120,000 $110,000
2014 $70,000 $30,000 to $120,000 $50,000
2015 $95,000 $44,000 to $120,000 $120,000
2016 $120,000 $25,000 to $120,000 $60,000
2017 $135,000 $25,000 to $135,000 $130,000
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New Flexibility Strategies
Funding over time
Amend Plan
Freeze the Plan
Terminate and roll to IRA
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SUMMARY:Advantages of Micro DB Plans
LARGE contributions for the next 5-10 years $1MM to $2MM in new client savings
LARGE tax-deduction, saves client $40,000-$60,000* or more in 2013* Assumes a 38% tax rate
Seek stable, low risk investments, not chasing high returns
Access to wide variety of investments Loans available Streamlined, easy set up, IRS-approved prototype
document Clients ready to save who previously shied away from
commitment, now have more control over their contributions
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SUMMARY: Plan Considerations
Defined Benefit Plans are not right for everyone
– Annual contributions are required
– More expensive to establish and maintain
– Primarily funded by the employer
– Benefits generally must be paid regardless of how plan performs
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Plan Set-up / Funding Deadlines
Plan Set-up: Must be established by end of plan year, usually December 31st
Dedicated DB - Quick Adoption Process
Individual 401(k) Salary Deferral Contributions
Due as soon as administratively possible
Individual 401(k) Employer Profit-Sharing Contributions due by tax-filing deadline, including extensions
OnePersonPlus DB Contributions– 8 ½ Months after end of plan year
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Supporting You & Your Clients
1. Online Calculator: Run an illustration comparing small business plans online at: www.OnePersonPlus.com
or Call for a custom proposal: 1(866)269-27062. Present to Client: Dedicated DB available for
call3. Client Completes Set-up Questionnaire & sends
to Dedicated DB - Set-up Fee ($1,250 for 1-person plan)
4. Client receives Adoption Agreement for signature5. Then opens investment account
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Questions?
?
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Thank You!
Dedicated Defined Benefit Services
Call: 1(866)269-2706
Visit: www.OnePersonPlus.com