retirement planning questions you will surely encounter in 2015
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T.J. Orr, ERPA, QPA, QKA
torr@pinnacle-plan.com
Retirement Planning Questions You Will Surely Encounter in
2015
www.pinnacle-plan.com
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Agenda
“Owner-only” retirement planning issues1. SEP vs. 401(k)2. Source of compensation for different entities3. Optimal salary for small business owners4. In-plan Roth conversions5. Adding a defined benefit plan6. Best practices
Recent updates1. Electronic Form 5500 filings for owner-only plans2. Plan document restatements
Information to collect
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Common Scenario
Successful small business owner No employees Wants to decrease their current
income tax liability Wants to increase retirement
savings
What’s better, SEP or 401(k)?
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SEP
Simplified Employee Pension (SEP) Employers contribute pre-tax money to
an IRA Annual contribution limits with a SEP are
higher than with a traditional IRA. Limited to the lesser of: 25% of eligible compensation, or $53,000
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Third-PartyAdministrat
or
SEP
SEPs do not require the services of a third-party administrator, such as Pinnacle Plan Design.
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401(k) Plan
Myth: there is an inherent difference between a “401(k) Plan” and an “Owner-only 401(k) Plan”
Reality: False! An “Owner-only 401(k) Plan” is simply a 401(k) plan
with one participant
An owner-only plan does enjoy the benefits of a 401(k) without the concern for non-key and non-highly compensated employees. A plan design that anticipates the possibility of employees may be warranted.
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401(k) Plan
Allows participants to make pre-tax elective deferrals or post-tax “Roth” contributions Maximum of $18,000 per year
Plan may also include discretionary employer profit sharing and/or matching contributions
Employer contributions are limited to the tax deduction limitation, which equals 25% of eligible compensation.
Maximum annual allocation is equal to the lesser of: 100% of the participant's eligible compensation, or 53,000
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401(k) Plan: Catch-up Contributions
Participants age 50+ may defer an additional $6,000 to the 401(k) New Limits Become:
$24,000 for 401(k) elective deferrals $59,000 for annual allocations
Catch-up contributions are not available in a SEP
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Third-PartyAdministrat
or
401(k) Plan
401(k) plans benefit from the services of a third-party administrator, such as Pinnacle Plan Design
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Benefits of a Third-Party Administrator (TPA)
A TPA Engagement Typically Ensures Plan document and required amendments
are timely adopted Terms of plan document are followed All testing is passed Tracks assets held by money type Preps Form 5500 Prompts for required minimum distributions Is pro-active in adapting to changing
circumstances (e.g. sole proprietor move to S-Corp election)
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Owner-only 401(k) vs. SEP
Attributes 401(k) Plan SEPParticipant loans permissible
$6,000 catch-up contribution (age 50+)
Roth contributions permittedAssets may be protected from creditorsA wide range of investment alternativesMay achieve significant disparity in contributions when adding employeesVesting schedules permitted (relevant if any employees hired)
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Case Study: 401(k) vs. SEP
51 year old sole proprietor Compensation of $130,000 No employees Goal: Maximize pre-tax
contributions
How much money can she contribute to a SEP?
How about a 401(k)?
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Case Study: 401(k) vs. SEP
SEP Contributions limited to 25% of compensation Maximum Contribution: 25% of 130,000 = $32,500
401(k) Contributions limited to lesser of 100% of the
participant's eligible compensation or $53,000, plus $6,000 catch-up contribution
Maximum Allocation: 53,000 + 6,000 = $59,000 At $130,000 of compensation, however, hit deduction
limitation first. So, $32,500 plus $24,000 = $56,500
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401(k) vs. SEP
Plan Type SEP/PS 401(k)/PS SEP/PS 401(k)/PS
401(k)/PS
Compensation$130,00
0 $130,000$212,00
0$212,00
0$265,00
0*
401(k) 18,000 18,000
401(k) Catch-up 6,000 6,000 6,000
25% ER Cont 32,500 32,500 53,000 53,000 35,000
Total Allocation 32,500 56,500 53,000 59,000 59,000*Qualified plan compensation limit is $265,000
401(k) limits will always be higher than SEP limits unless the owner:• Is under age 50, and • Earns at least $212,000.
If both criteria are met, the 401(k) and SEP limits will be equal.
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Entity Types
The entity type determines the source of “compensation” for ownerEntity Type Source of Compensation
Sole Proprietor Schedule C and SE
Partnership Schedule K-1 and SE
C-Corporation Form W-2
S-Corporation Form W-2 ONLY
LLC Depends on how the LLC is taxed (i.e. as S-Corp or partnership, or in the case of single member LLC, Schedule C)
Note: Maximum 2015 Considered Plan Compensation = $265,000.
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Common Scenario
Owner of an S-corp has been told to reduce his/her W-2 wages to minimize their payroll taxes
Same owner wants to maximize contributions to a retirement plan to maximize his/her tax deduction, which requires higher W-2 wages. Tax deduction is limited to 25% of the participants’
eligible compensation (W-2 wages)
W-2 Wages
MinimizePayrollTaxes
MaximizeTax
Deduction
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Reducing W-2 Wages
Allows an S-Corp shareholder to have more of their income taxed as trade or business income on their personal tax return
Payroll taxes are then reduced because trade or business income is not subject to payroll tax
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Reducing W-2 Wages
RISK! IRS frowns upon this IRS requires "reasonable compensation" for the industry
to be paid Result would be taxes up to 100% of the payroll taxes
not paid, plus penalties
MISSED OPPORTUNITY! Reduced W-2 wages limits an
owner’s tax deductible contribution to a qualified retirement plan
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Case Study: Setting an Optimal Salary
Single owner/taxpayer of an S-corp earns $300,000 of income
She wants to contribute the maximum to the company retirement plan ($53,000 for 2015)
Uses the standard deduction only
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Case Study: Setting an Optimal Salary
(1) Assumes 23% federal income tax rate(2) Assumes 4% state income tax rate
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Takeaways
An increase in salary allows an owner to make the maximum permissible tax-deferred contribution to the retirement plan without significantly affecting their total tax liability.
An increased salary can potentially increase Social Security benefits
Additionally, the tax deferral allowed in a retirement plan offers a significant and powerful strategy for accumulating retirement assets and meeting retirement goals.
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In-plan Roth Conversions
Potential elimination of tax on gains RMD Exemption Elective Roth deferrals are limited to
$18,000 annually ($24,000 if over 50). What if we could increase this limit? In-plan Roth conversions can effectively
do just that
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In-plan Roth Conversions
A conversion of non-Roth monies within the plan into Roth monies
Can apply to: elective salary deferrals matching contributions non-elective contributions amounts rolled into the plan from another plan qualified matching contributions (QMACs) qualified non-elective contributions (QNECs) after-tax employee contributions
Source: irs.gov
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Case Study: In-plan Roth Conversions
51 year old sole proprietor Compensation of $120,000 No employees Goal: Maximize Roth account
Q: What is the maximum amount he can add to his Roth account each year?
A: $59,000 How???
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Case Study: In-plan Roth Conversions
The annual additions limit for a 51 year old is $59,000 Up to $24,000 in pre-tax or Roth elective deferrals The remainder can be comprised of profit sharing,
matching or after-tax employee contributions
Owner could make a $35,000 after-tax employee contribution to the plan, then convert it to Roth. Will never pay tax on the earnings Effectively increases his Roth limit from $24,000 to
$59,000
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In-plan Roth Conversions
Plan document must permit Roth contributions AND Roth conversions
Participant election required Plan must issue Form 1099-R
Box 1 – Gross Distribution Box 2a – Taxable Amount Box 5 – Include any basis recovery Box 7 – Code G
No 945 tax withholding required Not subject to 72(t)’s early withdrawal penalty, unless
ultimately distributed to participant within the 5-year period beginning with the first day of the participant’s tax year in which the rollover was made.
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Cautions
This strategy is only effective in owner-only plans After-tax voluntary contributions subject to ACP testing. The ACP test ensures that matching and after-tax employee contributions to
not discriminate in favor of HCEs NHCE participants would likely not contribute, causing the ACP test to fail
The plan document must allow for in-plan Roth conversions
Currently no IRS approved wording on In-Plan Roth Conversion amendments. Rather, currently operating under good-faith amendments.
Not a lot of record-keepers are ready to allow this, but 1 participant plans usually not on record-keeping platforms.
Segregated accounts recommended.
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Adding a Defined Benefit Plan
These amounts could be sustained for ~ 10 years Assumes adequate compensation to support maximum dollar benefit
The contribution limits for a DB plan far exceed those for a DC plan
40 45 50 55 60$0
$50,000
$100,000
$150,000
$200,000
$250,000
$85,000$110,000
$140,000
$180,000
$235,000
$53,000 $53,000 $59,000 $59,000 $59,000
Contribution Limits
DBDC
Age
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Tax Deduction Limits for Combo Plans (DB and DC)
Depends upon PBGC coverage and profit sharing Contribution1) If plan is exempt from PBGC coverage and profit
sharing exceeds 6% of total compensation: Deduction is limited to 31% of total eligible
compensation.
2) If plan is exempt from PBGC coverage and profit sharing is limited to 6% of total compensation
No deduction limit. May take tax deduction for full amount of employer contribution to DB and DC plans.
3) If plan is covered by PBGC No deduction limit. May take tax deduction for full
amount of employer contribution to DB and DC plans.
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Plans Exempt from PBGC Coverage
Owner-only plans and certain “professional service” employers with less than 26 active participants:
• Exempt:
• Not Exempt:
DRs Lawyers
CPAs Actuaries
RIAsReal
EstateAgents
InsuranceAgents
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Adding a Defined Benefit Plan Highly compensated owners Owners looking to put more $$ away Non-cyclical industry Prime defined benefit plan candidates
include professional groups:
DRs Lawyers
CPAs Dentists Financial
Advisors
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Best Practices
Plan Design Use the most restrictive eligibility criteria to prevent entry by newly
hired employee Use a vesting schedule to prevent immediate vesting of a newly
hired employee
Be aware of potential related employers Always ask about ownership in other entities For a member of an LLC, note that the member is an employee of
the LLC, so only the LLC can adopt a plan. That is, the self-employed partner in an LLC taxed as a partnership cannot adopt a plan.
Tracking assets by money type is necessary Differing limitations Differing withdrawal restrictions Differing vesting for participant loan purposes
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5500EZ 5500SF
Paper filers of Form 5500-EZ may “e-File” Form 5500-SF instead Still exempt from filing if assets below $250,000 Must file for final plan year, upon termination of plan, regardless of asset
level.
Benefits: Submissions can be tracked Reduces potential for errors (The TPA can electronically transmit
the 5500-SF on behalf of the employer)
Confidentiality remains, as contents are not made public on DOL’s website
IRS sent letters to previous Form 5500EZ filers to encourage them to come into compliance.
Retroactive filings deemed timely if made by 7/2/2015. Now need to file under Delinquent Filer Voluntary Correct Program at a cost.
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PPA Plan Document Restatements
Pre-approved plans (non-403(b)): Amendment and Restatements (A&R) on a 6-year cycle
A&R for EGTRRA closed 4/30/2010
A&R for PPA opened 5/1/2014; closes 4/30/2016
Owner-only plans subject to same requirements, but common to find them to have not been maintained
If not maintained, must follow VCP under Rev. Proc 2013-12 as updated by 2015-27.
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Information to Collect
1. What is the goal of the plan? Do all owners wish to maximize contributions?
2. If there are profits for the year, is this typical and anticipated to continue?
3. Has the company ever sponsored another retirement plan?
4. How is the employer’s entity taxed?
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Information to Collect
5. What is the ownership structure of the company? Other business interests?
6. Does the company employ any relatives of the owners?
7. Are there anticipated changes in the company structure or employee demographics in the next 2-3 years?
8. How does the employer want to manage the assets of the plan?
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Collaboration With CPAs
We strongly value collaboration, which means…
We Are a Part of Your Team
We Are Committed to Your Continued
Success
We Listen and Offer Customized
Solutions
We Respond Quickly to Your Needs
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Firm Facts
315years of related
experience
33pension-related
designations
845plans
administered
$1.3 Billion
plan assets
18,300participants
At Pinnacle Plan Design we design and administer retirement plans for self-employed individuals, for-profit businesses and non-profit organizations. Retirement plans offer business owners and executives the ability to reduce current tax liabilities, help ensure their personal retirement plans stay aligned with company needs, and provide a benefit to recruit and retain the talent needed to grow their business. Our superior technical expertise, combined with our unparalleled client service, makes us an industry leader in the retirement plan industry. Our highly credentialed professionals are committed to delivering outstanding client service. We provide accurate, comprehensive and timely work. Pinnacle Plan Design is an unbiased provider assisting CPAs in delivering personalized, consultative solutions to their clients. We build mutually successful partnerships with accountants across the country so that clients nationally receive a complete and exceptional plan experience.
Retirement Plan Design▲Administration▲Consulting▲Actuarial Services
www.pinnacle-plan.com
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Beth A. Cooper, CRPS®Strategic Development Consultantbcooper@pinnacle-plan.com(520) 906-4821
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