Pension
Trends Volume II, No. 4, November 2001
Download/view PDF version
Pension
Trends Volume II, No. 4, November 2001
Download/view PDF version
In this issue...
Join our Pension Trends email list to receive each issue via email. For previous issues of Pension Trends, visit our archive.
The 2001 tax act (EGTRRA) has lots of goodies for retirement planning. One of the best is the removal of salary reduction contributions to a 401(k) plan from consideration in determining the maximum deductible amount.
Under pre-EGTRRA rules, the salary reductions reduce the maximum deduction left for other contributions in two ways. First, they reduce the compensation base that is used to determine the maximum deduction. Second, they count as part of the company’s deduction. Under EGTRRA, they do neither. Here’s how it works:
|
Pre-EGTRRA |
EGTRRA |
||
|
Covered Payroll |
$500,000 | $500,000 | |
|
401(k) Salary Reductions |
$50,000 | $50,000 | |
|
Payroll After Reduction |
$450,000 | $500,000 | |
|
Plan Deduction % Limit* |
25% | 25% | |
|
Maximum Deduction |
$112,500 | $125,000 | |
|
Salary Reductions Applied to Limit |
$50,000 | $0 | |
|
Additional Allowable Deduction |
$62,500 | $125,000 |
|
*Pre-EGTRRA it was necessary to have another plan, such as a money purchase plan, to use the 25% limit. Otherwise, the limit was 15%. Under EGTRRA, the 25% limit applies to a profit sharing 401(k) plan by itself. |
This change can be especially useful for an employer wishing to set up a defined benefit plan and take advantage of the higher deductions possible under such a plan.
Defined benefit plans have always been allowed to deduct whatever is required to fund the benefit promised, even if that is more than 25% of pay. However, when the defined benefit plan deduction was more than 25% of pay, there was no room left for any other plan, including a 401(k) plan.
Under EGTRRA that is no longer the case. An employer may deduct whatever is required to fund his defined benefit plan and still provide a 401(k) plan for his employees, even if the defined benefit plan deduction is more than 25% of pay. Plus, the business owner may be able to make his own 401(k) contribution of up to $11,000 in addition to funding the defined benefit plan.
The EGTRRA rules apply to plan years beginning in 2002. However, in order to fully take advantage of these changes, it may be necessary to take action in 2001, perhaps as early as October 31. If you have any questions, please call us.
Year End 2001 New Plans and Studies
The end of 2001 is fast approaching and it is time to be
thinking about reducing taxes by establishing a defined benefit or other
qualified pension plan. A plan may be set up and a deduction taken for the
entire year if the plan is adopted and communicated to employees before the end
of the tax year. Remember that a defined benefit plan may result in a deductible
contribution well in excess of $100,000 in some circumstances. We have already experienced a lot of interest in new plans in
2001 and we know from past experience that this interest will increase as the
end of the year approaches. This year, Independent Actuaries, Inc. will charge a
small fee for preparation of plan design studies. Because there is typically so much demand in December, IAI
will discount fees for preparation of all new plan documents requested and
prepared in October and November, 2001 by the cost of the study, up to $200. So….we encourage everyone to start early with end of year planning. We look
forward to hearing from you.