Advanced Underwriting Consultants

Ask the Experts – June 23, 2014

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.

Question: My client owns an IRA and will turn 70 ½ next year. Since she still works and plans on working indefinitely, can she roll over the IRA to her 401(k) and thereby avoid having to take RMDs until she retires?

Answer: Yes. RMDs are not required to be taken from 401(k) plans until the latter of (1) the year the employee turns 70 ½, or (2) the year the employee retires. For your client, the latter will be the year she retires. On the other hand, IRAs are required to start RMDs in the year the account holder turns 70 ½.

However, when an account holder rolls over money from an IRA to a 401(k), the funds become part of the 401(k) and therefore are governed under the 401(k) rules—which means the account holder may defer RMDs until retirement.

Keep in mind that not all employer-sponsored plans allow rollovers, so check with the plan administrator first. Also beware of the restrictions attached to some employer-sponsored plans. For example, your client’s plan might not allow withdrawals from the 401(k) plan until she retires.

Finally, since your client turns 70 ½ next year, she will need to complete the roll over this year to avoid next year’s RMD.

Have a question for the professionals at AUC? Feel welcome to submit it by email. We may post your question and the answer as the question of the day.

Ask the Experts – June 11, 2014

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers. Here’s the question of the day.

Question: My client received a distribution from his 401(k) plan. The distribution was comprised mostly of stocks and bonds which he sold shortly after the distribution. Can he still roll the proceeds over to an IRA if he’s still within the 60-day period, or does selling the distributed property preempt him from completing the rollover?

Answer: Your client may complete the rollover as long as the 60-day period has not expired even though he sold the distributed property.

When the property is distributed, the participant’s basis in the property is generally equal to its fair market value. If the participant sells the distributed property for a gain within the 60-day period, he may still complete the rollover and contribute all of the proceeds from the sale to his IRA. Additionally, no gain (or loss, if applicable) will be recognized if he completes the rollover.

For example, let’s say your client took a complete distribution from his 401(k) plan, which consisted of various stocks worth $300,000. Assume he holds on to the distributed property for 45 days, and the stock value increased to $310,000 in total. Your client then liquidates the stock for $310,000, resulting in a $10,000 gain. Under this situation, your client may still roll over the $310,000 cash proceeds from the sale of the stocks. Additionally, if he rolls over the full amount, he will not have to pay taxes on the gain portion until he withdraws the funds from the IRA.

Sources: I.R.C. § 402(c)(6).

Have a question for the professionals at AUC? Feel welcome to submit it by email. We may post your question and the answer as the question of the day.

Ask the Experts – May 16

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: My client is considering starting a safe harbor 401(k) plan for his small business. What are the 401(k) safe harbor requirements?

Answer: A 401(k) plan is not allowed to discriminate in favor of highly compensated employees. Ordinarily, a 401(k) plan must pass the actual deferral percentage test, which we described here. However, if an employer sets up a safe harbor 401(k) plan, he doesn’t have to worry about the actual deferral percentage testing requirements.

Two conditions must be met to meet the safe harbor requirements. First, all eligible employees must be given a written notice of their rights and obligations under the plan.

Second, the employer must either make matching contributions or nonelective contributions in one of the following three arrangements:

  1. Basic Matching. The employer makes matching contributions on behalf of each non-highly compensated employee in an amount equal to:
    • 100% of the employee’s elective deferral up to 3% of the employee’s compensation; and
    • 50% of the employee’s elective deferral between 3% and 5% (i.e. the next 2%) of the employee’s compensation.

Example: Larry earns a $60,000 salary and contributes 10% ($6,000) of his salary to his employer-sponsored 401(k) plan. The employer satisfies the safe harbor if it matches Larry’s first $1,800 of contributions (3% of $60,000) and half of his next $1,200 contribution (2% of $60,000). Therefore, the employer satisfies this safe harbor if it makes a $2,400 matching contribution.

2. Alternative Matching. The employer makes matching contributions on behalf of each non-highly compensated employee in an amount at least equal to what would be required under the basic matching arrangement (above), and the rate of employer matching does not increase as an employee’s rate of elective deferrals increases.

 Example: Larry earns a $60,000 salary and contributes 10% of his salary ($6,000) to his employer-sponsored 401(k) plan. The employer has a plan where it matches 100% of employee deferrals up to 4% of the employee’s salary. Therefore, the employer makes a matching contribution equal to $2,400 (4% of $60,000) and satisfies the safe harbor.

3. Nonelective contributions. The employer makes a nonelective contribution for each eligible non-highly compensated employee of at least 3% of the employee’s compensation, regardless of whether or not the employee actually makes an elective deferral.

 Example: Larry and Curly both earn $60,000 salaries. Larry contributes 10% of his salary to his employer-sponsored 401(k) plan, but Curly doesn’t contribute anything. The employer satisfies the safe harbor if it makes a $1,800 contribution (3% of $60,000) to both of Larry’s and Curly’s plans.

 Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.  

Ask the Experts – May 5

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: For 2014, what is the maximum amount that can be contributed to a 401(k) plan if the participant is older than 50?

Answer: Generally, the overall limit on contributions to a 401(k) plan in 2014 is the lesser of the employee’s compensation or $52,000. This limit includes both employer contributions (e.g., matching contributions, profit sharing, nonelective contributions), and employee elective deferrals.

Therefore, if an employee makes the maximum elective deferral of $17,500 to his 401(k) plan, the most the employer may contribute is $34,500 ($52,000 limit less $17,500 elective deferral). But if an employee doesn’t make an elective deferral, the employer may contribute the full $52,000, unless other restrictions apply.

An employee who has reached age 50 can make an additional $5,500 yearly contribution to his 401(k) plan. The $5,500 catch-up contribution does not count against the plan’s $52,000 limit; so if an employee makes the full $17,500 elective deferral and the $5,500 catch-up contribution, the employer may still contribute $34,500 to the plan. Under this scenario, the effective contribution limit is $57,500.

However, if the employee contributed $17,500 without making a catch-up contribution, the employer can still only contribute $34,500 (for a combined $52,000 contribution in 2014). In other words, an employee over the age of 50 will only see an increase in his overall contribution limit if he takes advantage of the $5,500 elective deferral catch-up contribution.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.  

Ask the Experts – May 1

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: Does a 401(k) plan participant have until April 15, 2014, to make an elective deferral on behalf of 2013?

Answer: No. Elective deferrals are contributions made by an employee, and while such deferrals are typically made as payroll deductions (e.g., monthly, biweekly, etc.), nothing requires this schedule.

However, the IRS says that the employee must make the election by the end of the year for which the deferral is being made, or the date of the employee’s last paycheck of the year if the deferrals are automatic. Therefore, for 2013, the deadline is generally December 31, 2013.

The Department of Labor requires the employer to deposit deferrals to the trust as soon as possible, but in no event can the deposit be later than the 15th business day of the following month.

Therefore, if the employee is also the owner of the business, he can theoretically deposit the deferral money as late as mid-to-late January, 2014. However, the 15th day of the following month rule is not a safe harbor rule. That is, if 15th of the next month isn’t “as soon as the employer can” deposit the deferral money into the 401(k), then the deposit isn’t timely, and the mistake could give rise to plan disqualification.

The safest bet is to plan ahead and deposit the deferral funds by the end of the year.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.  

Ask the Experts – March 17

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: Can a participant of a SIMPLE 401(k) take a penalty-free distribution if he is age 55 and severed from his employment? Does it matter if it’s a SIMPLE IRA instead of a SIMPLE 401(k)?

Answer: Under Section 72(t), certain retirement plans, including IRAs and 401(k) accounts, are subject to a 10-percent penalty for distributions made prior to age 59 ½ unless an exception is met. The exception to which you’re referring states that as long as the participant is at least 55 years of age and has ended his employment with the employer-sponsor, the 10-percent penalty does not apply. However, this exception does not apply to IRAs.

Since a SIMPLE 401(k) is not an IRA, the age-55, severance from employment exception applies. Therefore, the 10-percent early distribution penalty should not apply to your client’s situation.

Since a SIMPLE IRA is an IRA, the age-55, severance from employment exception does not apply. If an individual takes a distribution, it would be subject to the 10-percent penalty found in Section 72(t).

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.  

Ask the Experts – January 17

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax questions posed by producers.  Here’s the question of the day.

Question: My client participates in a Roth 401(k). Can his employer match his designated Roth contributions?

Answer: Yes, but the matching contributions would not be deposited into the designated Roth account. The employer’s matching contribution must be made into a pre-tax account, as if the employer was matching contributions on traditional, pre-tax contributions. The employer must establish a separate account and keep the designated Roth contributions completely separate from its matching pre-tax contribution.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.

Ask the Experts – August 22

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

 Question:  My client is leaving the employ of her 401K plan sponsor.  The client has a $40,000 outstanding loan against the 401K.  If she lets the loan lapse, and then contributes $40,000 to an IRA within 60 days, would that be a proper rollover?

Answer:  Yes, it seems so.

A plan loan is deemed a taxable distribution when the loan repayment is in default.  Default is determined based on the plan language.

The regulations say that a deemed distribution due to a loan default is an eligible rollover distribution.  Thus, the participant can replace the loan amount with outside funds inside a rollover IRA within 60 days of the date of default.  Here’s the excerpt from Treasury Regulation 1.402(c):

Q-9: What is a distribution of a plan loan offset amount, and is it an eligible rollover distribution?

 A-9: (a) General rule. A distribution of a plan loan offset amount, as defined in paragraph (b) of this Q&A, is an eligible rollover distribution if it satisfies Q&A-3 of this section. Thus, an amount equal to the plan loan offset amount can be rolled over by the employee (or spousal distributee) to an eligible retirement plan within the 60-day period under section 402(c)(3), unless the plan loan offset amount fails to be an eligible rollover distribution for another reason. See § 1.401(a)(31)-1, Q&A-16 for guidance concerning the offering of a direct rollover of a plan loan offset amount. See § 31.3405(c)-1, Q&A-11 of this chapter for guidance concerning special withholding rules with respect to plan loan offset amounts.

And here’s a link to a 2012 private letter ruling where the idea is discussed in more detail.

http://www.irs.gov/pub/irs-wd/1224046.pdf

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.  

Question of the Day – July 31

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: My client has a child support judgment against her ex-spouse.  Can she force him to transfer part of his 401K account to her in satisfaction of the judgment?

Answer: Probably not.

In general, Section 401K accounts are protected by ERISA rules against alienation, and are protected from bankruptcy claims by federal law.  That means that is someone sues a 401K plan participant, the creditor can’t get at the 401K account balance through the court process.  Similarly, if a 401K account owner declares bankruptcy, the 401K account balance is not considered to be an asset that is available to the owner’s creditors.

If the spouse owing back child support voluntarily withdraws money from the 401K account, then it is available to satisfy the judgment.

A spouse who is worried about her prospective ex-husband’s ability to satisfy child support obligations may be able to negotiate a transfer of assets in the other spouse’s 401K plan at the time of divorce.  However, if the spouse with 401K plan assets is not entitled to a distribution from the account, the fact that the parties are divorcing will not enhance the ability to access those account balances by either party.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.

Question of the Day – July 24

Ask the Experts!

The professionals at Advanced Underwriting Consultants (AUC) answer the tax and technical questions posed by producers.  Here’s the question of the day.

Question: My Texas-based client just divorced her husband.  My client has a Section 401K pension plan for which her husband was originally named the beneficiary.  I’ve heard that Texas law automatically removes the ex-spouse as beneficiary.  Is that correct?

Answer: While Texas law does automatically remove an ex-spouse as beneficiary from certain types of assets, the law probably doesn’t apply to a 401K account.

There are two Texas statutes that automatically remove a divorcing spouse as beneficiary of accounts of an ex-spouse:

  • Texas Family Code Section 9.301, which deals with life insurance policies, and
  • Texas Family Code Section 9.302, which deals with qualified plan assets.

While the second cited section of Texas law appears to disinherit an ex-spouse from a 401K plan, the U.S. Supreme Court case of Egelhoff v. Egelhoff, 532 U.S. 141 (2001) reached a different result.  The Supreme Court said that ERISA trumped Texas state law, and that the 401K account benefit would be paid to the named beneficiary—the ex-spouse.

The bottom line is that there is plenty of uncertainty about whether a named ex-spouse beneficiary will or won’t receive account proceeds in the event of a former spouse’s death.  As financial professionals, we should keep in touch with our clients who are going through a divorce, and make sure their beneficiary designations are up to date.

Have a question for the professionals at AUC?  Feel welcome to submit it by email.  We may post your question and the answer as the question of the day.