Ask the Experts – October 6, 2014

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

Question: I have a 50 year old client who recently did an in-service conversion of her 403b account to a designated Roth account. She now wants to take a hardship distribution from her designated Roth account. Does she have to worry about the 10% penalty tax on the distribution of converted amounts?

Answer: Yes.

Just as with regular Roth IRA conversions, there is a special tax rule about withdrawing converted amounts within five years of the conversion. Here is the applicable Q & A from Notice 2010-84.

Q-12. Are there any special rules relating to the application of the 10% additional tax under § 72(t) for distributions allocable to the taxable amount of an in-plan Roth rollover made within the preceding 5 years?

A-12. Yes, pursuant to §§ 402A(c)(4)(D) and 408A(d)(3)(F), if an amount allocable to the taxable amount of an in-plan Roth rollover is distributed within the 5-taxable-year period beginning with the first day of the participant’s taxable year in which the rollover was made, the amount distributed is treated as includible in gross income for the purpose of applying § 72(t) to the distribution.

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Ask the Experts – May 27

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

Question: Are 403(b) contributions subject to employment taxes?

Answer: The simple answer is yes—although employee deferrals are not treated as current income for federal income tax purposes, they are included as “wages” and subject to social security, Medicare, and federal unemployment taxes (FUTA).

However, employer contributions are not subject to such employment taxes as long as the contributions:

Are mandatory for all employees covered by the retirement system.

Are a salary “supplement” and not a salary reduction—i.e. the employer must not reduce employee salary to offset the amount designated as employee contributions.

Therefore, contributions to employer-sponsored plans could be labeled as “employer contributions,” but still be considered employee contributions for social security, Medicare, and FUTA purposes.

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Ask the Experts – May 22

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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 severance pay be contributed toward a 403(b) tax-sheltered annuity?

Answer: Although a participant in a 403(b) plan contribute up to a $17,500 of her salary to the plan in 2014, the participant cannot contribute more to a 403(b) plan than she earns as compensation for the year. Whether severance pay constitutes “compensation” depends on when the participant receives it.

The general rule is that compensation does not include severance pay if it is paid after severance from employment. Treas. Reg. § 1.415(c)-2(e)(3)(iv). For example, if your client was fired early in 2014, but will receive 6 months of severance pay in 2014, then she cannot contribute to the 403(b) plan.

If the severance pay is actually payment for unused sick, vacation, or other leave, or if the payment is received as part of a nonqualified unfunded deferred compensation plan, then the payments are considered “compensation” and therefore may be deferred to the 403(b) plan.

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Ask the Experts – April 21

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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 age 72 and has been taking RMDs from his IRA for a couple of years now. When he retires later this year, he will also be required to take RMDs from his employer-sponsored Section 403(b) annuity. When is his deadline to take the 2014 RMD for the employer-sponsored plan?

Answer: If your client retires this year, he is required to take the 2014 RMD by April 1, 2015. Any subsequent RMDs must be taken by December 31 of the year for which the RMD is required.

The fact that your client is already taking RMDs on his IRA does not affect the deadline to take his first RMD from the employer-sponsored plan. Therefore, your client should take his IRA RMD by December 31, 2014, and his 403(b) RMD by April 1, 2015.

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Ask the Experts – March 12

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

Question: I have a client who participates in both his employer-sponsored 403(b) annuity and a simplified employee pension (SEP) for his own side-business. Can he make the full contribution limits for both, or are there restrictions?

Answer: His SEP contribution limit could be reduced by the amount he contributes to his 403(b) account.

In 2014, the limit on elective deferrals is $17,500 for 403(b) annuities. This limitation is per individual—not per plan. The contribution limit for any pension or profit-sharing plan maintained by the same employer is $52,000. SEP plans are slightly different, where the contribution limit is the lesser of $52,000 or 25 percent of the individual’s income.

An employee can generally contribute the full $17,500 in elective deferrals to one employer’s plan, and also make the maximum $52,000 contribution to another employer’s pension or profit-sharing plan. However, Section 415(k)(4) provides for a special rule between 403(b) annuities and SEP plans that essentially treats both plans as maintained by the same employer for purposes of the contribution limits.

Therefore, the $52,000 SEP limit would be reduced by the amount the participant contributes to his 403(b) annuity. If he contributes the maximum $17,500 elective deferrals to the 403(b) annuity, the $52,000 limit decreases to $34,500. In other words, he can now only contribute the lesser of $34,500 or 25 percent of his income.

This reduction from $52,000 to $34,500 will only affect an individual who earns more than $138,000 in his self-employed business because if his self-employment income is $138,000 or less, such contributions would be limited to 25 percent of his income (i.e. $34,500 is 25 percent of $138,000)—in other words, the $34,500 limit is irrelevant for such individuals. If he earns more than $138,000, he’s limited to $34,500 instead of $52,000.

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Ask the Experts – February 4

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

Question: Can the non-spouse beneficiary of an inherited 403(b) account stretch her RMDs based on her own life expectancy? If not, can she roll the account over to an IRA and then use the stretch option?

Answer: Yes, the beneficiary generally has the option to stretch RMDs over her life expectancy, but she should first make sure that her specific plan allows her to stretch.

If her plan does not allow her to stretch based on her life expectancy, she can still achieve a similar result by rolling the inherited 403(b) account into an IRA. The new IRA will be treated as an inherited IRA, and, accordingly, she has the option to stretch RMDs over her own lifetime.

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