Advanced Underwriting Consultants

Question of the Day – January 5

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 has a simplified employee pension (SEP) plan in place at his 100% owned company.  May the client also implement a defined benefit plan?

Answer: Probably not.

Most employers implement a SEP using IRS Model Form 5305-SEP.  That form specifically disallows the use of any other plan if the 5305-SEP is being used for the SEP.

A prototype or individually designed plan document is required if the employer wishes to combine a SEP with any other qualified plan other than another SEP.

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 – December 22

Ask the Experts!

Here’s the question of the day.

Question:  My business owner client is implementing a defined benefit plan.  In conjunction with the plan administrator, they’ve decided to buy a nonqualified annuity as a pension investment.  Will the annuity’s inside build-up be subject to the non-natural person tax rules?

Answer:   Possibly yes, but it shouldn’t matter. 

The inside buildup of the annuity is taxable on an annual basis if the annuity is owned by a non-natural owner, such as a corporation.

Here’s what Section 72 of the Tax Code says about annuity ownership by a non-natural owner:

    (u) Treatment of annuity contracts not held by natural persons

(1)   In general

            If any annuity contract is held by a person who is not a

            natural person –

                        (A) such contract shall not be treated as an annuity contract

                        for purposes of this subtitle (other than subchapter L), and

                        (B) the income on the contract for any taxable year of the

                        policyholder shall be treated as ordinary income received or

                        accrued by the owner during such taxable year.

              For purposes of this paragraph, holding by a trust or other

              entity as an agent for a natural person shall not be taken into

              account.

A pension trust might be considered an agent for a natural person—the plan participant—under that analysis.  The IRS hasn’t said for sure.  However, because a pension trust is a non-taxable entity, even if the annuity growth is taxable, the pension trust won’t pay tax.

The pension participant pays tax on amounts received from the pension plan—no matter what the source.  That’s when the IRS has its day or reckoning.

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.