Advanced Underwriting Consultants

Question of the Day – June 28

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 been told she can purchase service credits toward her Illinois state employees’ pension plan.  Can she use money in her IRA to do that on a pre-tax basis?

Answer:  Yes, if she follows the procedures outlined by the state pension plan administrator.

Here’s a piece describing the Illinois benefit program.  See page 12, which indicates that IRA money can be used to transfer into TRS to pay for the optional service credits.

http://trs.illinois.gov/subsections/members/pubs/memberguide/tieri_print.pdf

The client should contact the pension plan administrator and ask for specific instructions on how to do it.  Her best course of action would be a direct transfer of money from the IRA to the TRS, making it simple for the client to explain to the IRS if there’s ever a question regarding what the IRA money was used for.

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 – September 13

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 wants his pension plan to buy insurance on his life.  Can he sell the pension plan an existing policy?

Answer:  No.

The Tax Code has very specific rules on pension ownership of life insurance.  Certain kinds of qualified plans are only allowed to allocate pension money to life insurance if they provide an incidental benefit to the plan.  Other plan rules are more liberal in allowing life insurance ownership by the pension plan.

The advantage to the plan participant in having life insurance owned by the plan is that the money used to pay the life insurance premium is before tax, making pension ownership of life insurance one of the few ways that a participant can arguably pay for life insurance premiums with pre-tax money.

The IRS is not the only government entity that regulates how pension plans must work.  The Department of Labor also is involved.

Financial transactions between a pension plan and a participant are generally not permitted, even if they are negotiated at arm’s length.  The Department of Labor has created some special exceptions concerning life insurance.  They do allow the pension plan to sell a pension-owned life insurance policy to the insured plan participant, a participant’s family member or an ILIT.

However, there are no special exceptions that allow a plan participant to sell a personally owned life policy to the plan.  Therefore, such sales are prohibited transactions and not allowed.

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 – October 20

Ask the Experts!

Here’s the question of the day.

Question: My client received a distribution from her pension plan, and the pension plan administrator withheld 10%, instead of the mandatory 20%, for taxes.  Does my client need to do anything to correct the under-withholding?

Answer: No.

The obligation to withhold 20% of a taxable pension distribution for taxes is imposed on the pension plan administrator.  The rules require the administrator to withhold 20% of any distribution made to the plan participant for federal income tax purposes.

The withholding is a way for the IRS to hold on to part of the tax the client may owe due to the distribution.

The fact that 20% of a distribution is held back to pay for taxes can create problems for the taxpayer, especially if the client later decides to roll over the distribution to an IRA or other qualified plan within 60 days of receipt, which is permitted by law.  If the taxpayer fails to roll over the 20% that was withheld to pay taxes, the withheld amount is considered a distribution and the amount is subject to income taxes—and also possibly the premature distribution 10% penalty tax.

If the administrator withheld 10% instead of 20%, it’s not the participant’s problem to solve.  The client will reconcile the tax results associated with taking a distribution with the amount withheld on the client’s tax return for the year of distribution.  The client may end up owing more in taxes when the return is filed because a smaller amount was prepaid by the withholding.

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.