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1 Retirement Planning and Employee Benefits for Financial Planners Chapter 9: IRAs and SEPs
2 © 2007 ME™ - Your Money Education Resource™ Introduction Traditional IRAs Tax Deductible/Nondeductible contributions Taxable/Nontaxable Distributions Roth IRAs Nondeductible Contributions Qualified distributions are income tax-free SEP IRAs IRAs provided by employers Greater funding limits than traditional IRAs
3 © 2007 ME™ - Your Money Education Resource™ IRAs – Contribution Limit Traditional and Roth Generally, Lesser of $5,500 ($6,500 for age 50 and over - 2014) or Individual’s earned income. Subject to limitations based on income Can divide contribution between a Roth/traditional IRA Attainment of age 70½ can no longer make traditional IRA contributions. Can contribute to Roth IRA.
4 © 2007 ME™ - Your Money Education Resource™ Earned Income What is earned income? W-2 income Schedule C net income Income as a general partner Alimony Exceptions: Spousal IRA: contribute up to: Spouse’s earned income – spouse’s IRA contribution
5 © 2007 ME™ - Your Money Education Resource™ Timing of Contributions Contributions must be made by the due date of the individual’s income tax return (without extensions). Usually April 15 th of the following tax year.
6 © 2007 ME™ - Your Money Education Resource™ Deductibility of Traditional IRA Contributions Deduction FOR AGI Taxpayer does not have a qualified plan Taxpayer is an active participant in a qualified plan Taxpayer is not an active participant in a qualified plan, but taxpayer’s spouse is an active participant in a qualified plan No AGI LimitSingleAGI Phaseout $60k - $70k$181k - $191k MFJAGI Phaseout $96k - $116k
7 © 2007 ME™ - Your Money Education Resource™ Active Participant Status Limits Traditional IRA contributions. Individual is considered an active participant: Defined Benefit Plan Participates or meets the eligibility requirements of the plan. Defined Contribution Plan Receives a contribution to the qualified plan on his behalf for the year (including forfeitures), or Defers compensation to a CODA plan.
8 © 2007 ME™ - Your Money Education Resource™ Nondeductible IRA Contributions Tax-deferred growth Creates adjusted basis in IRA. Distributions will be partially return of capital and partially earnings. Nondeductible IRA contributions are not limited for active participants of qualified plans. File Form 8606 with Form 1040 to track the adjusted taxable basis of an IRA.
9 © 2007 ME™ - Your Money Education Resource™ Distributions from Traditional IRAs (1 of 2) Ordinary Income Except: Distributions of adjusted basis Ratio of AB = AB before withdrawal FMV of account at withdrawal
10 © 2007 ME™ - Your Money Education Resource™ Distributions from Traditional IRAs (2 of 2) Required Minimum Distributions Same as RMDs for Qualified Plans Year following turn 70 ½ Subject to penalties if prior to age 59½ Unless on account of an exception
11 © 2007 ME™ - Your Money Education Resource™ Exceptions to 10% Early Withdrawal Penalty Distributions on account of: Death Attainment of age 59½ Disability Substantially Equal Periodic Payments Medical Expenses in excess of 7.5% of AGI QDRO Higher Education Expenses First Time Home Purchase – up to $10,000 Payment of health insurance premiums by unemployed
12 © 2007 ME™ - Your Money Education Resource™ Roth IRAs Nondeductible Contributions Qualified Distributions are income tax-free Owner may continue to fund after attaining age 70½ Not subject to required minimum distribution rules during the life of the account owner Share contribution limit with Traditional IRA Contributions may be limited based on AGI
13 © 2007 ME™ - Your Money Education Resource™ Roth IRA Contributions (1of 2) Contributions Limited to lesser of earned income or $5,500 ($6,500 if age 50 and over - 2014) Combined Limit with Traditional IRA Availability phased-out based on AGI Contribution AGI Phaseout Limit (2014) Single$114,000 - $129,000 Married Filing Jointly$181,000 - $191,000 Married Filing Separate$0 - $10,000
14 © 2007 ME™ - Your Money Education Resource™ Roth IRA Contributions (2 of 2) Convert Traditional IRA to Roth IRA No limit in 2014 Recharacterized Contributions Conversion AGI Limit Prior to 2010 Single$100,000 Married Filing Jointly$100,000 Married Filing Separately Not Available
15 © 2007 ME™ - Your Money Education Resource™ Qualified Distributions from Roth IRAs Qualified Distributions are income tax-free. Qualified Distributions are not subject to 10% early withdrawal penalty. Qualified Distribution: The distribution is made after a five taxable year period, AND The distribution is on account of the owner attaining age 59½, the owner’s death, disability, or first-time home purchase (maximum $10,000).
16 © 2007 ME™ - Your Money Education Resource™ Nonqualified Distributions from Roth IRAs Subject to income tax…maybe… First come from contributions (tax-free) Then from conversions (tax-free) Then from earnings – these are taxed Subject to 10% penalty Nonqualified distributions Contributions are not subject to penalty Conversions and earnings in the last five years are
17 © 2007 ME™ - Your Money Education Resource™ Tax-Free Distributions from IRAs to Charity Can be made from a Traditional or Roth IRA directly to charity Counts toward satisfying RMD for year Owner must be 70 ½ or older Can distribute up to $100,000 per year Advantage of contributions from IRA
18 © 2007 ME™ - Your Money Education Resource™ Nonqualified Distributions from Roth IRAs Subject to Taxation? Subject to 10% Penalty Contributions No Conversions No Yes, within five years of conversion* Earnings YesYes* *Exceptions to the 10% early withdrawal penalty are the same as the exceptions for Traditional IRA distributions.
19 © 2007 ME™ - Your Money Education Resource™ Comparing Roth IRAs to Traditional IRAs Traditional IRAs do not allow contributions after the owner is age 70½, unlike Roth IRAs. Roth IRAs are not subject to the minimum distribution rules, unlike Traditional IRAs.
20 © 2007 ME™ - Your Money Education Resource™ IRA Investment Options Permitted: Cash Stocks Bonds Options (Often limited by custodians) U.S. Gold, Silver, and Platinum Coins Real estate Not Permitted: Life Insurance Collectibles: beer cans; art, etc. Other Coins
21 © 2007 ME™ - Your Money Education Resource™ Rollovers from Qualified Plans to IRAs Lose Lump Sum Distribution Taxation Options (NUA) Loans Not Permitted May be rolled back to Qualified Plan that permits Lose ERISA Protection However, will have protection under federal bankruptcy law.
22 © 2007 ME™ - Your Money Education Resource™ Simplified Employee Pensions (SEPs) Small Business Retirement Plan Tax-deferred growth of Contributions Not a qualified plan, but has similar characteristics with unique rules: More liberal coverage requirements. Can be established as late as the extended due date of the income tax return. Unique contribution, vesting, and distribution rules. Established utilizing Traditional IRA Accounts
23 © 2007 ME™ - Your Money Education Resource™ Coverage Requirements Employers that sponsor SEPs must provide benefits to all employees who meet the following requirements: Attainment of age 21 or older, and Performance of services for three of the last five years, and Received compensation of at least $550 (2014) during the year.
24 © 2007 ME™ - Your Money Education Resource™ Establishment of a SEP Up to due date of return – including extensions Entity Original Due Date of Tax Return Extended Due Date of Tax Return Sole Proprietorship (Schedule C) April 15thOctober 15 th
25 © 2007 ME™ - Your Money Education Resource™ Establishment of a SEP Employer must complete the following three steps by the extended due dates listed above. Complete a formal written agreement. Form 5305-SEP (no IRS approval required) Fill in blanks: page 449 Give eligible employees notice. Copy of Form 5305-SEP Open a SEP-IRA account for each eligible employee.
26 © 2007 ME™ - Your Money Education Resource™ Contributions to SEPs Employer Funded Only No employee contributions Discretionary Must be made to all employees eligible during the year – even if dead or no longer employed at time of contribution Limited to the lesser of: 25% of an employee’s covered compensation, or $52,000 for 2013. Self-employed: limit is 20% Can utilize cross-testing and Social Security Integration
27 © 2007 ME™ - Your Money Education Resource™ Vesting and Withdrawals Employees are 100% vested in their account balance at all times. Withdrawals are treated just as withdrawals from IRAs. Ordinary Income Potentially subject to 10% early withdrawal penalty.
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1 © 2007 ME™ - Your Money Education Resource™ See page 127 Defined Benefit: monthly check for remainder of life Even better if it: increases each year.
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