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ONE-PERSON 401(k) PLANS
Even though the SEP limit was increased to 25%, sole-proprietors should still consider replacing their SEP-IRA with a one-person 401(k) plan. In order to contribute the $49,000 maximum to a SEP-IRA, a sole-proprietor must have net self-employment (s/e) earnings of at least $196,00. Conversely, a sole-proprietor only needs net s/e earnings of $130,000 in order to contribute $49,000 to a 401(k) Plan. Following is a comparison of contribution amounts at various net earnings amounts:
Maximum contribution & deduction:
| Net Earnings: |
50,000 |
100,000 |
150.000 |
196,000 |
| SEP-IRA |
12,500 |
25,000 |
37,500 |
49,000 |
| 401(k) Plan |
29,000 |
41,500 |
49,000 |
49,000 |
| $ difference |
16,500 |
16,500 |
11,500 |
0 |
| % difference |
132% |
66% |
30% |
0% |
Individuals age 50 or older may defer an additional 401(k) $5,500 catch-up contribution on top of the amounts shown above.
DEFINED BENEFIT PENSION AND 401(k) PLANS
401(k) deferrals are no longer considered for determining deductible limits. This change allows employers with rich defined benefit (DB) plans to institute 401(k) plans. For example, a sole-proprietor (with no employees) with a DB plan could establish a 401(k) plan and defer $16,500 into the plan in 2010, plus a catch-up contribution of $5,500. This would be in addition to the required DB contribution for 2010.
Increased Contribution and Benefit Limits:
- 401(k) limit increased to $16,500 for 2009 and 2010. If age 50 or older, an additional $5,500 catch-up for a total of $22,000.
- Defined Contribution Limit increased to the lesser of $49,000 or 100% of compensation, $54,500 with catch-up.
- Compensation limit increased to $245,000 for 2009 and 2010.
- Defined Benefit Limit increased to $195,000 for limitation years ending in 2009 and 2010.
Increased Deduction Limits:
- Profit sharing plans, including 401(k) plans, now have a deduction limit for employer contributions of 25% of compensation.
- 401(k) deferrals will be deductible in addition to the employer 25% deduction limit.
401(k) Additional changes include:
- The Multiple Use Test for 401(k) plans with employer match has been repealed.
- The Same Desk Rule is replaced with a "severance from employment" standard.
- The 401(k) hardship distribution regulations only require a six-month suspension of participation.
- Matching contributions vest under a faster vesting schedule, either 3-year cliff or 6-year graded.
- Participants may elect Roth IRA treatment for elective contributions effective in 2006.
New Top Heavy Rules:
- Key Employee status based on the current year without regard to the four-year look-back.
- The Officer category of Key Employee will require at least $160,000 compensation.
- The top-ten owner rule is repealed.
- The 5-year look-back for distributions is shortened to one year.
- Matching 401(k) safe harbor plans are deemed to satisfy the top-heavy plans.
- Matching contributions will count toward satisfying the top-heavy minimums.
- Frozen defined benefit plans need not provide minimum accruals for non-key employees.
Rollover and Direct Transfer Rules:
- Rollovers between retirement plans, 403(b), and 457 plans are permitted, subject to special rules.
- After-tax employee contributions are now also eligible for rollover.
- The IRS is given greater authority to waive the 60-day rollover period requirement.
- Involuntary cash-out rules, rollover accounts may be disregarded in determining whether an accrued benefit exceeds $5,000.
- Involuntary cash-outs that exceed $1,000 and are eligible for rollover will be rolled over automatically to an employer-designated IRA, unless the participant elects otherwise.
Reducing Plan Sponsor Costs:
- IRS User Fees for determination letter requests will be waived for plan sponsors with 100 or fewer employees.
- For new plans, a tax credit equal to 50% of the expenses incurred by a small business with 100 employees or less for the first $1,000 in expenses for each of the first three plan years.
Miscellaneous Changes:
- Modification of minimum distribution rules - life expectancy tables reflect current longer life expectancies, which result in smaller age 70½ required minimum distributions.
- Tax credits for low-income savers to IRA, 401(k), 403(b), SIMPLE, SEP or 457 for up to $2,000 in annual contributions.
- Expanded Notice Requirements under IRC Section 204(h),
- Participant Loans allowed for owner-employees and Sub-Chapter S shareholders,
- The Defined Benefit Dollar Limit is actuarially reduced for benefits before age 62, rather than the Social Security retirement age.
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