Exam 13: Basic Structure of Retirement Income

Correct Answer:

Verified

The deductibility provisions of an IRA are summarized in Table 13.8. The following facts are revealed by the table. First, if neither spouse is covered by a qualified plan, the law allows an income tax deduction of $5,500 per worker or $11,000 for married couples, regardless of income (2015). Second, married couples covered by a corporate plan, and having a modified adjusted gross income (MAGI) in 2015 of less than $98,000 ($61,000 on a single return), keep the full deduction. These income limits are adjusted for inflation in increments of $1,000 workers age 50 and older can add an extra $1,000 to their IRAs for the tax year and thereafter.
The act also treats more fairly those couples where both spouses work but only one has a retirement plan. The spouse without a plan will not be penalized by restrictions on IRA eligibility. However, to take advantage of this change, the couple's joint MAGI must be below $183,000 (2015).
A nonworking spouse under the age of 70 and a half year is eligible to make a spousal IRA contribution, if the working spouse has earned income. The contribution is tax-deductible, if the family's MAGI is below $183,000 (2015). The tax-deductibility of the spousal IRA phases out completely at $193,000 (2015).
Deduction limits for an active participant in a qualified plan who is married and files separately are not as straightforward as those for the categories just discussed. In general, for such a person, no deduction is allowed if the MAGI is over $10,000. If the MAGI is less than $10,000, a partial deduction is allowed.
Finally, joint filers whose MAGI is less than $61,000 ($30,500 for single filers) in 2015 will receive an additional incentive to contribute to an IRA or an employer-sponsored retirement savings plan-the income limits are indexed for inflation. Depending on the income, a wage earner may be able to get a nonrefundable tax credit of up to $1,000 a year. The tax credit (referred to as the "saver's credit") is available even if the contribution is tax-deductible. The new tax credit is designed to make it easier for younger workers to save for retirement as well as for families in lower income brackets.
Besides the traditional IRA, the current law permits contributions to the Roth IRA, which is designed to help a large group of eligible taxpayers who currently do not qualify for tax-deductible contributions to traditional IRAs. These taxpayers can put $5,500 (for 2015) a year into a Roth IRA on a nondeductible basis and avoid federal taxes altogether upon distribution on the earnings assuming a qualifying distribution after five years.
The full $5,500 (for 2015) nondeductible contribution to a Roth IRA can be made by taxpayers with MAGI of as much as $183,000 on joint returns and $116,000 on individual returns. The Roth IRA phases out at $193,000 for joint filers and at $131,000 for single filers (2015). Active participation in an employer plan does not matter for the purpose of Roth IRA eligibility.
The Roth IRA earnings can be taken out tax-free, if the money remains in the account for at least five years, and is then withdrawn: (a) after death, (b) on account of disability, (c) after age 59 and a half years, or (d) for the purchase of a first home, maximum $10,000 lifetime. The Roth IRA's tax benefits remain intact in later years even if the holder's income soars above the contribution limits.

Correct Answer:

Verified

The annual contribution to a defined contribution plan is usually defined as a percentage of the compensation of plan participants. For a money purchase plan, a legal document establishing the plan describes the percentage of compensation which the employer (business) is required to contribute. Allocations to all other plans (except target benefit) are determined by a formula. Federal regulations limit the maximum tax-deductible contributions which a business can make to a defined contribution plan. The annual addition to each participant's account is comprised of the employer's contribution, any employee contribution, and any forfeiture allocation. The maximum limits under different types of plans (except SEP plans) are as follows:
$\begin{array}{lr}\text { Money Purchase }&\text { Lesser of } 100 \% \text { of compensation, }\\&\text { or } \$ U S 50,000 \text { as indexed (2015) }\\\text { Profit Sharing } & \text { same } \\\text { Target Benefit } & \text { same } \\\text { Money Purchase and Profit Sharing } & \text { same }\end{array}$

Money Purchase and Profit Sharing same
While during any given year the maximum annual addition for certain employees in a profit sharing plan could be as much as 100 percent of their compensation or $50,000 (2015), whichever is less, the overall annual addition is limited to 25 percent (2015) of the total compensation of all employees of the corporation.
Except for a profit sharing plan, the plan document defines the amount of the employer's contribution to be allocated to each participant's account. Each participant in a defined contribution plan is considered to have an individual account. Every year, all investment data for the plan for its 12-month period is reviewed. The gain or loss of the plan's assets is calculated and allocated among the individual participant accounts. The benefit which a participant receives at retirement or termination is the current value of the account in which the participant has a vested interest. The value of the account is the sum of the annual contributions made to the account, its share of the forfeitures, and its share of the investment return of the plan assets.
Defined contribution plans have certain basic characteristics which are common to all plans included in this category. For instance, the contribution to be made, as defined in the plan document, is usually defined as a percentage of compensation. In addition, the value of a participant's individual account is the benefit to be paid out at the time of retirement or termination. However, each type of defined contribution plan has its own unique characteristics.