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Deferrals of Partners and Sole Proprietors


Guest Thornton
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Guest Thornton

Self-employed individuals usually wait until the K-1 or Schedule C is complete to to deposit their deferrals in to SIMPL and 401(k) plans to be certain that there is enough income to support the deferrals. Several brokerage houses have refused to accept SIMPLE deferrals for, say 2007, deposited after 1/30/08. They cite the following from an IRS FAQ, which I lifted in its entirety:

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When must an employer make salary reduction contributions under a SIMPLE IRA plan?

The employer must make salary reduction contributions to the financial institution maintaining the SIMPLE IRA no later than the close of the 30-day period following the last day of the month in which amounts would otherwise have been payable to the employee in cash. The Department of Labor has indicated that most SIMPLE IRA plans are also subject to Title I of ERISA; also, under Department of Labor regulations at 29 CFR 2510.3-102, salary reduction contributions to these plans must be made to the SIMPLE IRA as of the earliest date on which the contributions can reasonably be segregated from the employer's general assets, but in no event later than the 30-day deadline described above. These rules also apply in the case of self-employed individuals. Thus, the latest day for the deposit of salary reduction contributions made on behalf of a self-employed individual for a calendar year is 30 days after the end of such year, which is January 30th.

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Most self-employed individuals don't know if they will have taxable income by 1/31! Has anyone else run into this issue? Has anyone seen a similar IRS position regarding 401(k) plans.

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Self-employed individuals usually wait until the K-1 or Schedule C is complete to to deposit their deferrals in to SIMPL and 401(k) plans to be certain that there is enough income to support the deferrals. Several brokerage houses have refused to accept SIMPLE deferrals for, say 2007, deposited after 1/30/08. They cite the following from an IRS FAQ, which I lifted in its entirety:

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When must an employer make salary reduction contributions under a SIMPLE IRA plan?

The employer must make salary reduction contributions to the financial institution maintaining the SIMPLE IRA no later than the close of the 30-day period following the last day of the month in which amounts would otherwise have been payable to the employee in cash. The Department of Labor has indicated that most SIMPLE IRA plans are also subject to Title I of ERISA; also, under Department of Labor regulations at 29 CFR 2510.3-102, salary reduction contributions to these plans must be made to the SIMPLE IRA as of the earliest date on which the contributions can reasonably be segregated from the employer's general assets, but in no event later than the 30-day deadline described above. These rules also apply in the case of self-employed individuals. Thus, the latest day for the deposit of salary reduction contributions made on behalf of a self-employed individual for a calendar year is 30 days after the end of such year, which is January 30th.

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Most self-employed individuals don't know if they will have taxable income by 1/31! Has anyone else run into this issue? Has anyone seen a similar IRS position regarding 401(k) plans.

This is a common problem in partnerships where complex agreements make it difficult to determine what each partners profits are for the prior year for several months after Dec 31. Many calendar year partnererships do not issue K -1 until March 15th, the date the Pship return is due or even later if the firm files for a extension. The Pships withhold making contributions until the pship tax return is filed for a basic economic reason: Until the each partner's draw for the prior year is determined the firm doesnt know if the partner had enough income in order for the firm to make a contribution for the partner to the employer's plan. In some case partners are required to return part of their draw after the year ends because they didnt earn enough of their share of the firm's profits that had been advanced. Most accounting firms understand the problem and issue the K-1 which includes the amount of each partner's deferral under the plan only when the Pship return is completed which is usually well after the firm's tax year ends.

There is a PLR from abut 10 yrs ago that allowed a 401k contribution after year end for a partner as long as the firm was holding the contribution in its account as of year end.

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Some thoughts:

1. If the partners elected* a dollar amount, then they have no business waiting to know if they have taxable income. They made an election and need to follow through and deposit it. If it later turns out that they didn't have income to support the contribution, then they can take it out. If they elected a percentage, then they set themselves up for a difficult situation.

2. The brokerage firms have no business rejecting deposits after a certain date. Such deposits are simply "late," not "disallowed." Good luck fighting that one. If they refuse to accept it as a 2007 contribution, tell 'em it's for 2008 and document it.

*What's that, they're waiting to see if they made money before making an election? Tough, the election had to have been made by 12/31.

Ed Snyder

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They could always find another brokerage house. It isn't generally all that difficult to find an institution that will take your money. :shades:

As to the 30 day deadline - it seems to me that this is an unnecessarily rigid reading of the DOL regulation 2510.3-102(b)(2). I reproduced it below. To me, the "otherwise payable to the participant in cash" - in the case of a S/E or partner, can't reasonably be interpreted to be determinable until tax/income has been calculated!

(2) With respect to a SIMPLE plan that involves SIMPLE IRAs (i.e.,

Simple Retirement Accounts, as described in section 408(p) of the

Internal Revenue Code), in no event shall the date determined pursuant

to paragraph (a) of this section occur later than the 30th calendar day

following the month in which the participant contribution amounts would

otherwise have been payable to the participant in cash.

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  • 4 weeks later...

The 30-day rule in the Code is an administrative requirement. If not met, the contributions are not deductible; and likely treated as "wages." Since there are no deduction carryover provisions (or 6% contribution penalty) there are numerious (as yet unresolved) issues. The Code rule [iRC 408(p)(5)(A)(i)] does not mention the "payable in cash" provision mentioned by the IRS (see other post). [The employer must make salary reduction contributions to the financial institution maintaining the SIMPLE IRA no later than the close of the 30-day period following the last day of the month in which amounts would otherwise have been payable to the employee in cash] So, when would the amount have been payable to the owner in cash? Although treated as earned at end of taxable year; the amount might not be possible to determine (and pay in cash) until a later date.

The IRS's interpretation seems to giver more leeway than the Code which states that elective amounts must be made not later than the close of the 30-day period following the "last day of the month with respect to which the contributions are to be made." The DOL view is about "plan assets," the IRS's view is all about deductions.

It would appear that some additional guidance in this area is needed. However, without Congress doing something, the IRS may be at a loss. Until then the "strict" 30-day rule may very well apply.

See tortured facts and decision in Runyan v. Commissioner, T.C. Suppary Opinion 2006-58 (Apr. 19, 2005), below:

RICHARD C. AND MARY JO RUNYAN, Petitioners v. COMMISSIONER OF INTERNAL REVENUE, Respondent.

UNITED STATES TAX COURT Docket No. 4124-04S. Filed April 19, 2006.

Richard S. Avellone, for petitioners.

Steven W. LaBounty, for respondent.

COUVILLION, Special Trial Judge: This case was heard pursuant to section 7463 in effect at the time the petition was filed. 1 The decision to be entered is not reviewable by any other court, and this opinion should not be cited as authority.

Respondent determined a deficiency of $3,057 in petitioners' 2001 Federal income tax.

The sole issue for decision is whether petitioners are entitled to a deduction of $5,221 for the year 2001 for a contribution to a retirement plan under section 408(k)[p], commonly referred to as a SIMPLE IRA.

Some of the facts were stipulated. Those facts and the accompanying exhibits are so found and are incorporated herein by reference. Petitioners' legal residence at the time the petition was filed was Labadie, Missouri. Petitioners were not present at trial but were represented by counsel.

Petitioners filed a timely joint Federal income tax return for 2001, on which they reported the following income:

Wages and salaries $299,273

Taxable interest 12,537

Ordinary dividends 1,370

Taxable refunds and credits 235

Schedule C, Trade or Business Income 10,384

Schedule D, Capital Losses (3,000)

Total income $320,799

On line 29, Self-employed SEP, SIMPLE, and qualified plans, of Form 1040, U.S. Individual Income Tax Return, for the year 2001, petitioners claimed a deduction of $6,788. In the notice of deficiency, respondent determined that $1,567 of that amount was allowable as a SEP contribution, and $5,221 was disallowed. Thus, of the $6,788 claimed on line 29 of their return, $5,221 was not allowed as a qualified plan deduction. The issue, therefore, is whether that $5,221 is allowable as a pension plan contribution. 2 Petitioners contend the $5,221 represented a contribution to a SIMPLE IRA. That is the sole issue for decision.

Although respondent determined that petitioners had not proven that they paid $5,221 toward a qualified pension plan, petitioners at trial, through their attorney, presented documentation that petitioners had made a payment of $6,788 on April 25, 2002, to Northwestern Mutual Life Insurance Co. Based on that documentation, petitioners maintain that this amount represented a contribution to a qualified plan. The claimed contribution was in connection with the self-employment activity of Richard C. Runyan (petitioner). The documents offered into evidence characterized the $6,788 as a contribution to a simplified employee IRA, which is commonly referred to as a "SEP". Such a plan is different from a SIMPLE plan or a SIMPLE IRA. 3 Petitioners contend, nevertheless, that they properly established a plan by executing Form 5304-SIMPLE, Savings Incentive Match Plan for Employees of Small Employers (SIMPLE), which is not required to be filed. A copy of that document, however, was not produced at trial, nor was any evidence offered to show whether Northwestern Mutual Life Insurance Co. mischaracterized the $6,222 as a SEP.

Petitioners' 2001 Federal income tax return was signed on April 14, 2002, and was presumably filed on that date. The return was prepared by the attorney who represented petitioners at trial, who is also a certified public accountant.

Both SIMPLE and SEP plans are considered and treated as versions of an IRA. The authority for a SIMPLE plan is section 408(p). A SEP, on the other hand, is defined in section 408(k). The differences between SIMPLE and SEP plans are not material to the issue in this case. 4

Section 408(p)(5)(A)(i) requires that the contribution to any SIMPLE retirement account must be made not later than the close of the 30-day period following the last day of the month with respect to which the contributions are to be made.

In this case, the claimed contribution was in connection with petitioner's self-employed activity. Thus, the last day of the business year for that activity was December 31, 2001. Petitioners, therefore, were required to make their SIMPLE contribution on or before January 31, 2002. The evidence presented by petitioners at trial, which came from Northwestern Mutual Life Insurance Co., the trustee for the trust, shows that the $6,788 payment by petitioners was received on April 25, 2002, and "Payment Processed on 04/26/2002". That payment, which includes the $5,221 at issue, was not a timely contribution for the year 2001 as a SIMPLE IRA contribution. Respondent, therefore, is sustained.

Reviewed and adopted as the report of the Small Tax Case Division.

Decision will be entered for respondent.

1 Unless otherwise indicated, subsequent section references are to the Internal Revenue Code in effect for the year at issue.

2 Two other adjustments in the notice of deficiency have been conceded by petitioners: Unreported interest income of $182 and a $2,136 distributive share of partnership income (Tomco Realty, LLC).

3 The term SIMPLE means Savings Incentive Match Plan for Employees of Small Employers. The plan is effected by signing Form 5304-SIMPLE, which is not filed with the IRS. A SEP means Salary Reduction Simplified Employee Pension and originates with execution of Form 5305-A, Salary Reduction Simplified Employee Pension. That form also is not filed with the IRS. Neither Form 5304-A nor Form 5305-A was offered into evidence at trial.

4 Respondent agreed that petitioners had a qualified SEP plan during 2001 and made a contribution of $3,000 to Northwestern Mutual Life Insurance Co. for the year 2001. In the notice of deficiency, respondent determined that $1,567 of the $3,000 contributed was allowable as a deduction based on an information return, Form 5498, IRA Contribution Information, SEP contributions, filed by Northwestern Mutual Life Insurance Co. It does not appear that a Form 5498 was issued by Northwestern Mutual Life Insurance Co. for the $5,221 at issue in this case.

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