FICA Taxable ?

[Guest elg]

Hi All,

I am the owner and single employee of my LLC, taxed as an s-corp.

This year I set up a defined benefit plan for myself, paid from the LLC.

I *think* this DB is a qualified plan. Vesting is either immediate, or after a year (I'll have to check my plan.)

While I am clear that neither FICA or income taxes are paid on the contributions the year they are deposited, while distributions in retirement are treated as income and subject to income taxes, I remain confused whether the contribution amounts are subject to FICA taxes in the future.

Non-qualified defined benefit plans ARE subject to eventual FICA taxation. How about this plan ?

Thanks much!

Eric

[david rigby]

You have (almost) answered your own question. Distributions from a qualified plan are not subject to FICA. But, since you expressed some doubt, it would be prudent to make sure your plan really is qualified (which is more - much more - than just asking the "salesperson"). Got an accountant? an attorney?

[Andy the Actuary]

Agree with Mr. Rigby. You'd be hard-pressed to negotiate with the IRS based upon information published on a public bulletin board.

[BG5150]

Agree with Mr. Rigby. You'd be hard-pressed to negotiate with the IRS based upon information published on a public bulletin board.

Darn, Andy. I usually just mimeograph posts at BL and send them to my clients to help in their defense during audits and investigations.

[Andy the Actuary]

Mimeograph??? You mean the aluminum cyllinder to which you affixed a purple gelatin sheet and then sniffed the resulting product dry?

[GMK]

Absolutely! And the purple gelatin makes your purple cape flap, too ... or it used to did.

[BG5150]

Mimeograph??? You mean the aluminum cyllinder to which you affixed a purple gelatin sheet and then sniffed the resulting product dry?

Brings back fond memories of grammar school.

[Guest elg]

Thanks for the replies folks.

David: Little do I know, but I do know not to ask salespeople questions

The actuary group that set up my DB plan replied as you did, that qualified accounts do not have distributions subject to FICA. I thought it best to have a second opinion since I do not have much experience with this office yet, and I cannot wrap my head around the tax (or lack thereof) rationale. After all, the common DC plans e.g 401(k), SEP, SIMPLE etc are also qualified, yet are subject to FICA (that happens to be taxed the year the earnings are made.)

I take this to mean that just the fact that a plan is qualified does not by itself imply FICA taxation exclusion. I'd be curious to know *what* the rationale is.

[david rigby]

In general, FICA taxation applies to "wages". Internal Revenue Code section 3401 defines "wages" as everything except for specific exclusions. The actual language is: "all remuneration ... for services performed by an employee for his employer, including the cash value of all remuneration (including benefits) paid in any medium other than cash; except that such term shall not include..."

This section goes on to list several exceptions, one of which is qualified plans.

[Guest elg]

In general, FICA taxation applies to "wages". Internal Revenue Code section 3401 defines "wages" as everything except for specific exclusions. The actual language is: "all remuneration ... for services performed by an employee for his employer, including the cash value of all remuneration (including benefits) paid in any medium other than cash; except that such term shall not include..."

This section goes on to list several exceptions, one of which is qualified plans.

I'm being dense, sorry.

If qualified plans are not wages, and FICA is taxes on wages, then

Why e.g. is a 401k subject to FICA taxation ?

-- Eric

[ESOP Guy]

In general, FICA taxation applies to "wages". Internal Revenue Code section 3401 defines "wages" as everything except for specific exclusions. The actual language is: "all remuneration ... for services performed by an employee for his employer, including the cash value of all remuneration (including benefits) paid in any medium other than cash; except that such term shall not include..."

This section goes on to list several exceptions, one of which is qualified plans.

I'm being dense, sorry.

If qualified plans are not wages, and FICA is taxes on wages, then

Why e.g. is a 401k subject to FICA taxation ?

-- Eric

Because you are defering part of your wages into the 401(k) plan.

Also, Congress needed the revnue.

[Lou S.]

ESOPguys response in on point but I'll add.

In the IRS’ wisdom when 401(k) plans came about they called them CODAs standing for Cash of Deferred Arraignments where you would enter into the great sounding “Salary Reduction Agreement” - (later renamed the Enrollment Form) because as the commercial says "Who doesn't want more cash?" Apparently the IRS believed we were all playing the part of the baby who doesn't want more cash. I mean who doesn’t want a Salary Reduction Agreement? Only the IRS could have come up with that terminology.

So employee contributions 401(k) are technically wages subject to FICA but employer contributions such as DB, profit sharing, SEP, match, etc. are not treated as wages and are not subject to FICA. Unless you are self-employed but that's a whole nother can of worms.

So for now at least money coming out of plans is not subject to FICA and some money going into plans is also not subject to FICA.

[david rigby]

"Why e.g. is a 401k subject to FICA taxation?"

Better answer: because we are talking about what comes out of the plan. Distributions from a qualified plan are not subject to FICA. Note that the employER contribution account(s) in the plan (in the form of match and/or other contributions) are also exempt from FICA taxation when distributed.

[masteff]

If deferrals were not subject to FICA then a person over age 59 1/2 could potentially use the 401(k) to avoid FICA. Some plans allow unrestricted withdrawals over age 59 1/2 and the 10% early withdrawal penalty ceases to apply at that age. Thus such person could potentially defer the maximum and then withdraw it immediately, bypassing FICA. In your opinion, would it be desirable to let people over age 59 1/2 to game the system to avoid FICA tax?

[Guest elg]

Thanks all, this has been educational and helpful. A login problem prevented me from participating for a few days; my thanks to Dave for the quick fix.

David Rigby wrote

Note that the employER contribution account(s) in the plan (in the form of match and/or other contributions) are also exempt from FICA taxation when distributed

Excellent point.

My plan TPA had this to say:

I can confirm that your qualified defined benefit plan contributions are not subject to FICA taxation. And you are correct on the 401(k), 403(b), and 457 FICA taxation for employee deferral contributions. I asked an attorney in our office with a good amount of taxation law knowledge what he thought the IRS “logic” is behind this. It seems that the reason the employee deferral type of contributions in 401(k), 403(b), 457 plans are subject to FICA taxes is that the IRS considers these as wages paid to the employee prior to them being contributed to the plan. Employer contributions to your defined benefit plan on the other hand are not considered to be wages at the time of contribution, and following the rules of qualification that the IRS has laid out yields the benefit of exemption from FICA taxes for these at the time of distribution. My take on it is, the IRS is essentially promoting employer assistance in the retirement savings of its employees – you just have to play by their rules.

I'm confident now that current rules exclude qualified DB plans from FICA. The rationale sure seems shaky though, so I'll try to get my contributions in sooner rather than later and hope any changes will not be retroactive.

[frizzyguy]

I'll blanket everyone's conversation with this little nuggest of knowledge:

"IRS CIRCULAR 230 Disclosure: Under U.S. Treasury regulations, we are required to inform you that any tax advice contained in this e-mail or any attachment blog is not intended to be used, and cannot be used, to avoid penalties imposed under the Internal Revenue Code unless it's found on something printed through a mimegraph or microfiche."