Lori Friedman

Based on the limited information that you have, I believe that the employer would be providing taxable employee compensation. I'm guessing that this isn't the employer's intention. If the employer's goal is to provide tax-free educational benefits for both employees and their dependents, there are two approaches that might work: 1. Adopt an I.R.C. Sec. 117 qualified scholarship program for employees and their children and other dependents. The benefit requirements are described in Rev. Proc. 76-47. 2. Adopt both an I.R.C. Sec. 127 qualified education assistance program (qualified EAP) for employees and an I.R.C. 117 qualified scholarship program for family members. Here's a brief summary of a Sec. 127 qualified EAP: - There's no requirement that the education be job-related or for improving job skills. - The benefit is nontaxable to an annual maximum of $5,250. - The plan must exclusively benefit employees; it can't cover the education expenses of family members. - A qualified EAP plan can't discriminate in favor of highly-compensated employees. - There's no Form 5500 filing. There are numerous Internal Revenue Code sections that provide excludable (or partially excludable) educational benefits. If the employer determines exactly what types of education it wants to fund, and for whom, it can probably find the right fit for its resources and objectives.

The employer needs to make a few decisions: 1. Who can receive educational benefits? Will participation be limited to employees, or will benefits also be provided to employees' spouses and/or dependents? 2. What type of education? Will benefits be limited to job-related training and education, or will the plan also provide non-job-related educational benefits? 3. Does the employer intend to make the benefit non-discriminatory, or will it be restricted to executives, managers, and other highly-compensated individuals?

In general, a welfare benefit plan doesn't file Form 5500 if it (1) had fewer than 100 participants at the beginning of the plan year and (2) is "fully insured" and/or "unfunded". "Fully insured" means that plan benefits are provided exclusively through insurance contracts or policies. "Unfunded" means that the plan didn't: (1) Receive any participant contributions during the plan year. Contributions made through an I.R.C. Sec. 125/cafeteria plan aren't treated as participant contributions and, thus, don't make the plan "funded" (2) Use a trust or other separately-maintained fund, including an I.R.C. Sec. 501©(9) VEBA. The same plan generally files a Form 5500 when it has 100 or more participants at the beginning of the plan year, but with limited reporting requirements. If you find these rules confusing, you have plenty of good company. It can be a real challenge to determine whether a welfare benefit plan exists (as compared to a fringe benefit plan or some other general employee benfit), whether it's fully insured and/or unfunded, and whether there's a Form 5500 filing requirement. You can find some helpful information at the 2007 Form 5500 instructions, p. 3 and Dept. of Labor Reg. 2520.104-20(b).

It sounds as if your employer's mixing apples and oranges. The $5,000 limit is for dependent care benefits, not for FSA. There's no statutory or administrative limit on an annual FSA election. As JSimmons discussed, however, an employer has very valid reasons for wanting to place a reasonable cap on FSA contributions.

I can think of 3 valid situations for someone to receive both a Form W-2 and Form 1099-MISC from one company in the same year: 1. Not concurrent. An individual retires and then becomes a consultant to the former employer, serving in a very different capacity and under the terms of a new agreement. 2. Not concurrent. An independent contractor gets hired as an employee. 3. Concurrent. An employee performs services that are (1) separate from and beyond the scope of normal and traditional job duties and (2) otherwise classified as independent contracting. Here are a couple of real examples that I've encountered: An administrative worker plays the piano. His employer hires him to perform at the company's holiday party and other special events. The individual controls his performances -- he has the right to accept or decline an engagement, and he decides what songs to play, when he takes his breaks, etc. The musical performances are completely disparate from the employee's administrative job. An office employee is hired to prune trees and shrubbery on the company's grounds. The individual uses his own landscaping tools for the additional work, he determines how and when to do the work, and he's paid a flat fee (not an hourly wage) for maintaining the trees and shrubs. The landscaping work has no relation, whatsoever, to the individual's office job duties. Noted -- If an employer issues a Form W-2 and a Form 1099-MISC to one individual for a single year, the IRS might inquire about the situation. When the employer has valid, legitimate reasons for classifying someone as both an employee and an independent contractor, however, the situation will be simple to explain.

Here's an excerpt from the PPC 5500 Deskbook: If you agree with PPC's analyis and position, the answer is "well, it depends".

In my opinion, the "Schedule of Assets (Held At End of Year)" must provide the detailed information for each item on Schedule H, Line 1c (investment assets), unless the instructions specifically say that the detail isn't required. Examples are plan participant loans and participant-directed brokerage account assets. Also, the schedule attachment discloses information that isn't reported on Schedule D, such as the DFE's cost basis and number of units held. The Form 5500 filer gets to lump all of the income from the DFE -- interest, dividends, realized gains, and unrealized gains -- on Schedule H, Lines 2b(6) - (9). The DFE has already filed its own Form 5500, so the investing plan isn't required to repeat the effort by reporting each type of income separately. The same's true for registered investment companies -- Schedule H, Line 2b(10) -- but for different reasons.

Just curious...what WOULD you do about this situation? Let's say that a welfare benefit plan has existed for a long time -- decades, perhaps -- and has never filed a Form 5500. It would be impossible to assemble the information needed to prepare all of the overdue returns; nobody retains records for that many years. Is there a Dept. of Labor corrections program that's geared to fixing this sort of problem?

You mention that the business owner would receive his compensation in approximately 8 months, which would be during February 2009. Have you thought about using the 2-1/2 month rule? Assuming that the business will have the cash resources to pay the individual as expected, his delayed compensation can avoid 409A. Also, if the C corporation has a calendar tax year, it can take a 2008 deduction for the compensation expense.

An individual (over age 59-1/2 but under age 70-1/2) wants to take as-needed distributions (unequal and nonperiodic) from her profit sharing plan. I believe that: 1. These amounts will be eligible rollover distributions and, thus, subject to the mandatory 20% income tax withholding. 2. The only way to avoid the mandatory 20% withholding tax is to rollover the qualified plan assets to an IRA and then take the distributions. (Note - The individual is phasing out her business, no longer wants to make any plan contributions, and intends to do an IRA rollover/plan termination to avoid future filings of Form 5500-EZ.) Am I correct? (Yes, I know that there's no such a thing as a Keogh plan. I use the term as short-hand for a qualified plan sponsored by a self-employed individual with no employees. All of you who get tense over the use of the "Keogh" term -- please don't smack me around.)

I made a leap of faith and assumed that CJA meant to ask about state income taxation and withholding, and that the "FICA" reference is a typo.

Hey...what do you have against outhouses?

Unfortunately, I've never located such a chart or other document. I always end up doing the research on a state-by-state basis. Your post refers to 401(k) deferrals, but it's worth mentioning that a state may have different laws governing different types of deferred compensation. For example, a state might treat 401(k) deferrals in one manner while treating 403(b) and 457(b) deferrals under other rules (if I recall, New Jersey is a good example).

I agree with JanetM's statement, but it might be worth mentioning that Joe's 5 franchises will, indeed, form a controlled group.

This is something that's very frustrating about hardship distributions -- the law provides broad and general explanations of what constitutes a permissable distribution, but there's little or no guidance about specific circumstances. Under Reg. Sec. 1.401(k)-1(d)(3)(iii)(B)(1), a plan can make hardship distributions for costs directly related to the purchase of a principal residence. Yet, the term "principal residence" isn't defined in the context of I.R.C. Sec. 401(k). My opinion -- look elsewhere in federal tax law for what qualifies as a principal residence. I.R.C. Sec. 121 is the law that entitles a taxpayer to exclude part or all of the gain from a sale of a principal residence. For the purposes of this Code section, a principal residence includes a house or apartment that the taxpayer is entitled to occupy as a tenant-shareholder in a cooperative housing corporation [Reg. Sec. 1.212-1(b)(1)]. Because Sec. 401(k) leaves us hunting for a definition of "principal residence", this is the one that I would use. NOTE: A "cooperative housing corporation is defined in I.R.C. Sec. 216(b)(1) and (2).

I don't want to post a lengthy document at this Message Board, so I'm sending the regulation sections to you by email.

Bearlee, I'm guessing that you're referring to an I.R.C. Sec. 457(f) arrangement provided by an exempt organization, not by a governmental unit. The issue is: Who's eligible to participate? There's an inherent conflict between ERISA and Sec. 457(f). ERISA requires that any deferred compenstion plan be funded by a trust (or annuity contracts/custodial accounts), yet an exempt organization's Sec. 457(f) plan must be an unfunded arrangement. A 457(f) plan will violate ERISA, therefore, unless the following exception applies -- participation must be limited to top-hat employees (a select group of management or highly compensated employees, determined by the facts and circumstances). If participation is thus limited, the plan isn't subject to ERISA. Please see: ERISA Sec. 201(2) ERISA Sec. 301(a)(3) ERISA Sec. 401(a)(1) Also, in Advisory Opinion 90-14A, the Dept. of Labor stated that amounts deferred under a top-hat arrangement are not plan assets that must be held in trust.

Thank you for your quick help, Don. I actually calmed down long enough to find the information's authority, which is ERISA Technical Release 92-01. It turns out that the Technical Release refers to "participants", not to "employees": So, I think it's clear that any participant contributions, whether from active or former employees, will cause a plan to be funded.

The Dept. of Labor has determined that a welfare benefit plan isn't unfunded if employees contribute. The benefits aren't paid solely from the employer's general assets and, therefore, the plan doesn't qualify as unfunded. Does the term "employees" encompass both active and terminated employees? Here's the situation: There's a life insurance welfare benefit plan. The employer pays 100% of the premiums for its active employees. If retirees want to participate, however, they're required to pay their own premiums. I believe that this is a funded plan.

An exempt organization's I.R.C. Sec. 457 arrangement has no Form 5500 filing requirement as long as it keeps to its intended purpose -- to provide deferred compensation opportunities to "top hat" individuals. If the arrangement covers rank-and-file workers, it becomes subject to ERISA and is required to file a Form 5500.

Thank you so much for your good analyses. I'm now very comfortable about treating the book gain as a realized gain.

Plan A and Plan B were related (multiemployer pension plans for the same international union). Plan A transferred 100% of its assets to Plan B. Plan B is the surviving plan, and all of Plan A's participants are now participating in Plan B. No, the assets weren't sold; they simply packed up and moved to a different address. That's why there's no realized gain. That's also why I have no idea how to disclose Plan A's pre-transfer unrealized gain for the year. The assets transferred at FMV, so the unrealized gain is embedded in the amount of the transfer.

Plan A terminated by transferring all of its assets/liabilities to Plan B. The transfer occured on the last day of Plan A's year. There's a substantial unrealized gain for the year. But, I believe that a terminated plan can't report an unrealized gain; there's $0 asset FMV at the end of the year and, thus, no unrealized gains or losses. 1. Do you agree? 2. If yes, how do you treat the unrealized gain on Schedule H? I can't report it on Line 2b(4) because the amount wasn't, well, realized. Do you simply plug the amount to "other" interest?

Did the business get a new EIN? A sole proprietorship is required to have a new EIN when it incorporates. I mention this rule because it's often overlooked.

An afterthought... The Dept. of Labor doesn't seem to understand the directions for filing an amended Form 5500. The form's instructions say, "Attach any schedules or attachments that are being changed from the prior filing. Do not attach schedules and attachments that are not being changed. Do not attach schedules where only attachments are being amended. Only identify schedules that are being amended on line 10 of Form 5500." It all seems clear and simple. Yet, on the rare occasions that I do file an amended Form 5500, I always get a Dept. of Labor notice stating that the return is incomplete, and that I haven't checked all of the required boxes on Line 10! Then, I write the inevitable response letter, explaining the rules to the very people who should know them. This probably happens because Form 5500 is now sent directly to the Dept. of Labor, but the IRS continues to write the form's instructions. That's my rant for today. I'm feeling much better now, thank you.