Gary Lesser

Does anyone have any additional information on any of the above 3 Qs?

The termination of the plan is an amendment (even if contributions will continue to years' end). Participants should be so notified. Also, if contributions were made for CY that include the new QP's plan year, then they should also be informed that the amounts contributed will be included on their W-2 and that they all have excess SIMPLE contributions, how to remove them, and so on. Depending on the QP's definition of compensation, such amounts may have to be treated as compensation under the new plan [and may also be subject to FICA and FUTA -- and FIT withholding (since the amounts are not under a plan to which Code Section 408(p) applies regardless of whether it was reasonable at the time the contribution was made that the contribution would be excluded from income, see IRC 3121(B)(5)(H) and IRC 3401(a)(12)(D)]. Unfortunately, we have very little guidance on this and it is likely that the trustee/custodian may treat any distributions--if under age 59 1/2-- as subject to the 25% tax (althought the IRS says, very unofficially, that it isn't subject to the 25% tax)--which does not mean to say that isn't subject to the 10% tax (although it sdn't be subject to either, but try to convince the trustee of that.] All this being said, employees may also have rights under state law.

A SE pays SET on his or her NESE which is not the same as EI for plan purposes. Thus, contributions are subject to SE tax. But a SE does not pay tax on their SE tax, and Schedule SE provides for an "in lieu" deduction of 7.65% in computing NESE. This was called parity some years ago. If not SE the individual wd have to draw a higher W-2 amount and then the employer wd make the contribution. So they reduced compensation (EI) by the contribution to make everyone equal. In general (although there are some issues here, see below), ultra net EI is used for calculating owner contributions and the 25% deduction limit. That amount (the 25% limit) plus the elective contributions contributions are ostensibly deductible under IRC 404. But under 402(h), any amount that exceeds 25% of the ultra net EI, plus up to $1,000 (if catch up contribution of $1,000 is made). Yes it's confusing and everyone is suffering--bad advice will be rampant--I only hope I'm right!. Put another way-- (1) The initial deduction limit is 25% of pre-plan EI (after subtracting all owner contributions and the SE tax) OR 20% of pre-plan EI (prior to having deducted contributions, but after deducting SE tax). It is not clear whether the catch up amount is excluded from EI in this calculation. I do not think it is. (2) That amount plus the elective contributions and catch up contributions are then ostensibly deductible. [but see below] (3) Even though ostensibly deductible, to the extent the contribution/allocation exceeds 25% of includible compensation (ultra net EI) it's included in income (not really all deductible if 25% limit exceeded if self employed), up to $40,000. If age 50 or older, add the catch up contribution to that amount (up to $1,000), but not more than $41,000. Other issues, e.g., the 100%/415 limit are also unclear. SEE FIRST "STICKY" post regarding IRS Q's for 2002]

SIMPLE IRA plans are not currently covered by the EPCRS. It is possible that the IRS district office would use the general delegation order dealing with closing agreements [D.O. 97]. If the money was indeed deducted from the employee's pay check and not timely forwarded, then there has been a prohibited transaction under ERISA. It is also entirely possible that someone has stolen the funds. I'd suggest hiring an ERISA attorney and consider dealing with the local IRS. If the accountant can't find it, then perhaps the local police should be notified. Surely, the funds can be traced. In regard to the SIMPLE IRA - it is now a "complex" and all of the contributions (for the years involved) are excess contributions and should be reported on corrected W-2 forms. The employer is also subject to the 10% tax on nondeductible contributions. The IRS has not issued any guidance on excess SIMPLE IRA contributions. It is interesting to note that Form 5329 does not provide for such excess. Form 5330 doesn't seem to apply either because a SIMPLE IRA is not a traditional IRA (which is provided for).

In the absence of well-established guidance, the position of the IRS regarding excess contributions to a SIMPLE 401(k) plan is, at best, unclear. Several possibilities exist, some of which offer solutions: 1. The plan becomes a traditional 401(k) plan and is taken out of the realm of a SIMPLE 401(k). In the authors' opinion, this is an unlikely choice because of the information provided to the participant by the plan regarding the manner in which the plan would operate for that plan year. 2. The plan becomes a “bad” SIMPLE plan or a plan with a “bad” contribution allocation. Correction should be made under the EPCRS. 3. It may be possible to correct the excess contribution if plan contributions are the result of a mistake of fact. [ERISA § 403©(2)(A)] In the authors' opinion, this option is least likely; furthermore, the IRS has not included excess SIMPLE contributions as a clear mistake of fact. 4. It may be possible to correct the excess contribution (in accordance with plan provisions) if plan contributions are conditioned on their deductibility and the deduction for the contributions is subsequently denied. [ERISA §§ 403©(2)©, 4972©(2)] In May 1999 the IRS informally agreed with propositions 2 and 4 above. [General Information Letter issued to Gary S. Lesser, May 18, 1999; see also Rev Rul 91-4, 1991-1 CB 57. Obviously, a practitioner should proceed with caution when dealing with excess contributions to a 401(k) SIMPLE plan until further guidance is provided by the IRS.

Terminate the plan (Resolution of entity or sole-proprietor]. Provide copy of amendment with explanation of amendment. The 401(k) deduction limit is reduced by deductible contributions into the SARSEP. Overall limit on elective contributions apply to both plans in the aggregate. [iRC 404(h)(2)]

Bad notice, bad plan for year. No contributions, no plan for year. A formal termination of the plan is an amendment. A SIMPLE-IRA plan can be amended during the year. The amendment must be made effective as of the beginning of the CY, BUT must conform to the plan notice for the CY. Even if contributions were made and matched properly, the failure to provide adequate plan notice to employees would have turned all contributions for year into excesses (and the SIMPLE into a COMPLEX). Here, assuming no problems exist with regard to earlier years (before 2000), I see no reason why the employer could not make a 2000 P/S contribution (if under extension on the date the contribuion is made). It does not appear that the SIMPLE was ever implemented. Arguably, the adoption of the P/S plan (with an intention to make contributions) would be reasonable cause under Code Section 6693©(3) to abate the penalty for not providing the plan notices.

The use of the model form is not precluded provided service to any member of the controlled group is considered service for the "employer." Same rules if using a prototype or i.d. SEP.

Yes, except that any SEP allocation exceeding 25% of "includible" compensation, plus catch up contributions, is taxable to the participant (although such amounts may be deductible by the employer). Under Code Section 404, the deductible SEP contributions eat up the otherwise applicable P/S limit. Hope this helps.

Summary & comment: If the excess are reported in box 1 of Form 1099, the excess nondeductible contribution penalty (which is determined at the end of the year) is not subject to the 10 percent penalty. The excess amount cannot be returned to the employer, nor forcibly paid out to the employees. They are subject to a 6 percent tax unless the employee corrects timely and properly. All contributions to the SIMPLE generally become excess contributions if the employer maintains another plan covering any part of the calendar year the SIMPLE was established for. If any amount (elective or nonelective, or gain) is returned to the employER, both the employer and trustee/custodian have entered into a prohibited transaction under the Code and under ERISA. They may also be liable for theft, conversion, and possibly breach of fiduciary duty under state law.

Neither. Assets must be deposited as soon as they can reasonably be segregated from the employer's general assets, but in all events not later than 15 business days after the end of the month in which the payroll deduction is made. [DOL Reg Sec 2510.3-102]

Upon adoption of the qualified plan, all contributions in the SIMPLE for the year wd become excess contributions (and sd be reported in box 1 of Form 1040).

Yes. A tax-exempt organization may establish a SEP (but it could not have had a SARSEP).

The same as in a SIMPLE IRA. [iRC 401(k)(11)(D)(i)]

My mistake. Interesting concept. Could you provide me with more info. I assume this is not employee leasing, but more of a Merry Maid-type service. The employees of the NFP would have to be in a plan (of any type) established by the NFP (they may even establish a profit-sharing plan). NFP employees are not eligible to receive employer contributions from the individual households. While the law is silent on that exact point, it does not appear that these individuals are of the class to be benefitted by the new legislation--as they have an employer that is a trade or business. Traditionally, a domestic servant, in that capacity (as I believe envisioned by Cogress) , is not an employee of another organization. Hope this helps.

Additional Extensions. If a taxpayer's return has been timely filed without withdrawing the excess contribution, the amount may still be withdrawn without penalty no later than 6 months after the due date of the tax return, excluding extensions. If withdrawn within this period. file an amended return with "Filed pursuant to section 301.9100-2" written at the top of the amended tax return. Report any related earnings on the amended return and include an explanation of the withdrawal. Make any other necessary changes on the return (for example, if the contribution was reported as an excess contribution on the original return, include an amended Form 5329 reflecting that the withdrawn contributions are no longer treated as having been contributed. [Treas Reg Sec 301.9100-2; Instructions for Form 5329, Specific Instructions, Part IV (2001)] ** The 6% tax can be avoided because the individual may remove the adjusted excess before the due date of the 2000 and 2001 tax returns (see additional extension above). [iRC Sections 4973(B)(2), 408(d)(4)] The amount distributed to the individual is not taxable. The loss is not deductible unless (1) no funds remain in the owner's IRA account, and (2) total contributions exceeded total withdrawals. ** The amount contributed should be treated as a distribution to partner on the S Corp K-1. ** The 10% tax on nondeductible contributions would appear to apply for 2000, 2001, and 2002. Nondeductible contributions are determined at the end of the tax year. If the prior years' excesses are removed in 2002, the 2002 penalty could be avoided. [Form 5330]

Please explain how the individual is employed for TXO yet performs household duties for an unrelated employer (not generally treated as a trade or business). A prohibited transcation could result - see IRC Sections 503(a)(1) and 503(B). Would the owners pick up the value of the services in income? Who's really the employer????. That being said, if the "TXO museum" needs cleaning, then it wd be okay. Also, an individual can not be summarily deemed an employee of one entity when they actually perform services for another entity (the household). Including "nonemployees" in a plan could cause plan disqualification (or excess nondeductible contributions in a SEP).

Unfortunately, there is very little guidance. However, under EGTRRA [Act Sec 637© -- Conf. Comm Report (H.R. Conf Rep No 107-84) and House Committee Report (H.R. Rep No 107-51, pt1)]-it is written--- Explanation of Provision The 10-percent excise tax on nondeductible contributions does not apply to contributions to a SIMPLE plan or a SIMPLE IRA that are nondeductible solely because the contributions are not a trade or business expense under section 162 because they are not made in connection with a trade or business of the employer. Thus, for example, employers of household workers are able to make contributions to such plans without imposition of the excise tax. As under present law, the contributions are not deductible. The present-law rules applicable to such plans, e.g., contribution limits and nondiscrimination rules, continue to apply. The provision does not apply with respect to contributions on behalf of the individual and members of his or her family. No inference is intended with respect to the application of the excise tax under present law to contributions that are not deductible because they are not made in connection with a trade or business of the employer. As under present law, a plan covering domestic workers is not qualified unless the coverage rules are satisfied by aggregating all employees of family members taken into account under the attribution rules in section 414©, but disregarding employees employed by a controlled group of corporations or a trade or business. It is intended that the provision is restricted to contributions made by employers of household workers with respect to whom all applicable employment taxes have been and are being paid. Effective Date The provision is effective for taxable years beginning after December 31, 2001.

That's right. Employment does not seem to be required for initial eligibility, but would apply in the current year for eligibility to receive a contribution. Thus, only employees may participate, but eligibility only requires that "services" be performed for the employer. It does not appear that an employer-employee relationship is required for this purpose. That all being said, this would be a good point for a private letter ruling request. Since the entity is not a partnership, the partnership (or sole-prop) rules do not apply. The Durando case points this distinction out and holds that S Corp dividends (or other similar payments) are not treated as plan compensation.

The term "service" for SEP purposes has never been defined. It does not appear to require the payment of compensation nor require that the status of the individual be that of an "employee" for purposes of satisfying the service requirement. So for eligibility to participate, I think all periods of service sd be considered. Only an individual that is an employee in the current year wd receive a contribution. The owner, unfortunately, has no compensation upon which a contribution can be based. A distribution from a S Corp of profits or dividends is not treated as plan compensation. If it isn't on the W-2, it will not be treated as compensation. [Durando v US 19 EBC 219 (9th Cir, 1995)

It IS possible and is being done. But, the the nondeductible contribution (except for a SIMPLE after 2001) is most likely also subject to a nondeductible (and cummulative) excise tax. Thus, absent correction, the penalty increases each year and for each prior year. Whether, the amount is actually subject to the penalty has not been determined - but arguably it is. When form 5330 is not filed, the Statute of Limitations never starts. So, SIMPLEs after 2001 aside, there are problems, past, present, and future.

I thourougly agree. But, except for a SIMPLE after 2001, are the nondeductible contributions subject to a cummulative nondeductible excise tax? I do not believe that issue has been answered definitively.

The IRA used for a SIMPLE IRA must be a SIMPLE IRA.

Household workers (non-family) may generally be covered under a simple plan to the extent they are employees of the household. To the extent of their being employed by some other employer (a corporation you say) (not the household), the rules would differ depending on your facts. The IRS has little guidance on when a household worker is employed by a trade or business--the new legislation is a partial work around.

Then they are not household workers as envisioned by the legislation but employees of some "other" employer (performing some essential duties (no doubt)). What you suggest may possibly raise many other issues that only Derrin Watson could answer (e.g., compensation, employment, FICA, FUTA, SECA, deductible business and personal expense issues).