Gary Lesser

OLD LAW: Actually, contributions for household workers have been made in the past. Such contributions are generally not deductible (not generally a trade or business), and possibly subject to a 10 percent nondeductible contribution tax penalty. Believe it or not, the practice was not that uncommon. NEW LAW: For tax years after 2001, the 10 percent tax has been waived in the case of either a SIMPLE IRA or 401(k) SIMPLE (ONLY). [EGTRRA 637©-(d); IRC Sec 4972©(6).] It does not apply to family members and (Committe Report) is intended to apply only of all applicable employment taxes have and continue to be paid. Under the new law, no inferece is intended to be made with regard to prior law, i.e., whether a trade or business.

I requested information from a "high" friend at Treasury. Their reply, received on 7/26/02, is as follows-- "We talked with the IRS about this [the 3 questions below] and they are not prepared for us to go out with answers on these questions." [see NOTE at end; Q3 may have been aswered] Question 1: Integrated SEP -- Code Section 402(h)(2)(B) regarding the exclusion of an employer's SEP contribution provides for a reduction of the $40,000 limit. If, for example, a SEP plan were fully integrated (5.7%) at a $10,000 integration level, would the reduction for an HCE earning $100,000 of W-2 wages be (a) $570 [the integration level $10,000 x .057] or (B) $5,130 [the excess compensation of $90,000 x .057] under Code Section 402(h)(2)(B)? Based on the way integration used to work, $570 would appear to be the correct answer. But the language of IRC 402(h)(2)(B) suggests that the limit is computed separately with respect to each employee "by the amount taken into account with respect to such employee under 408(k)(3)(D)." This seems to suggest that the true benefit of integration is the excess compensation times the spread. Recent LRMs do not address this issue. Question 2: SARSEP-- Whether compensation used for the 25 percent 402(h) exclusion excludes catch-up elective deferrals? Assume $100,000 with an elective of $11,000 and a catch-up of $1,000. Is the maximum exclusion based on $88,000 or $89,000? Under IRC 414(v)(3)(A)(i) and (ii), $89,000 would appear to be the corect answer, otherwise (if $88,000 were used) the employer would not be able to contribute, on an excludable basis, $250 (that is, $89,000 x .25 versus $88,000 x .25). IRC 414(v)(3)(a)(i) specifically references IRC 402(h). 3. Question: SARSEP and 401(k) -- An individual, age 50, earning $13,000. elects to defer $12,000 of this amount into a SARSEP. The employer makes a $2,000 contribution. Although the employer receives a deduction for the full amount under IRC 404(n). In the case of a SARSEP, most of the contribution is includible in the participant's income under IRC 402(h). IRC 402(h) aside, does the $14,000 allocation exceed the 100 percent limit under IRC 415 or any other limit? Same facts, but a 401(k) plan? [see below] However, on July 30, 2002, the IRS issued and new publication that contains "draft" versions of worksheets that appear in other IRS publications. [Pub 918--Drafts of Worksheets in IRS Publications] In Publication 918, the IRS issued a draft of a worksheet for Publication 560 entitled "Deduction Worksheet for Self-Employed." This "draft" indicates that the sum of the employer contributions and the elective deferrals plus the catch-up contribution ($1,000 for 2002) may exceed the earned income (compensation) of the self-employed individual. Even if true, such a position would not apply to a common-law-employee or nonowner paid on Form W-2--Wage and Tax Statement. Arguably, the 100 percent of EI limit would not be exceeded in a SEP/SARSEP by the catch up amount, but Code Section 401(d) would appear to limit contributions to the amount of EI in the case of a qualified 401(a) plan. Example. Based on Publication 918, if a self-employed's earned income is $10,000 (after reduction for the 1/2 of the self employment tax deduction), the individual may contribute $2,000 as an employer contribution (25% x ($10,000 - $2,000)) plus defer $8,000 as an elective deferral, plus defer an additional $1,000 if age 50 or older--and still be within the 25 percent deduction limit under Code Section 404(a) (3)(A). This totals $9,000 as an overall contribution with compensation equaling only $8,000. It should be noted that the 25 percent deduction limit is based on the eligible compensation of all plan participants. Caution: The worksheets are subject to change before they are officially released. It is difficult to imagine the source of contributions that exceed an individual's earned income. As a general rule, an individual may only make elective contributions from amounts they would have otherwise received in cash, had the election not been made. With earned income of $15,000 or more ($16,140.27 before reduction for 1/2 of the self-employment tax deduction ($1,140.27) for 2002) this problem would disappear. In the authors opinion, the worksheet found in Publication 918 is likely to be corrected.

They must receive the match. A plan is a definite written arrangement; which presupposes that its terms will be followed. They can avoid the match by not making an elective deeferral (bet you knew that already). Perhaps they should go back (next year) to a non-Simple 401(k).

Mostly likely no.

Probably okay, assuming they do not have an existing interest in the LLP. The trustee will need to have the partnership valued each year, and extra fees will apply. I don't believe that TIAA/CREF is set up to have earmarked accounts, but I may be wrong

I guess you mean me. We all agree that elective deferrals reduced the base upon which the 25 percent exclusion is calculated under 402(h). The issue is whether catch-up elective reduce the base also. Example 1. Joe earns $10,000 and defers $2,000 of it into his SARSEP. Any employer contrbutions would be be taxable to the participant because only $2,000 of the total contributions can be excluded from Joe's income. ($10,000 - $2,000) x .25% = $2,000 Example 2. Same facts but Joe only $1,000. $2,250 ($9,000 - $1,000) is the maximum excludible contribution (assumes $1,250 of employer money). Example 3. Joe now earns $100,000 and excludes $11,000 and a catch up contribution of $1,000. THE PROBLEM -- How much can Joe receive, in total, without including any of it in income. (a) $89,000 x .25, or (B) $88,000 x .25. The IRS has indicated that (B) is correct. I believe that (a) is correct. The problem is if Joe is age 50 or older, if so, can only $2,000 be contributed and excluded, or must the $10,000 be reduced by the elective INCLUDING catch-up elective contribution. Hope this helps.

In Box 7 (now box 8 for 2002) enter all contributions made for during 2000. Includue those made in 2000 for 1999, but not those made in 2001 for 2000). The trustee does not report on the employer's tax year "for which" the contributions are being made. Similar rules apply in later years. See 2002 Instructions for Forms 1099R and 5498, page 13 (top right).

There are no audit requirements mandated by the Code.

The book is incorrect, at least half of the employees eligible to participate in the SARSEP must elect to defer something. Guidance on a minimum amount does not exist. [iRC 408(k)(6)(A)(ii)] Year 1: If none of the employees elected to defer anything, then there is really no problem. Year 2: 2 out of 3 is more than at least half, so the plan is okay for year. Can you provide me with the date and page so I can notify the author. Or, better yet, fax offending page to 317-254-0386 (no cover sheet needed).

I agree, BUT getting a SIMPLE document to allow for the non-union exclusions doesn't exist, so I suggested the PLR approach (assuming a QP wdn't be a better approach). As long as the SIMPLE IRA covered unionized employees only only, (it sd be okay)--said better, should receive a favorable ruling from IRS. The union must agreed to this or any other plan. To just open a plan for them (i'm told, without bargaining) is an unfair labor practice.

Well said. Actually, many of PT are true, but the facts have been misrepresented to make them appear that they have wider applicability. Among other things, to get an exemption for a PT, the interests of plan participants generally would have to be adversly affected if the exemption were not granted. As I am sure you wd agree, this rarely happens in an IRA.

Yes, in practice. See any model or prototype document package.

I have not seen any PT exemptions that allow an individucal to live in a house owned by their IRA. Many of the PT that would seem to stretch this concept were granted under very special circumstances and should be read before leaping to conclusions. The link I saw did not convince me of anything but that a twisted interpretation can lead to an equally absurd result. Purchasing an investment in something that the individual or a "related/disqaulifed, and so on" individual do not already currently have an interest in (directly or indirectly) wd seem, in and of itself, okay. What happens next is usually going to cause a self-dealing problem. Also, step transactions should also be avoided.

Probably, BUT you will need an individually designed plan (and a PLR for assurance) . See IRC 408(p)(2)(D)(i) and 219(g)(5)

If the employer is maintaining the plan of a predecessor employer, service with the predecessor must be treated as service for the employer. So it wd seem that a readoption is needed to definately count the service. [iRC Sec 414(a)(1)]. If the plan is not the plan maintained by the predecessor, then see 414(a)(2). I do not think regulations have ever been issued for subsection (a)(2).

If a prototype SARSEP (which allows for adoption with a QP) is combined with a P/S plan the elective and deduction limits are shared. Specifically, the PS contribution limit under 404 is reduced by the deductible amount contributed to the SEP/SARSEP. See IRC Sec 404(h)(2) and (h)(3).

Based on net profits of $6,500, her NESE is $6002.27 ($6,500 x .9235). $6002.27/1.03 = $5827.54 $5827.54 plus 3% of $5827.54 = $6002.27.

Try to think this through. If she has no salary she has nothing to defer. The plan cd lower its eligibility requirments, but then again, she has nothing to defer. Clearly, she needs some wages or salary. That being said, is she reporting any income from her services (for her noncash benefits) - those may qualify (and probably be subject to FICA & FUTA too).

It is unlikely that a signature is always required. See IRS Ann 93-8 (1993-3 IRB 61)

You could try a FOIA request at the IRS.

This is possible; with all SIMPLE IRA contributions becomming excesses. Didn't they know on 1/1 they had over 100 eligible employees last year??!!??

Contributions must be allocated in accordance with the document then in effect. Making contributions before and after an amendment could be a very tricky process (see subsection (f) of the regulation cited below). Best to make contribution after the amendment and before due date (including extensions). Arguably, two or three different allocation methods could result in a uniform allocation as well as under a netting concept. No firm guidance however--Prop Treas Reg Sec 1.408-7(e) reads as follows: (e) Requirement of written allocation formula-- (1) Requirement of definite written allocation formula. Employer contributions to a simplified employee pension must be made under a definite written allocation formula which specifies-- (i) The requirements which an employee must satisfy to share in an allocation, and (ii) The manner in which the amount allocated to each employee's account is computed. (2) Employer may vary formula. An employer may vary the definite written allocation formula from year to year provided the simplified employee pension arrangement is amended by the permissible date for making contributions to indicate the new formula.

It is possible that an IRS District Office would use the general delegation order dealing with closing agreements, D.O. 97.

See IRC Sec 402(g)(1), relating to the generall dollar limit of $11,000 for 2002 and requiring the individual to include in include amounts that exceed the dollar limit. IRC Sec 402(g)(3)(D) extends this limit to Simple plans. See, too, employee insructions on the back of Form W-2 (Copy C) for Box 13.

Employer contributions (including elective deferrals) under a SEP IRA or a SIMPLE IRA may NOT be recharacterized to another IRA. Amounts held in a SEP IRA or a SIMPLE IRA (after the two-year holding period has expired with respect to the SIMPLE IRA) may, however, be converted to a Roth IRA. [see, IRC Sec 408A Treas Reg § 1.408A-5, Q&A 5]. An amount converted from a SEP (to an IRA) can be recharaterized. [Appleby-- You are most certainly correct (next message). And I was wrong. I deleted a message and changed a few things so no one gets confused.--Thanks.]