limitation years

[Belgarath]

I always find the possible interrelationships of plan years, limitation years, compensation periods, and deduction periods somewhat challenging. Suppose you have a DB plan, with a calendar plan year 2001. Can they have a limitation year of 1-2-01 to 1-1-02, therefore allowing the higher EGTRRA limits? It seems to me that thay can - if so, what would be the down side, if any? Appreciate any comments.

[Mike Preston]

Confusion? Why not just go with 2/1 through 1/31? Of course, since this is post 12/31/01 there are no choices, are there?

[Belgarath]

It was a question posed by someone who is already doing it! So I was curious as to what opinions people might have about this.

[AndyH]

What are the deduction rules if, for example, you are a calendar fiscal year and put in a 2/1-1/31 plan? This has always been foggy to me.

[FAPInJax]

My understanding is that you can:

1 Plan year ending in the fiscal

2 Plan year beginning in the fiscal

3 Prorate

[AndyH]

Thanks.

As a followup, wouldn't the plan need to be signed by 12/31 to take a deduction for the first 12/31?

[david rigby]

Yes.

To elaborate on Frank's alternatives: the method chosen is an accounting method. The plan sponsor chooses it the first time. To change it may require prior IRS approval.

[AndyH]

Interesting.

I've seen inconsistent accounting treatment of off-fiscal year plans many times, and always wondered about it.

Are there any accountants out there who can point to any concrete standards or IRS procedures?

[Mike Preston]

Andy, check out 1.404(a)-14©. It is the cite that lays out the 3 alternatives and confirms that a change requires IRS approval. But keep in mind that this is the determination of maximum deductible, not the determination of minimum funding. It is possible that the plans you have seen use inconsistent treatment have been taking deductions which were not based on the absolute maximum, or were taking advantage of 1.404(a)-14(e)(1), dealing with "includible contributions".

[Belgarath]

Thanks for the comments. Now, let me throw in another twist. Turns out the employer is self-employed. If I'm interpreting

1.415-2(d)(2)(ii), and (d)(4) correctly, the self-employed couldn't have a limitation year as originally described in this post. Alternatively, I suppose one could argue that the compensation would be calendar year 2001, but you could still have a limitation year different from compensation period, thus ending in 2002 and taking advantage of higher EGTRRA limits. I find this unpersuasive, but it's all I can think of if they are attempting to justify what they are doing.

[Mike Preston]

When I read those sections, I don't see a restriction on the limitation year. A sole prop that has a 1/31/xx limitation year typically uses compensation paid during that limitation year as 415 comp. For this purpose, as with partnerships, earned income is deemed to hit on the last day of the tax year (in this case 12/31/2001) which falls in the 2/1/01 through 1/31/02 limitation year. Maybe I missed something but why do you find the argument unpersuasive.

[Belgarath]

Mike - I started off thinking exactly as you do on this. And maybe I'll get back to that by the time I'm done. I'm just getting hung up on using compensation actually earned outside of the limitation year. If the method you are suggesting is valid, then to take an extreme example, you could have a plan year of

1-1-01 to 12-31-01, with a limitation year of 12-30-01 to 12-29-02, and yet use calendar year 2001 compensation for plan purposes because it was "paid" "within" the limitation year.

Maybe this is fine - it just doesn't feel right to me. And yet if the method is ok for a 1 day overlap, then it must be ok for a longer one as well. Do you know of any PLR's, ASPA meeting questions, etc., where this has ever been addressed? Regardless, I appreciate your input on this - I find it very helpful to have discussion of these items to help focus my thoughts.

[Mike Preston]

I can't recall any specific court case or cite that is directly on point. I believe, however, that the IRS has consistently stated from the podium that this is the correct position. I don't have time to look it up this morning, but I also thought that there was the ability to use compensation earned during the calendar year that ends within the limintation year as 415 compensation. But I might be misremembering that, as I haven't worked on a case that used it, so I never have had to verify that in operation. But, if that exists, the extrapolated result you posited would be perfectly ok, even if the compensation wasn't deemed to be earned on 12/31.