Can a Prepaid PSP cont be deducted when deposited?

[Moe Howard]

Employer (corporation) has a PSP (with 7 participants). Employer deposited $40K into the plan in November 2007 and in January 2008 told the TPA to allocate $35K among 2007 plan participants and to let the plan hold the remaining $5K as a 2008 contribution.

Here's my question:

Can the corp deduct the entire $40K in 2007 (the year that employer paid the $40), even though only $35K is going to be allocated to 2007 participants ?

I've read that IRC 4972 says that a 10% excise tax penalty is imposed on contributions in excess of the deductible amount. But it fails to explain what the deductible amount is. In my case, is the deductible amount $40K or $35K ?

I'm aware that the maximum deduction in any one year is 25% of eligible wages. (Pleae note: 2007 eligible wages for the 7 participants is roughly $300,000. So max allowable 2007 contribution is $75,000 ... which is far less than both the $40K and 35K.)

[PLAN MAN]

If the employer's tax year is the calendar year, then the deductible amount is $40,000, all of which must be allocated as a 2007 contribution. The employer cannot prefund the 2008 contribution in November 2007.

The contribution must be deducted in the tax year in which it is deposited, with an exception for contributions deposited in the following year, but prior to the employer's tax filing deadline and allocated for the prior plan year.

[Moe Howard]

Plan man, thanks !

Is there any tax code or page from an IRS publication that clearly states what you are saying ? I'm having a terrible time trying to prove this to employer that the entire $40 must be allocated to 2007 participants.

Can employer choose to deduct $35K on 2007 return and pay 10% excise tax on the $5 ?

Can employer choose to deduct $35K on 2007 return and withdraw the $5K excess ?

I'm not all that familiar with IRS law.

[PLAN MAN]

See IRS Publication 560

Pub 560

[Moe Howard]

Nope Plan Man, Pub 560 does not address any of my above questions.

Pub 560 does discuss how to handle contributions that are more than the 25% deduction limit, but that is not my situation.

[Mike Preston]

The client is stuck.

/mantra on/

All of my clients know not to contribute before the end of the year, except for 401(k) deferrals. Leads to more problems than it is worth. I tell them that the gain on the contribution in advance will be greatly exceeded by the increased expense in consulting WHEN (not IF) an issue develops and it ALWAYS does.

/mantra off/

[Guest mjb]

See Rev Rul 76-28- contributions are deductible only in the tax year of the employer in which they are made to the plan or for the prior tax year if the contributions are made by the date for filing the employer's tax return for such prior year.

If the employer's 2007 fiscal yr ends on March 31 it would be possible for contributions made in Nov to be allocated in either the employer's 2007 or 2008 tax yr. Generally the only time the contributions are allocated beteween tax yr when they are made and the prior tax yr is when the amount contributed exceeds the amount of the deduction available for the prior tax yr. However, RR76-28 states that once the contributions are designated for a particular tax yr they cannot be changed which implies that the plan sponsor can chose between the two tax years when filing the return.

[Moe Howard]

Mike, thanks. But do you know the answers to my questions ? Can you kindly refer me to a tax code or page from some tax literature that answers my questions.?

If the client is stuck, then it must be due to the tax code. Where do I find the tax code that sticks him ?

[Mike Preston]

I don't think mjb's cite is on point. And, no, I don't have time to do the research on this particular point without being engaged by the client to do so. And since it would probably cost more than the amount involved, it probably isn't worth it to him.

Loosely speaking, though, it goes like this: The terms of the plan govern what happens. You know, that silly little requirement to operate a plan in accordance with its terms. Any contributions made during the year are usually referenced directly in the plan. There are limited circumstances where a plan establishes a suspense account. If the client doesn't fit into them, then the strong implication is that the monies can't be in a suspense account. If not, where then? How about "allocated under the terms of the plan."

The exception to this is with respect to monies contributed AFTER then end of the year and treated, for all purposes, as if they were contributed on the last day of the year. That is courtesy of 404a7.

If that isn't enough for your client, have them send a retainer check for, oh, $5,000 and I'll put chapter and verse behind the above.

[Moe Howard]

mjb, thanks .... but Rev Ruling 76-28 deals with a contribution made after the plan year has ended, and once the contribution has been deducted on the prior year return then you can't change your mind and try to deduct on current year return (via amended return I guess). But that is not my situation.

My situation is the pre-payment of a contribution.

Can a corporate employer contribute $5K in calendar year 2007 for plan calendar year 2008, and deduct the contribution on his 2007 tax return ?

The only answer I have received so far is from Plan Man, who says that the $5K has to be classified as a contribution for 2007 and must be allocated to 2007 participants. He referred me to Pub 560, but 560 makes no mention of Plan Man's belief, nor does 560 discuss a situation similar to mine.

[Guest mjb]

Mike, thanks. But do you know the answers to my questions ? Can you kindly refer me to a tax code or page from some tax literature that answers my questions.?

If the client is stuck, then it must be due to the tax code. Where do I find the tax code that sticks him ?

404(a)(6). See Pub 560 about P 13 under "When contributions are deemed made" for the explaination of Rev. Rul 76-28.

MOE: the RR states for what tax year the deduction can be claimed. There is no such thing as prepayment of a contribution for deduction under the IRC 404(a)(6) because all employers are regarded as cash basis taxpayers i.e, it is deductible in the tax year that is made with the single exception of allowing a deduction for a prior year if it is made by the date for fling the tax return with a 6 month extensions.

If Mike doesnt think my cite is on point then he can give us better authority. RR 76-28 has been the only cite for claiming the tax deduction for q plan for over 30 yrs.

What you maybe asking is a differnt Q- can an employer allocate contributions which are deductible to a single tax year to the suceeding or preceeding plan years.

[david rigby]

You can find Revenue Rulings here: http://www.taxlinks.com/

[Mike Preston]

What you maybe asking is a differnt Q- can an employer allocate contributions which are deductible to a single tax year to the suceeding or preceeding plan years.

May?

[Moe Howard]

Mike yes, that is a much better way to ask it.

Can the $5K be contributed in 2007 and deducted on 2007 calendar year corp return ..... but allocated to only 2008 participants (in 2008) ?

I would think not. Doesn't seem fair to 2007 employees who may not be participants in 2008.

But I realize that fairness has nothing to do with the US tax code.

[Mike Preston]

Mike yes, that is a much better way to ask it.

Can the $5K be contributed in 2007 and deducted on 2007 calendar year corp return ..... but allocated to only 2008 participants (in 2008) ?

I would think not. Doesn't seem fair to 2007 employees who may not be participants in 2008.

But I realize that fairness has nothing to do with the US tax code.

In case it hasn't been made abundantly clear by the previous messages, the answer is no, unless the plan has provisions in it for establishing an unallocated fund (usually referred to as a suspense account). Even then, I'd tell the client that the amount is then not deductible in 2007. I'm not sure it would even rise to the level of a deduction in 2008, though. So, if the client really, really wants to not allocate it in 2007, they can try to see if the document allows for a suspense account and then they can see if they are satisfied with allocating it in 2008 while deducting $35k in 2007 and never deducting the remaining $5k. Ever. Isn't likely to happen, and even if it could, is isn't likely to make the client happy.