Non-Partner 401(k) Contributions & Earned Income

[Nate X]

Where does a partnership deduct non-partner 401(k) contributions? Is it possible that we would need to deduct it to calculate earned income for general partners?

[Jim Chad]

The only non partner 401(k) Participant I can think of is an employee? His 401(k) contributions would be deducted as expenses on the partnership return. Am I on the right page for your question?

[Bird]

If you mean 401(k) contributions made by employees, then they would be part of their wages and salaries.

[masteff]

Form 1065, line 18.

[Bird]

Line 18 is for employer contributions for employees. That may have been what was meant ("profit sharing") but that's not what was asked ("401(k)"). FWIW.

If we are talking about employer contributions, then yes, they are an expense that must be subtracted in order to determine earned income.

[mbozek]

Line 18 is for employer contributions for employees. That may have been what was meant ("profit sharing") but that's not what was asked ("401(k)"). FWIW.

If we are talking about employer contributions, then yes, they are an expense that must be subtracted in order to determine earned income.

Bird:

I dont understand what you are saying but I agree with Masteff.

There are separate deductions for salary and wages and employer contributions to retirement plans for common law employees.

The instructions to the 1065 form states that only salary and wages of employee are deducted on line 9 and contributions to retirement plans deducted elsewhere are not reported on line 9. Line 9 instructions state that salary and wages does not include amounts reported elsewhere on the return such as elective contributions to a 401k plan and salary reduction SEP and SIMPLEs.

Line 18 instructions state that the partnership is to enter all contributions to qualified plans made for common law employees on line 18 and that contributions to partners are not to be entered on this line. Contributions made by the partnership to a retirement plan for each partner are entered on box 13 of the partners k-1 using code R. Partner deducts contributions on his 1040, line 28.

[Bird]

I dont understand what you are saying but I agree with Masteff.

OK...

There are separate deductions for salary and wages and employer contributions to retirement plans for common law employees.

That's really what I was saying too. (My emphasis on "employer contributions.") But Nate asked about "401(k) contributions" which I took to mean "elective deferrals" which should be included in wages.

[mbozek]

I dont understand what you are saying but I agree with Masteff.

OK...

There are separate deductions for salary and wages and employer contributions to retirement plans for common law employees.

That's really what I was saying too. (My emphasis on "employer contributions.") But Nate asked about "401(k) contributions" which I took to mean "elective deferrals" which should be included in wages.

Elective contributions to a 401k plan are deducted on line 18 as employer contributions to a retirement plan, not as salary or wages, because the IRS needs to keep track of the amount of deductible contributions to employer retirement plans so Congreess knows the amount of the tax expenditure for employer retirement plans in each tax year.

[masteff]

Sorry, didn't stop to think about the nuance.

I'd go one of two ways on employee contributions...

1) Ignore them because you're reporting gross pay on the appropriate line for compensation. Putting it somewhere else would result in duplication.

or

2) Because it's technically deferred compensation, even though it's a deduction, the contribution is really being made by the employer to the plan (albeit for the benefit of the employee) so it goes on line 18 (and pay net of deductions goes on the line for compensation).

[mbozek]

Sorry, didn't stop to think about the nuance.

I'd go one of two ways on employee contributions...

1) Ignore them because you're reporting gross pay on the appropriate line for compensation. Putting it somewhere else would result in duplication.

or

2) Because it's technically deferred compensation, even though it's a deduction, the contribution is really being made by the employer to the plan (albeit for the benefit of the employee) so it goes on line 18 (and pay net of deductions goes on the line for compensation).

So you would disregard the instructions for line 9 of the 1065 that instructs the partnership to deduct 401k elective contributions on line 18? Please explain the duplication in#1 that would result.

Why not follow the instructions since the IRS has told you what to do and following the IRS instructions does not result in higher taxes and reduces the amount of time spent thinking about this question?

[masteff]

So you would disregard the instructions for line 9 of the 1065 that instructs the partnership to deduct 401k elective contributions on line 18?

That is what I get for not going back to the 1065 instructions. I yield.

[Nate X]

The consensus is that partnerships should be deducting 401(k) contributions on line 18, correct? The instructions do not seem to say that you deduct 401(k) contributions on Line 18; only that they should not be deducted from line 9 or line 18 if they are deducted somewhere else. For example, could 401(k) contributions be part of Line 9 or part of cost of goods sold? Also, I'm wondering if there is any correlation to this paragraph in Publication 560: Participants may be permitted to make nondeductible contributions to a plan in addition to Deduction Limits your contributions. Even though these employee contributions are not deductible....

[Bird]

I don't yield. The line 9 instructions say

Do not include salaries and wages reported elsewhere on the return, such as amounts included in cost of goods sold, elective contributions to a 401(k) cash or deferred arrangement, or amounts contributed under a salary reduction SEP agreement or a SIMPLE IRA plan.

and the line 18 instructions say

Enter the deductible contributions not claimed elsewhere on the return made by the partnership for its common-law employees under a qualified pension, profit-sharing, annuity, or SEP or SIMPLE...

I think you have to read it very literally - they are not telling you to deduct them on line 18, they are telling you not to deduct them on line 9 if they are included somewhere else (presumably line 18). I'd cautiously conclude that maybe you could in fact split them out and deduct the net wages on line 9, and the 401(k) deferrals on line 18, but you also have to nod to reality - most or all accountants are just including 401(k) elective deferrals in wages on line 9; I just talked to one and he couldn't begin to understand why they weren't part of wages.

I have a sense of deja vu on this one. I hope I am arguing the same way I have in the past.

[mbozek]

I don't yield. The line 9 instructions say

Do not include salaries and wages reported elsewhere on the return, such as amounts included in cost of goods sold, elective contributions to a 401(k) cash or deferred arrangement, or amounts contributed under a salary reduction SEP agreement or a SIMPLE IRA plan.

and the line 18 instructions say

Enter the deductible contributions not claimed elsewhere on the return made by the partnership for its common-law employees under a qualified pension, profit-sharing, annuity, or SEP or SIMPLE...

I think you have to read it very literally - they are not telling you to deduct them on line 18, they are telling you not to deduct them on line 9 if they are included somewhere else (presumably line 18). I'd cautiously conclude that maybe you could in fact split them out and deduct the net wages on line 9, and the 401(k) deferrals on line 18, but you also have to nod to reality - most or all accountants are just including 401(k) elective deferrals in wages on line 9; I just talked to one and he couldn't begin to understand why they weren't part of wages.

I have a sense of deja vu on this one. I hope I am arguing the same way I have in the past.

Mabye the accountant doesnt like to read the 1065 instructions. There are accountants who deduct the self employed owners own contributions to a qualified plan on Sked C instead of the 1040. It doesnt make it right just because they do it. There is a case where the owner of an S corp tried to deduct his own contributions to the qualified plan on his 1040 even though the regs require that deduction be taken by the S corp. Tax ct said no way.