Looking for advice... small s-corp 401k challenges

[kckid]

Hi everyone. I've been reading this board for some time. This stuff is even more complicated than taxes :/

So I've been trying to figure out a plan to maximize owner retirement options. I've been burnt in the past in a prior 401k through ADP because no one else contributed and I thought that would not be an issue. Needless to say, having 36,000 kick back was a hard lesson.

We are setup as an S-corp. Owners work part time.... other employees don't seem interested in contributing. What are my options? I'm open to discuss with a "professional" but I like to validate what I'm being told vs. what the pro may or may not understand.

I have figured out this so far:

1. 401k pre-tax with safe harbor match (18k each + 2.5 match each)

2. 401k post-tax contributions I cannot do, since that would trigger an ACP test that safe harbor would not cover I really wanted to max out the 401k post-tax and roll it over to a Roth IRA but looks like I cannot do this.

3. Personal Roth IRAs assuming the married filling jointly AGI is not exceeded.

4. Some type of defined contribution plan (prefer something Roth based since the money contributed it post-tax).

5. Other ideas? Does seem like PS will work in the 401k plan because the ages are very close and the salaries are fairly high.

Thanks for any ideas or input. A bit bummed that since everyone else doesn't want to contribute, the I can't do much either. All my bills are paid, so the salary is pretty much option to defer but I'm limited in what can be deferred.

W2Earnings >1000 hrs/yr Class PercentOwned BirthDate HireDate Projected Deferral Related

62,184 Y Owner 51 9/13/1971 1/1/2000 18000 Y
50000 Y Owner 49 2/19/1976 1/1/2000 18000 Y
110,768.00 Y Employee 0 7/29/1971 1/1/2006 0 N
75,573.00 Y Employee 0 6/7/1972 1/1/2009 0 N
75,266.00 Y Employee 0 11/3/1979 1/1/2009 0 N
74,472 Y Employee 0 11/5/1975 7/1/2013 0 N
32,688 Y Employee 0 3/27/1993 12/1/2014 0 N
30,000 Y Employee 0 9/19/1993 12/1/2014 0 N
49,992 Y Employee 0 3/20/1972 1/1/2014 0 N
15000 N Employee 0 9/3/1950 2/1/2014 0 N
15000 N Employee 0 2/23/1958 11/15/2013 0 N
8000 N Employee 0 2/24/1959 1/1/2015 0 N

[Mike Preston]

What's your employee cost budget (maximum you are willing to spend)? In a perfect world, how much of your current income would you want to go into a plan? What is the high 3 year compensation average for the owners? Are the numbers above for 2015 or are you asking these questions with respect to 2014? Is the owner compensation flexible? That is, instead of $62k and $50k in the year in question, would you entertain a scenario where it is $100k and $12k in year one and then $12k and $100k in year two? Does your employee cost have to be the same percentage of pay or are you willing to have some employees get one amount and other employees get less?

[Mike Preston]

What are the circumstances that lead to five of your employees being listed with 1/1/xx as their hire dates? Are you open for business on 1/1? Were they really hired on 1/1?

[kckid]

Mike,

First thanks for the reply. See additional details below... let me state that this year the profit of the company (including owner salaries) will be somewhere between 400-500k. That's a heavy hit for state and federal taxes percentages. It's a peak in the business this year and next and since I have everything paid off personal wise and run everything out of cash flow (i.e. no business loans), I'm looking to retain as much as I can using the preferred structures:

1. Pre-tax deferrals (401k)
2. Company match (401k)
3. Post-tax deferrals (rolled into a Roth 401k) w/o post-tax capital gains
4. Post-tax investments w/ post-tax capital gains

• In a perfect world, how much of your current income would you want to go into a plan?

My thought was to "up" the owner salary to 70,000 of which 52,000 would go into the 401k. With everything paid off, we only need about 36k in leftover salary to meet living expenses. Don't really care about a PS or match. PS seems to be out due to the high salary of the employees.

18k pre-tax

34k after-tax

• What is the high 3 year compensation average for the owners?

My number was incorrect for the 50,000 owner (thought I fixed that). It averages 60k/yr/owner.

62,184 Y Owner 51 9/13/1971 1/1/2000 18000 Y
60,000 Y Owner 49 2/19/1976 1/1/2000 18000 Y

• Are the numbers above for 2015 or are you asking these questions with respect to 2014?

2015, didn't think I had an option for 2014 at this point.

• Is the owner compensation flexible?

Yes, but to the point of balancing fica, futa, fed and state taxes on salary vs. the current salary and s-corp distributions above that for the same items.

• Does your employee cost have to be the same percentage of pay or are you willing to have some employees get one amount and other employees get less?

I would like to limit the amounts given to employees. I pay a decent salary and giving an additional 5% to someone making 100k+ a year would be a non-starter and cost significantly into operating costs and margin (i.e. 20% -> 15% on the 100k person).

• What are the circumstances that lead to five of your employees being listed with 1/1/xx as their hire dates?

Two of them have wrong dates I noticed now. At the beginning of 2006, I changed the resources from 1099 to W2. So they were officially "hired" at that point into the company.

110,768.00 Y Employee 0 7/29/1971 1/1/2006 0 N
75,573.00 Y Employee 0 6/7/1972 1/1/2006 0 N
75,266.00 Y Employee 0 11/3/1979 1/1/2006 0 N

[Mike Preston]

OK, how about answering the questions as posed?

There is still time to set up a SEP for 2014, but let's ignore that now that you have clarified that you are looking at 2015.

More questions/comments (in addition to re-answering the above questions this time paying attention to what was asked):

1) Please confirm that your current intention is to pay about $70,000 in comp REDUCED by whatever contribution you end up making to a PS plan (match or profit sharing). And that "profits" in excess of that amount will be distributed to owners as S-Corp dividends. If I understand the numbers as you have represented them, at the low end you have 200k each which would mean S-corp dividends of roughly $130k per person, PS Match of roughly 4% of the W-2 (estimated to be about 70k). The 70k would be reduced by whatever ends up going into the PS plan as a PS contribution. Assuming the numbers as above the contributions/deferrals would end up being: $18,000 deferral, $2,800 match and PS of up to $32,200. And, just for clarification, if the PS was $32,200 you would adjust the W-2 down by $32,200 resulting in W-2 of only about $38k (which, of course, would reduce the match to about $1,500. Have I got that right?

2) You are a fool if you think that there is nobody on your staff that will defer into a 401(k) given a safe-harbor match provision. Unless you are thinking of not telling them about the plan and that would be illegal.

3) Have you considered a plan that adjusts your employees' compensation "package" so that their "package" consists of two parts: W-2 comp and a fully vested profit sharing contribution? They don't pay payroll taxes (FICA, etc.) on the PS contribution so they save (as employees) the 7.65% FICA (at least) and you save that same 7.65% FICA, at least.

4) How wedded are you to paying W-2 that low? Have you checked with your accountant to ensure S-Corp dividends of $130k-$180k with W-2 of, at max, 70k (and if the above numbers work out), as low as $38k won't get you in trouble with the IRS, Social Security or both?

[kckid]

Didn't realize I wasn't answering, maybe I wasn't clear enough so I'll try again.

#1.

• Owner salaries are approx. 125k yearly or 62,500 each owner.
• S-corp distributions are approx. 300-400k yearly or 150k-200k each owner.
• The original idea was to setup a 401k with employee distributions and employer match using SH. (good)
• Then do employee after tax contribution to the 401k up to the 52k cutoff. After research have found out that after tax contributions would not be covered by SH and it would cause a failure of the ACP test. (bad)
• I explored the option of PS and comparability testing. That would bring too much funding into employee accounts vs. the owners. (bad)

#2

• Not a fool... but thanks. I know most are living check to check. Last attempt I had zero interest in the plan, hence the failure when the SH was not done. Trying to do it different this time and understand more. If I'm expected to be a plan admin, I need to better understand the in's and out's. Additionally the employee's have a "cost" and this cost is taken into account with raises. Enough said...

#3

• Makes sense but that assumes the rank and file understand and can live without that money for an extended period of time. Basically everyone has their existing budgets, so deferring income in a significant way would pose a financial hardship.

#4

• My comment was about living expenses being 38k combined for the owners. That would approx. for each owner, 69k (salary) - 18k (deferral) = taxable income (fed / state) - 32k (post tax deferral) = 19k left over for living expenses for each owner or 38k combined. I can justify the daily living expenses against the remaining salary. The IRS can come play the "you're not paying yourself a reasonable wage" game all they want. I work full time, the wife part time (10%). An average of 50% of both is completely reasonable and actually a bit high when combined together to average out.

Bit of a soap box here, just want to make sure I'm not looking like an evil employer. People are paid well, I don't bring in foreign workers (a miracle nowadays) to replace them like other businesses around me. In fact in one client, we are the LAST American workers in the IT group. I don't have turn over and multiple people have 10-13 years of working together in the company (prior 1099 status + current W2). I've purchased cars for people and deducted from wages for 5 yrs. Provided short and long term loans to help people close on houses, purchase property and bailed people out of jail lol. I usually take the crappy work shifts and am the first to work the weekend so others have the time off.

Just looking to explore my options to make sure I'm not leaving anything out of the equation. I've gotten confirmation on this over PM (Thanks!). Sounds like my next option would be some type of defined contribution plan... does that make sense?

Hoping for a bit more of a civilized response.

[Mike Preston]

Civilized response:

Please review and answer the questions as posed.

Normal response:

You are like many other small business owners who look at the cost for employees (the benefits provided to employees) as money not appreciated by the employee. Worse, you think that because you are liberal in your employment policies and provide some employee assistance through loans that you are entitled to something in return. You are. You gain employee loyalty. Which you have done admirably. All of which means precisely nothing when it comes to tax-incentives provided by Congress. All I see is that you are looking for a tax-incentive on $34,000 and you want that tax incentive because, well, just because.

It doesn't work that way.

Please review and answer the questions as posed.

Also, try to clarify your examples with real numbers. I'm sure: "Yes, but to the point of balancing fica, futa, fed and state taxes on salary vs. the current salary and s-corp distributions above that for the same items." makes sense to you.

[kckid]

Mike again thanks for the reply. Trying to keep this civil and the sarcasm at a minimum.

I'm not expecting anything from what I've helped with for employees in the past. Been screwed a few times but that's life. It's nice to be there in a reasonable way when someone gets into a bind.

There is disappointment in the limitations of what's acceptable in the 401k rules. Especially around after-tax contributions. Seems pretty silly to penalize people for living within a reasonable budget and not running up their bills to meet or exceed their paychecks. They should encourage investing not discourage it but by dragging those who are frugal down to the level of those that are not... well that's just our backwards "fairness" society that we live in today. It's only fair that everyone purchases a car every 5 yrs or leases a lexus to look good. Guess that's why I'm driving a 2008 Civic with 165k miles and my prior was a 10yr old Civic with 225k miles on it.... but I digress.

Back to the point here. So my best 401k option here is a SH matching contribution with the understanding most would not contribute. With 18k each from the owners and an approx. match of 2.5k each.

Next option is a PS option in the plan but I've looked at the numbers. Just wanting to make sure I didn't miss anything. If I raise the salaries of the owners to 200k each and at a 15% PS, it would max out the owner 401k contributions. Well with that 15% to owners it would be 15% to everyone else. So that's approx. 50k to everyone else.

Let's see... owners PS is 62k (total) and the remaining employee PS 50k (total). That might as well be a 55% tax (on the original 90k outlays). Now add the additional fica/futa taxes for a 200/400k payroll to owners from s-corp distributions (additional 14k in taxes).

Now for the owners to put away 68k, it's 50k to other employees and 14k to additional fica/futa. Pay out 64k to put away 68k pre tax... This would be taxed at some point later, so that needs to be factored into the equation. Let's say 10% because the numbers are already getting absurd. Slap another 6.8k into the mix for reality purposes. Now pay out 70k to put away 68k pre tax.

Maybe I'm missing something but... paying out fed and state taxes on a s-corp distribution seems like a much better financial decision to me.

That's what I meant by "Yes, but to the point of balancing fica, futa, fed and state taxes on salary vs. the current salary and s-corp distributions above that for the same items." I see now that it might not have been clear but I figured the peeps around here would have read between the lines a bit.

[Mike Preston]

You really don't want help, do you? Pretend I'm charging you my hourly rate. Wouldn't you want to minimize my time trying to "read between the lines"? Wouldn't you bend over backwards to try to answer every question I asked, in great detail? Oh, wait, you are trying to get something for nothing so it isn't important to minimize my time. Got it.

[kckid]

I'm just trying to confirm some things I had seen. Wow for being the "sitewide" moderator, you sure are an complete rude mule. It was an exploration request, looking for confirmations of my theories. Again I'm just flat out shocked they let someone like yourself be a mod, let alone a "sitewide" mod (oh that sounds so important doesn't it).

I've filled a complaint about yourself to the business management via the contact form. Good luck.

You really don't want help, do you? Pretend I'm charging you my hourly rate. Wouldn't you want to minimize my time trying to "read between the lines"? Wouldn't you bend over backwards to try to answer every question I asked, in great detail? Oh, wait, you are trying to get something for nothing so it isn't important to minimize my time. Got it.

[GMK]

kc - Mr. Preston knows what he's talking about. Too bad you chose to listen to yourself instead of to him. We all could have learned something.

[Mike Preston]

I'm sorry you have such a difficult time directly addressing the issues raised. Perhaps you'll find somebody who can work with cryptic answers and who satisfies your quest at reading between the lines. But if they haven't asked the questions I asked and/or haven't insisted that you answer them, then you will be getting an analysis on partial information. If you want that, fine, but that doesn't meet my definition of looking for help. Rather, it is....oh, wait...better stop here.

Just as a reading comprehension test, go back and see if you can even find the questions I asked where you failed to provide a minimally informative answer.

[kckid]

That would take time I'm not willing to provide anymore for someone of your character. End of conversation...

[Mike Preston]

Thought so.

[spiritrider]

All I can say is Wow, just WOW.

As a long time lurker. This is my first post. I have used the great collective knowledge of the active participants here to increase my own knowledge. This has allowed me to be active on the retirement plan committees of small companies I have worked for and better understand the issues with my own SEP IRA and then owner-only 401k.

I understand that this is a forum intended for professionals helping other professionals. Some other professional forums I have visited (on different topics) are very hostile to non-professionals. This is not one of those forums. Yes, the topics usually discussed are some of the finer points only administrators and TPAs are concerned with.

Yet, the forum members seem very willing to help the occasional end user with their concerns. I would hope that the members do not associate kckid with the typical end user, and continue to help that occasional post. Especially, where the poster is receptive to the advice and provides the relevant information asked for.

I just want to say thanks to Mike Preston and others here who have sacrificed their valuable time to help other non-professionals.

[John Feldt ERPA CPC QPA]

kckid, how about this scenario:

Is the other 49% owner your spouse? Asking this to determine if it's okay to give more benefits to one of you as this would help to keep the plan's efficiency higher. An efficient plan is merely an opinion, but I am generally talking about how much of the contributions end up with the owners as a percent of the total contributions, although other factors can affect this over a longer period of time, like vesting, etc.

If your compensation is $78,000 instead of the amount you provided, would you be able to defend that as reasonable compensation? Asking because 415 limits are based on reasonable compensation.

If yes for both of the above, suppose and your spouse could both make a 401(k) deferral election and put in $18,000 each. Also suppose you could put in an employer contribution of about $142,000, with $117,000 going to you and your spouse. (for the technical reader, these terms are used loosely here, just hoping to see if kckid has interest).

That design, as described would be about 86% of the contribution (including your deferrals) going to you and your spouse. 86 cents on the dollar with 100% of the contribution deferred from current income tax as a current deduction. Be sure to understand that amounts paid later would be subject to income tax when paid out (but not subject FICA tax when paid out). Of course there are costs to administer - which are deductible business expenses.

Would you consider a design like that if it was possible?

edit: typos

[John Feldt ERPA CPC QPA]

Let me revise that a bit. Employer contribution at about $146,000 and about 84% to the owners.

[kckid]

John,

Thanks for the response. I'll follow-up on PM around your suggestion.

Mods,

Please close this topic. I don't appreciate being belittled and talked down to within this topic. I tired to be decent and respond with what I thought was the information being requested. Sorry if I don't understand the scope of what was being requested. I answered what I thought was relevant. Somehow that gap never got narrowed. I do appreciate the suggestions and private PMs of those who have responded.

Moving on...