Retirement Plan Consultant
Cetera Retirement Plan Specialists
Blue Ridge ESOP Associates
(Charlottesville VA / Telecommute)
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Question 36: I have an LLC that is owned by five S corporations. Each S Corporation is 100 percent owned by a doctor. Each doctor draws the maximum salary of $160,000 through the S corporation. The employees all are paid through the LLC. We have designed a cross-tested profit sharing plan giving each doctor $30,000 and the employees 3 percent of compensation. The LLC and each S corporation will adopt the plan. Are the S corporation deductions limited to 15 percent of compensation?
If the deductions follow the compensation, then the doctors could not deduct the full $30,000, but would instead be limited to 15 percent of $24,000. Or may we look at the 15 percent limit for the affiliated service group as a whole?
Answer: The doctors would be far better off eliminating the S corporations.
As you guessed, each business included in an affiliated service group calculates its 404 deduction limit separately. (By contrast, with a controlled group, there is a single limit for the entire group; thus, the doctors could deduct $30,000.)
Let us try to simplify this. If the plan sponsors are also part of a controlled group (and probably, if they are under common control) there is a single limit shared by everyone. If the plan was adopted before 1989 and the employer has not made the IRC §413(c)(4)(B) election, then there is also a single limit shared by everyone. Otherwise, each employer computes its IRC §404(a) deduction limit separately.
The provisions of IRC §413(c)(4) are available to an ASG member who sponsors a plan in which the employees of another member of the ASG participate, whether or not that employer cosponsors the plan. Having said that, the concerns raised about a controlled group member making and deducting contributions for the employees of other group members would apply to this situation. It is doubtful that such a contribution would be an ordinary and necessary business expense under IRC §162. (See Q 10:17.)
A few examples should make the implications of this plain, or at the very least plainer:
In both of the last two examples, the ASG members as a whole are worse off because they have separate entities. Practitioners should advise their clients in such situations to consider merging the various entities so as to arrive at a single IRC §404 limit.
Notice that the last sentence, beginning with "Therefore," explains the consequences of a plan being treated as maintained by more than one employer. That explaination was correct given the wording of IRC §413(c)(6) as it existed at the time.
However, several years after the proposal was written, IRC §413(c)(6) was amended to read as it does today. Hence, notwithstanding the regulations, if a plan sponsored by an ASG member was adopted after 1988, each employer computes its IRC §404 deduction limit separately.
Answers are provided as general guidance on the subjects covered in the question and are not provided as legal advice to the questioner or to readers. Any legal issues should be reviewed by your legal counsel to apply the law to the particular facts of this and similar situations.
The law in this area changes frequently. Answers are believed to be correct as of the posting dates shown. The completeness or accuracy of a particular answer may be affected by changes in the law (statutes, regulations, rulings, court decisions, etc.) that occur after the date on which a particular Q&A is posted.