Tax Deferred Annuity
Chapter 25
Employee Benefit & Retirement Planning
What is it?
Tax deferred employee retirement plan that can only be
adopted by certain
- tax exempt organizations
- public school systems
Benefits
- contribution not taxed currently
- account balances accumulate tax-free
- defer tax on contributions and earnings
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Tax Deferred Annuity
Chapter 25
Employee Benefit & Retirement Planning
When is it indicated?
1. Eligible employer
- tax exempt organization
- public school or college
2. employer wants low-cost tax deferred retirement
plan
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Chapter 25
Employee Benefit & Retirement Planning
When is it indicated?
3. employees
- want choice regarding level of savings
- are young with time to retirement
- willing to accept some investment risk
4. employer wants “savings-type” supplement to
defined benefit or other qualified plan
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Chapter 25
Employee Benefit & Retirement Planning
When is it indicated?
5. Other considerations
- non-governmental, tax-exempt employers can also
offer Sec 401(k) plans
- tax-exempt employers and governmental entities
can maintain SIMPLE IRA plan
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Chapter 25
Employee Benefit & Retirement Planning
What is a tax-exempt organization?
Meets qualifications of IRC Code Sec. 501(c)(3)
– organized and operated exclusively for religious, charitable,
scientific, testing for public safely, literary, or educational
purposes, or to foster national or international amateur sport
competition or for the prevention of cruelty to children or
animals
– must benefit public, not individual or private shareholder
– refrain from political campaigning or propaganda intended to
influence legislation
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Chapter 25
Employee Benefit & Retirement Planning
What is an educational organization?
An educational organization has a
•
regular faculty and curriculum
•
regularly enrolled student body in attendance that is
operated by a state or municipal agency
Can also adopt a TDA plan for certain employees
outside of the schools who perform services involving the
operation or direction of the public school education program
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Chapter 25
Employee Benefit & Retirement Planning
Advantages
1. Tax deferred retirement savings
2. Employees have choice about amount to save
3. Can fund plan entirely through salary reduction
4. In-service withdrawals are permitted
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Employee Benefit & Retirement Planning
Disadvantages
1. Plan balance may be inadequate for employees
entering plan when older
2. Employee annual salary reduction subject to elective
deferral limit
3. Plan can be costly and complex to administer
4. Employees bear investment risk
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: Salary Reductions
• Employees elect salary reductions before
compensation earned
• Employer can also provide annual ‘bonus’ that
employees can receive in cash or contribute to plan
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Chapter 25
Employee Benefit & Retirement Planning
Plan contributions have per employee limit applied to
total contributed to:
–
–
–
–
Sec. 401(k)
salary reduction SEPs – if established before 1997
SIMPLE IRAs
Section 403(b) TDA plans
However, “double-dip” opportunity exists with
Sec. 457 plans
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Chapter 25
Employee Benefit & Retirement Planning
Total of all elective deferrals must not exceed:
2009
$16,500
Index in $500 increments
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Chapter 25
Employee Benefit & Retirement Planning
Employees reaching age 50 during plan year can make
additional ‘catch-up’ contributions in plans using elective
deferrals:
$5,500 in 2009 *
* $500 increments
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: The TDA Salary Reduction
Catch-Up
TDA plans have unique, additional catch-up features
IF employee has 15 years of service and employer is
–
–
–
–
–
educational organization
hospital
home health care agency
health and welfare service agency
church, synagogue, or related organization
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: The TDA Salary Reduction
Catch-Up
If previous conditions met, the elective deferral limit is
increased by an additional sum equal to the LEAST of
– $3,000;
– $15,000, reduced by the sum of (1) prior use of catch-up
provision, and (2) the aggregate amount of designated Roth
403(b) contributions for prior tax years; or
– $5,000 times years of service with employer less all prior
salary reductions with employer
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: Employer Contributions
TDA plans allow employer contributions
– can use to encourage or augment employee contributions
– typically use formula matching contributions
– with employer contributions, complex nondiscrimination
requirements must be met
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: Section 415 Limits
employer contributions
employee contributions
+ forfeiture from other participant accounts
annual additions
Annual additions to each participant's account cannot
exceed LESSER of:
- 100% compensation
- $49,000 (2009, indexed)
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: Nondiscrimination Requirements
With some exceptions, under current regulations TDA plans must
satisfy rules similar to nondiscrimination rules that apply to regular
qualified plans
– Rules relating to nondiscrimination in contributions and benefits (IRC
Section 401(a)(4))
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: Nondiscrimination Requirements
– Can consider only first $245,000 (2009) of each participant’s
compensation in plan contribution formula
– Minimum coverage of non-highly compensated employees (Sec.
410(b))
– Rules aggregating related employers for nondiscrimination testing
purposes
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: Nondiscrimination Requirements
“Universal Availability”
All employees must be permitted to make elective deferrals if any employee
may do so
•
employer can require minimum salary reduction up to $200 to
participate
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: Vesting
•
•
Employee always 100% vested in contributions made via salary reduction and
earnings on those amounts
Employer contributions can require vesting
– must follow rules for top-heavy plans
•
•
3 year cliff or
2-6 year gradual vesting
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: Plan Investments
Can be in either or both:
–
annuity contracts purchase by the employer from an insurance
company
OR
–
mutual fund shares held in custodial accounts
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Chapter 25
Employee Benefit & Retirement Planning
Design Features: Plan Distributions
•
Follow qualified plan distribution rules
•
In-service withdrawals permitted, but unless withdrawal
qualifies for an exception, it is subject to 10% early
withdrawal penalty
•
All withdrawals subject to income tax
•
Many TDA plans allow plan loans
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Chapter 25
Employee Benefit & Retirement Planning
Tax Implications
1. Employees defer tax on salary reductions and employer
contributions if amount under limit
2. Salary reductions (but not employer contributions) subject
to Social Security (FICA) and federal unemployment
(FUTA) payroll taxes
3. Limited nonrefundable tax credit available to certain lower
income taxpayers making salary deferral to TDA
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Employee Benefit & Retirement Planning
Tax Implications
4. Amounts contributed by employer to ‘deemed IRA’ reduce
limit for contribution to traditional or Roth IRA
5. Can exclude from current income trustee to trustee
transfer of funds from TDA to governmental defined
benefit plan
6. Plan distributions must follow qualified plan distribution
rules
7. Plan distributions subject to income tax; 10 year
averaging not available
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Chapter 25
Employee Benefit & Retirement Planning
ERISA Requirements
ERISA rules generally apply to TDA plans to same extent
that ERISA applies to qualified plans
Possible ERISA exemptions
– TDAs of governmental and church organizations
– plans with minimal employer involvement
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Chapter 25
Employee Benefit & Retirement Planning
How to Install a Plan
•
Written plan document now required for all plans under
final regulations
•
Salary reduction forms must be completed before plan’s
effective date
•
Effective communication with employees essential if
employer objectives and nondiscrimination tests are to be
met
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Chapter 25
Employee Benefit & Retirement Planning
True or False?
1. As an educational organization, a private university can adopt a TDA
plan.
2. TDA plans are not effective if an employer cannot afford to match
employee contributions.
3. Employers bear the investment risk in TDAs.
4. TDA plans allow employees to make in-service withdrawals.
5. TDA plans can be complex and costly to administer.
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Chapter 25
Employee Benefit & Retirement Planning
True or False?
6. Janet, age 47, earned $75,000 in 2009. She is covered
under a TDA plan funded exclusively through employee
salary reductions. The maximum she may contribute to
the TDA plan in 2009 is $16,500.
7. An employer can require a minimum salary reduction as a
condition for TDA plan participation.
8. TDA plan participants are always 100% vested in all plan
contributions.
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Chapter 25
Employee Benefit & Retirement Planning
True or False?
9.
“Incidental life insurance” protection under annuity
contracts is not permitted in a TDA plan.
10. A TDA plan subject to ERISA must provide a qualified
joint and survivor annuity or provide that at participant’s
death, 100% of nonforfeitable benefit be paid to the
surviving spouse.
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Chapter 25
Employee Benefit & Retirement Planning
Discussion Question
Since a 501(c)(3) organization can sponsor both Section
401(k) plans and TDA plans, what are the considerations in
choosing between the two?
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