Return to www.Rollover.net Home                                                         Third Quarter 2009

“FIX-IT" GUIDES FOR SEP, SARSEP, AND SIMPLE IRAs

Do you know that the IRS provides tips on how to find, fix, and avoid common mistakes in SEP, SARSEP,

and SIMPLE IRAs.

User-friendly guides available online

For a quick review to see if you are meeting some of the basic requirements in operating your retirement plans,

go to www.irs.gov/ep and select SARSEP, SEP, SIMPLE IRA Plan, and 401(k) Fix-It Guides Available. Once

there, you will notice that the program lists in its heading, Potential Mistakes, How to Find the Mistake, How to

Fix the Mistake, and most importantly, How to Avoid the Mistake. Also note that the program allows individu-

als the ability to navigate, select, and print only the mistakes that are of interest to them.

Fix-It Guide Potential Mistakes

The first topic, Potential Mistakes, is offered in easily understood question form and includes questions such as:

• Has your plan been amended for current law.

• Are all eligible employees participating in the SEP.

• Is the business that the plan covers the only business that you own.

• Was your SARSEP established prior to January 1, 1997, and amended for current law.

• Do 50% or more of all eligible employees make employee elective deferrals into their SARSEP.

• Do you sponsor a SIMPLE IRA plan and maintain no other retirement plan.

• Were employee salary deferral contributions timely deposited to employees’ SIMPLE IRAs after

withholding from the employees’ salary.

• Did you make employer contributions to all eligible employees whether or not they terminated

during the plan year.

Answering “yes" to all of these questions may indicate that a business owner’s plan is in good shape. And,

they should share their answered checklist with their benefits professional to verify all is well. Answering

“no" to any of these questions lets them know that they may have a mistake in the operation of the plan.

Common mistakes

The IRS frequently finds common mistakes when doing retirement plan examinations, such as not covering

the proper employees or not giving employees required information. Other common operating mistakes found

include: not depositing employee deferrals or employer contributions on a timely basis, not following the terms

of the plan document, or not limiting employee deferrals and employer contributions to the maximum limits.

Mistakes don’t go away by themselves

The IRS has correction programs that are structured to provide financial incentives for finding and correcting mis-

takes earlier rather than later. In fact, many mistakes can be corrected easily, without penalty and without notify-

ing the IRS. The IRS system of retirement plan correction programs, the Employee Plans Compliance Resolu-

tion System (EPCRS), helps business owners protect participant benefits and keep their plans within the law.

EPCRS includes:

• Self-Correction Program (SCP) – With this program, you can find and correct a mistake before an

examination. It will cost less if you find the error and fix it.

• Voluntary Correction Program (VCP) – You may correct a plan’s mistakes with help from the IRS for a fee.

• Audit Closing Agreement Program (Audit CAP) – If the IRS examines a plan and finds an error, you

can still correct the problem. However, be aware that the fee will be larger than if they had found and

fixed the error, or brought it in voluntarily.

Note that the Fix-It Guides do not cover all plan requirements, so it should not be used as a complete plan

review. It is, however, an easy way to start a plan check-up. Learn more about IRS correction programs at:

www.irs.gov/ep.

Retirement

Plans Quarterly

3rd Quarter 2009

CASH BALANCE PENSION PLANS

There are generally two types of pension plans: either Defined

Benefit or Defined Contribution. Defined Benefit plans are designed

to provide a stated or promised benefit at retirement for each plan

participant, while a Defined Contribution plan allows employees

and/or employers to contribute each year into an employee retire-

ment account with no specific promised payout. The focus of this

article is on a type of plan that has both Defined Benefit and Defined

Contribution aspects: the Cash Balance plan. While these plans

were designed with very large companies in mind, they are also

gaining more and more interest with small businesses and profes-

sional groups and, hence, are worth taking a closer look at.

How a Cash Balance plan works

A Cash Balance plan is basically a Defined Benefit plan with a De-

fined Contribution feature in terms of a stated account balance for

each individual plan participant. The way it works is that it de-

fines a participant’s benefit each year in terms of a “benefit credit"

(e.g., 5% of compensation from the employer) and an “earnings

credit" (usually linked to an index like the one-year Treasury bill

rate). The performance of the investments that the overall plan

assets are invested in does not have a direct effect on the benefits

promised to the plan participants. Therefore, if the plan’s actual

earnings are less than what are required to pay out benefits, then

the employer must make up the difference. On the other hand,

any excess earnings of the plan investments can be used by the

employer to reduce future plan contributions.

Cash Balance plans generally allow participants to take lump-sum

benefits at retirement (which is for the most part different from

Defined Benefit plans) and often allow participants to receive their

accrued vested benefits in a lump sum if they terminate prior to

retirement age. This, again, is due to the stated individual partici-

pant account balances that are part of the makeup of these plans.

Why are they gaining in popularity.

Higher Contributions – Cash Balance plans are gaining popularity

because they can provide higher contributions to plan participants than

a Defined Contribution plan, such as a Profit Sharing or 401(k). This

is especially so for the higher earners in a company who tend to be

older and have less time to save before retirement. This is due to how

you calculate contributions under a Cash Balance plan. For example,

if you’re going to pay a participant $1,000 per year for life beginning

at age 65, it costs more to fund that benefit if the participant is 60

(since that benefit would normally be paid out in just 5 years) versus

someone who is 35, where the assets in the plan can be invested for

the next 30 years to help pay out that person’s benefit. Therefore, the

overall contribution that goes into a Cash Balance plan in a given year

tends to benefit those older, more highly paid individuals in the plan.

For a small business, that usually means the owners and principals.

In contrast, Defined Contribution plans generally provide a benefit

based on a percentage of pay each year over the course of an em-

ployee’s career. For the most part, the costs are the same each year

regardless of the participant’s age.

Better Control of Plan Costs – A straight Defined Benefit plan has

always been hard to deal with in terms of controlling or predicting

the costs. This is because Defined Benefit plan liabilities can change

dramatically with interest rate changes. On the other hand, Defined

Contribution plans allow for more predictable costs, which are

generally a fixed percent of pay each year. Also, the plan participant

bears the investment risk in Defined Contribution plans. Changes in

interest rates have no direct effect on plan costs.

Since Cash Balance plans have the Defined Contribution plan feature

of individual participant accounts “growing" based on a fixed percent-

age of payroll and a specified interest rate, the liabilities generated are

more controllable than the basic Defined Benefit plan. Though the

employer needs to make up for any sub-par performance of the plan’s

investments, the liability with respect to that performance is generally

much more manageable than under a basic Defined Benefit plan.

Therefore, while a small business owner must expect to make a

contribution to the plan from year to year, that contribution will

not fluctuate as wildly as a standard Defined Benefit plan, espe-

cially in a rapidly changing interest rate environment, which is

anticipated with the ever-increasing U.S. budget deficit.

Earnings Arbitrage – As mentioned above, with a Cash Balance

plan, an employer provides for a specific percent of pay into each

participant’s account, as well as earnings at a specific rate. Let’s say

that earnings rate is 5%. When the employer invests the overall plan

assets, the goal is to obviously exceed that 5% earnings rate, as long

as the investment risk taken is acceptable given the plan’s liabilities.

When the actuary calculates how much money an employer needs to

put in to that 5% earnings rate, the answer is normally less than that

5%. Therefore, when an employer promises that 5% earnings rate

but an employer fully expects to gain 7%, then an employer does

not have to fund that liability by taking out 5% from business cash

flows or profits. An employer may need to only fund 4% due to the

appreciation of plan assets. In effect, an employer is able to promise

benefits that are greater than an employer’s actual costs.

Conclusion

While the benefits of Cash Balance plans are many, these plans

are not for everyone. For the small business owner, the need for

consistent, positive cash flow is very important. Not funding

these plans will not be tolerated by the IRS, unless there are major

extenuating circumstances (e.g., bankruptcy) or the plan has been

in place for some time (usually a minimum of five years). Also

the administrative expenses for these plans tend to be higher than a

standard Profit Sharing or 401(k) plan because of the need to have

an actuary determine the allowable contributions going into these

plans on an annual basis.

At the same time, the ability to “catch up" on your retirement sav-

ings after years of having put extra profits back into a business is

the true power of these plans. For an older owner, the possibility

of potentially adding $100,000, or more, per year on top of your

401(k) and Profit Sharing contributions is not unheard of. At the

same time, while needing to fund benefits for rank-and-file work-

ers, they tend to be younger and make less money. This allows for

a smaller percentage of annual contributions to these plans being

in their favor. Further, if those workers are more transient, the

plan can be designed to where they will not be able to take some

or all of the contributions that have been made on their behalf.

Finally, the contributions to these plans are fully tax deductible,

allowing for the ability to offset high business tax rates.

RELIEF FOR 403(b) PLAN SPONSORS

The IRS has offered 403(b) plan sponsors relief in two areas:

written plan requirements and 5500 filings. To relieve the stress

facing many plan sponsors, the IRS gave an extension of time

for plan sponsors to secure a written plan document. Also, since

administrators need additional time to comply with plan reporting,

the IRS has granted a filing extension for those subject to the 5500

reporting requirement. Both relief measures have specific require-

ments, and all plan sponsors should carefully review the Notices

from the IRS and Department of Labor.

Plan Document Relief

On December 8, 2009, the IRS issued Notice 2009-3, announcing

relief for certain 403(b) plans that did not have a written plan in

place by January 1, 2009. The IRS said it was extending the dead-

line for plan sponsors to adopt new written plans or amend exist-

ing plans to satisfy the requirement of the final 403(b) regulations.

The final regulations under Sec. 403(b) were published on July 26,

2007. Effective January 1, 2009, plan sponsors were generally

required to maintain a written plan that satisfies, in both form and

operation, the requirements of the final regulations. Although

many sponsors have already adopted a written plan, the Service

was aware that some sponsors may not have a written plan in

place. Due to difficulties expressed by numerous plan administra-

tors, the IRS agreed to give sponsors additional time to put their

plan documents in place.

The IRS will treat these plans as meeting the requirements of

403(b) and the regulations during the 2009 calendar year if:

• By December 31, 2009, the sponsor of the plan has adopted a

written 403(b) plan that is intended to satisfy the requirements

of 403(b) and the regulations.

• During 2009, the plan sponsor operates the plan in accordance

with a reasonable interpretation of 403(b) and the related

regulations.

• By the end of 2009, the plan sponsor makes its best effort to

retroactively correct any operational failure during the 2009

calendar year to conform to the written plan.

Although the IRS has issued this partial reprieve, this does not al-

leviate plan sponsors of their responsibility. The IRS is clear that

this relief does not apply to the rules governing loans, hardships,

universal availability or any of the other existing requirements.

The IRS plans to issue further guidance on 403(b) plans, including

a revenue procedure establishing programs for 403(b) plans to ob-

tain IRS approval of the plan document and allowing these plans

to make remedial amendments to retroactively fix plan provisions

under rules that are similar to those that apply for 401(a) qualified

plans. The prototype document and the revenue procedure have

not been released by the IRS.

To read more about the Notice, please go to: http://www.irs.gov/

pub/irs-drop/n-09-03.pdf.

5500 Relief

Effective for 2009 plan years, Sec. 403(b) plans covered under

Title I of ERISA are subject to all reporting requirements of Form

5500. This includes all schedules and attachments, as well as au-

dited financial statements (if the plan covers 100 or more partici-

pants at the beginning of the year). Prior to 2009 plan years, Sec.

403(b) plans had very limited reporting on Form 5500.

On July 20, 2009, the U.S. Department of Labor, in Field Assis-

tance Bulletin (FAB) 2009-02 provided transitional relief for plan

sponsors and administrators of 403(b) plans that make good faith

efforts to transition for the 2009 plan year to the Employee Retire-

ment Income Security Act’s (ERISA) generally applicable annual

reporting requirements. The DOL said the relief is limited to the

Form 5500 annual reporting requirements, including the require-

ment for large plans to include, as part of their annual report, the

report of an independent qualified public accountant.

Specifically, FAB 2009-02 provides that the administrator of a

403(b) plan does not need to treat annuity contracts and custodial

accounts as part of the employer’s Title I plan or as plan assets for

purposes of ERISA’s annual reporting requirements provided that:

• The contract or account was issued to a current or former em-

ployee before January 1, 2009;

• The employer ceased to have any obligation to make contribu-

tions (including employee salary reduction contributions), and

in fact, ceased making contributions to the contract or account

before January 1, 2009;

• All of the rights and benefits under the contract or account are

legally enforceable against the insurer or custodian by the in-

dividual owner of the contract or account without any involve-

ment by the employer; and

• The individual owner of the contract is fully vested in the con-

tract or account.

In addition, the DOL said current or former employees that only

have contracts or accounts that are excludable from the plan’s

Form 5500 under the above transition relief do not need to be

counted as covered participants for Form 5500 annual reporting

purposes. The DOL also will not reject a Form 5500 on the audit

opinion if the accountant expressly states that the opinion was

based on pre-2009 contracts that were not covered by the audit or

included in the plan’s financial statements.

The FAB said plan sponsors and investment providers have noted

in particular that in many cases they would not be able to obtain

the information necessary to include these contracts and accounts

in the expanded Form 5500 required for 403(b) plans beginning

with the 2009 plan year. Moreover, even in cases where some an-

nual reporting with respect to the contracts would be possible, the

compliance efforts involved would be substantial and expensive.

The DOL has stated that the relief applies to future years beyond

the 2009 plan year.

FAB 2009-02 is available at http://www.dol.gov/ebsa/regs/

fab2009-2.html.

The IRS and DOL have made many changes to the face of 403(b)

plans. Plan sponsors and administrators are faced with not only

the challenge of understanding the regulations but adhering to

their schedule. With each new rule governing 403(b) plans and

their reporting, they move closer and closer to resembling tradi-

tional 401(k) plans.

SIMPLE IRAs — OCTOBER 1 DEADLINE

The SIMPLE IRA is an employer-sponsored plan that allows

eligible employees to make pre-tax salary deferrals into an IRA

account and requires the employer to make annual contributions

into the IRA account of each eligible employee. SIMPLE IRA

plans must be maintained on a calendar year basis (IRC Sec.

408(p)(6)(C)).

New plans

October 1 is an important date for all new SIMPLE plans. There

is a requirement that within a 60-day period preceding the plan

year, the employer must allow eligible employees to make deferral

elections (IRC Sec. 408(p)(5)(C)). For the plan year 2009, the

60-day election period must begin by October 1 for new plans

to include 2009 deferrals.

There is one exception to the October 1 establishment deadline.

Newly established companies may open SIMPLE IRA plans as soon

as administratively feasible to accept contributions immediately.

Existing plans

For existing plans, employers should furnish the 60-day elec-

tion notice by November 1 each year. This notice allows newly

eligible employees to make elections or existing employees to

modify elections for the next year.

October 1 is quickly approaching, and employers wishing to

establish a SIMPLE plan for 2009 should do so immediately.

This important deadline should not be missed, as plans established

after this date are effective for 2010.

TAX STRATEGIES FOR

2010 ROTh CONVERSIONS

Currently, individuals with over $100,000 in adjusted gross income

(AGI) are not eligible to convert IRAs or retirement plan assets (other

than Roth type plans) to Roth IRAs. However, the AGI restriction

will be eliminated, starting in 2010. This will allow taxpayers with

AGI of $100,000 or more to convert their Traditional, SEP, SIMPLE

(after two years) IRAs, or retirement plan assets to Roth IRAs in

2010 and beyond.

Tax considerations

Two key tax points should be addressed for those who are con-

sidering a conversion to a Roth IRA. First, the year 2010 is the

last year for the current low income tax rates before they sunset

in 2011, and secondly, for conversions in the year 2010 (one year

only) a taxpayer can choose to either:

1. Include the taxable income on their 2010 tax return, or

2. Defer taxation by reporting 50% of the taxable amount con-

verted in 2011 and 50% in 2012.

Aggregation of all IRAs

A conversion to a Roth IRA is technically a distribution from a Tra-

ditional, SEP, SIMPLE (after two years) IRA, or retirement plan, and

a rollover to a Roth IRA. Under IRC Section 408(d)(2), the values

of all IRAs (not including Roth IRAs) are aggregated and treated

as one IRA for purposes of determining taxation of distributions.

For example, if an individual has an IRA that consists of pre-tax dol-

lars valued at $100,000 and another “non-deductible IRA" valued at

$5,000 (no earnings), $105,000 must be the value used to determine

the taxable portion of a distribution from either of the IRAs. Note,

however, that a conversion from an IRA does not include the value of

assets held in retirement plans, nor does a conversion from a retire-

ment plan to an IRA include the value of the assets held in other

retirement plans or IRAs.

Married filing separate

In addition to the AGI barrier being eliminated, married couples

filing separate tax returns will also be allowed to convert in 2010

and beyond. Note, however, the AGI waiver is for conversions

only, and AGI limits still apply for those making contributions to

Roth IRAs.

Observation

The 2010 conversion elimination of the AGI barrier and married

filing separate restriction does present an opportunity for many

individuals, and the rush to do Roth Conversions in 2010 may be

historic, especially if Congress does not extend the lower tax rates.

The information contained in this newsletter has been carefully compiled from sources believed to be reliable, but the accuracy of the information is not guaranteed.

This newsletter is distributed with the understanding that the publisher is not engaging in any legal or accounting type of work such as practicing law or CPA services.

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