||2008 Tax Year
Topics - This chapter discusses:
Kinds of plans
Setting up a qualified plan
Minimum funding requirement
Elective deferrals (401(k) plans)
Useful Items - You may want to see:
Forms (and Instructions)
Schedule C (Form 1040)
Profit or Loss From Business
Schedule F (Form 1040)
Profit or Loss From Farming
Schedule K-1 (Form 1065)
Partner's Share of Income, Deductions, Credits, etc.
Wage and Tax Statement
U.S. Individual Income Tax Return
Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc.
Return of Excise Taxes Related to Employee Benefit Plans
Annual Return/Report of Employee Benefit Plan
Annual Return of One-Participant (Owners and Their Spouses) Retirement Plan
Schedule A (Form 5500)
Qualified retirement plans set up by self-employed individuals are sometimes called Keogh or H.R.10 plans. A sole proprietor
or a partnership can
set up a qualified plan. A common-law employee or a partner cannot set up a qualified plan. The plans described here can also
be set up and maintained
by employers that are corporations. All the rules discussed here apply to corporations except where specifically limited to
The plan must be for the exclusive benefit of employees or their beneficiaries. A qualified plan can include coverage for
As an employer, you can usually deduct, subject to limits, contributions you make to a qualified plan, including those made
for your own
retirement. The contributions (and earnings and gains on them) are generally tax free until distributed by the plan.
There are two basic kinds of qualified plans—defined contribution plans and defined benefit plans—and different rules apply
You can have more than one qualified plan, but your contributions to all the plans must not total more than the overall limits
Contributions and Employer Deduction, later.
Defined Contribution Plan
A defined contribution plan provides an individual account for each participant in the plan. It provides benefits to a participant
largely based on
the amount contributed to that participant's account. Benefits are also affected by any income, expenses, gains, losses, and
forfeitures of other
accounts that may be allocated to an account. A defined contribution plan can be either a profit-sharing plan or a money purchase
A profit-sharing plan is a plan for sharing your business profits with your employees. However, you do not have to
make contributions out of net
profits to have a profit-sharing plan.
The plan does not need to provide a definite formula for figuring the profits to be shared. But, if there is no formula,
there must be systematic
and substantial contributions.
The plan must provide a definite formula for allocating the contribution among the participants and for distributing
the accumulated funds to the
employees after they reach a certain age, after a fixed number of years, or upon certain other occurrences.
In general, you can be more flexible in making contributions to a profit-sharing plan than to a money purchase pension
plan (discussed next) or a
defined benefit plan (discussed later).
Forfeitures under a profit-sharing plan can be allocated to the accounts of remaining participants in a nondiscriminatory
way or they can be used
to reduce your contributions.
Money purchase pension plan.
Contributions to a money purchase pension plan are fixed and are not based on your business profits. For example,
if the plan requires that
contributions be 10% of the participants' compensation without regard to whether you have profits (or the self-employed person
has earned income), the
plan is a money purchase pension plan. This applies even though the compensation of a self-employed individual as a participant
is based on earned
income derived from business profits.
A defined benefit plan is any plan that is not a defined contribution plan. Contributions to a defined benefit plan are based
on what is needed to
provide definitely determinable benefits to plan participants. Actuarial assumptions and computations are required to figure
Generally, you will need continuing professional help to have a defined benefit plan.
Forfeitures under a defined benefit plan cannot be used to increase the benefits any employee would otherwise receive under
the plan. Forfeitures
must be used instead to reduce employer contributions.
Setting Up a Qualified Plan
There are two basic steps in setting up a qualified plan. First you adopt a written plan. Then you invest the plan assets.
You, the employer, are responsible for setting up and maintaining the plan.
If you are self-employed, it is not necessary to have employees besides yourself to sponsor and set up a qualified plan. If
you have employees, see
Participation, under Qualification Rules, later.
To take a deduction for contributions for a tax year, your plan must be set up (adopted) by the last day of that year
(December 31 for calendar
Credit for startup costs.
You may be able to claim a tax credit for part of the ordinary and necessary costs of starting a qualified plan that
first became effective in
2007. For more information, see Credit for startup costs
You must adopt a written plan. The plan can be an IRS-approved master or prototype plan offered by a sponsoring organization.
Or it can be an
individually designed plan.
Written plan requirement.
To qualify, the plan you set up must be in writing and must be communicated to your employees. The plan's provisions
must be stated in the plan. It
is not sufficient for the plan to merely refer to a requirement of the Internal Revenue Code.
Master or prototype plans.
Most qualified plans follow a standard form of plan (a master or prototype plan) approved by the IRS. Master and prototype
plans are plans made
available by plan providers for adoption by employers (including self-employed individuals). Under a master plan, a single
trust or custodial account
is established, as part of the plan, for the joint use of all adopting employers. Under a prototype plan, a separate trust
or custodial account is
established for each employer.
The following organizations generally can provide IRS-approved master or prototype plans.
Individually designed plan.
If you prefer, you can set up an individually designed plan to meet specific needs. Although advance IRS approval
is not required, you can apply
for approval by paying a fee and requesting a determination letter. You may need professional help for this. See Rev. Proc.
2008-6, 2008-1 I.R.B. 192,
, that may help you decide whether to apply for
Internal Revenue Bulletins are available on the IRS website at
www.irs.gov. They are also available at most IRS offices and at certain libraries.
The fee mentioned earlier for requesting a determination letter does not apply to certain requests made in 2006 and
later years, by employers who
have 100 or fewer employees who received at least $5,000 of compensation from the employer for the preceding year. At least
one of them must be a
non-highly compensated employee participating in the plan. The fee does not apply to requests made by the later of the following
The request cannot be made by the sponsor of a prototype or similar plan the sponsor intends to market to participating employers.
For more information about whether the user fee applies, see Rev. Proc. 2008-8, 2008-1 I.R.B. 233, available at
Notice 2003-49, 2003-32 I.R.B. 294, available at
In setting up a qualified plan, you arrange how the plan's funds will be used to build its assets.
You can establish a trust or custodial account to invest the funds.
You, the trust, or the custodial account can buy an annuity contract from an insurance company. Life insurance can be included
only if it is
incidental to the retirement benefits.
You, the trust, or the custodial account can buy face-amount certificates from an insurance company. These certificates are
You set up a trust by a legal instrument (written document). You may need professional help to do this.
You can set up a custodial account with a bank, savings and loan association, credit union, or other person who can act as
the plan trustee.
You do not need a trust or custodial account, although you can have one, to invest the plan's funds in annuity contracts or
certificates. If anyone other than a trustee holds them, however, the contracts or certificates must state they are not transferable.
Other plan requirements.
For information on other important plan requirements, see Qualification Rules,
Minimum Funding Requirement
In general, if your plan is a money purchase pension plan or a defined benefit plan, you must actually pay enough into the
plan to satisfy the
minimum funding standard for each year. Determining the amount needed to satisfy the minimum funding standard for a defined
benefit plan is
complicated. The amount is based on what should be contributed under the plan formula using actuarial assumptions and formulas.
For information on
this funding requirement, see section 412 and its regulations.
Quarterly installments of required contributions.
If your plan is a defined benefit plan subject to the minimum funding requirements, you must make quarterly installment
payments of the required
contributions. If you do not pay the full installments timely, you may have to pay interest on any underpayment for the period
of the underpayment.
The due dates for the installments are 15 days after the end of each quarter. For a calendar-year plan, the installments
are due April 15, July 15,
October 15, and January 15 (of the following year).
Each quarterly installment must be 25% of the required annual payment.
Extended period for making contributions.
Additional contributions required to satisfy the minimum funding requirement for a plan year will be considered timely
if made by 8½
months after the end of that year.
A qualified plan is generally funded by your contributions. However, employees participating in the plan may be permitted
to make contributions.
You can make deductible contributions for a tax year up to the due date of your return (plus extensions) for that
You can make contributions on behalf of yourself only if you have net earnings (compensation) from self-employment
in the trade or business for
which the plan was set up. Your net earnings must be from your personal services, not from your investments. If you have a
net loss from
self-employment, you cannot make contributions for yourself for the year, even if you can contribute for common-law employees
based on their
When Contributions Are Considered Made
You generally apply your plan contributions to the year in which you make them. But you can apply them to the previous year
if all the following
requirements are met.
You make them by the due date of your tax return for the previous year (plus extensions).
The plan was established by the end of the previous year.
The plan treats the contributions as though it had received them on the last day of the previous year.
You do either of the following.
You specify in writing to the plan administrator or trustee that the contributions apply to the previous year.
You deduct the contributions on your tax return for the previous year. (A partnership shows contributions for partners on
Schedule K (Form
1065), Partner's Share of Income, Deductions, Credits, etc.)
Employer's promissory note.
Your promissory note made out to the plan is not a payment that qualifies for the deduction. Also, issuing this note
is a prohibited transaction
subject to tax. See Prohibited Transactions,
There are certain limits on the contributions and other annual additions you can make each year for plan participants. There
are also limits on the
amount you can deduct. See Deduction Limits, later.
Limits on Contributions and Benefits
Your plan must provide that contributions or benefits cannot exceed certain limits. The limits differ depending on whether
your plan is a defined
contribution plan or a defined benefit plan.
Defined benefit plan.
For 2007, the annual benefit for a participant under a defined benefit plan cannot exceed the lesser of the following
100% of the participant's average compensation for his or her highest 3 consecutive calendar years.
$180,000 ($185,000 for 2008).
Defined contribution plan.
For 2007, a defined contribution plan's annual contributions and other additions (excluding earnings) to the account
of a participant cannot exceed
the lesser of the following amounts.
100% of the participant's compensation.
$45,000 ($46,000 for 2008).
Catch-up contributions (discussed later under Limit on Elective Deferrals
) are not subject to the above limit.
Excess annual additions.
Excess annual additions are the amounts contributed to a defined contribution plan that are more than the limits discussed
previously. A plan can
correct excess annual additions caused by any of the following actions.
A reasonable error in estimating a participant's compensation.
A reasonable error in determining the elective deferrals permitted (discussed later).
Forfeitures allocated to participants' accounts.
Correcting excess annual additions.
A plan can provide for the correction of excess annual additions in the following ways.
Allocate and reallocate the excess to other participants in the plan to the extent of their unused limits for the year.
If these limits are exceeded, do one of the following.
Hold the excess in a separate account and allocate (and reallocate) it to participants' accounts in the following year (or
making any contributions for that year (see also Carryover of Excess Contributions, later).
Return employee after-tax contributions or elective deferrals (see Employee Contributions and Elective Deferrals (401(k)
Tax treatment of returned contributions or distributed elective deferrals.
The return of employee after-tax contributions or the distribution of elective deferrals to correct excess annual
additions is considered a
corrective payment rather than a distribution of accrued benefits. The penalties for early distributions and excess distributions
do not apply.
These disbursements are not wages reportable on Form W-2. For specific information about reporting them, see the Instructions
for Forms 1099-R and
Participants must report these amounts on the line for Pensions and annuities on Form 1040 or Form 1040A, U.S. Individual
Income Tax Return.
Participants may be permitted to make nondeductible contributions to a plan in addition to your contributions. Even though
contributions are not deductible, the earnings on them are tax free until distributed in later years. Also, these contributions
must satisfy the
nondiscrimination test of section 401(m). See Regulations sections 1.401(k)-2 and 1.401(m)-2 for further guidance relating
to the nondiscrimination
rules under sections 401(k) and 401(m).
You can usually deduct, subject to limits, contributions you make to a qualified plan, including those made for your own retirement.
contributions (and earnings and gains on them) are generally tax free until distributed by the plan.
The deduction limit for your contributions to a qualified plan depends on the kind of plan you have.
Defined contribution plans.
The deduction for contributions to a defined contribution plan (profit-sharing plan or money purchase pension plan)
cannot be more than 25% of the
compensation paid (or accrued) during the year to your eligible employees participating in the plan. If you are self-employed,
you must reduce this
limit in figuring the deduction for contributions you make for your own account. See Deduction Limit for Self-Employed Individuals,
When figuring the deduction limit, the following rules apply.
Elective deferrals (discussed later) are not subject to the limit.
Compensation includes elective deferrals.
The maximum compensation that can be taken into account for each employee is $225,000.
Defined benefit plans.
The deduction for contributions to a defined benefit plan is based on actuarial assumptions and computations. Consequently,
an actuary must figure
your deduction limit.
In figuring the deduction for contributions, you cannot take into account any contributions or benefits that are more than
the limits discussed
earlier under Limits on Contributions and Benefits. However, your deduction for contributions to a defined benefit plan can
be as much as
the plan's unfunded current liability.
Deduction Limit for Self-Employed Individuals
If you make contributions for yourself, you need to make a special computation to figure your maximum deduction for these
Compensation is your net earnings from self-employment, defined in chapter 1. This definition takes into account both the
The deduction for your own contributions and your net earnings depend on each other. For this reason, you determine the deduction
for your own
contributions indirectly by reducing the contribution rate called for in your plan. To do this, use either the Rate Table for Self-Employed
or the Rate Worksheet for Self-Employed in chapter 5. Then figure your maximum deduction by using the Deduction Worksheet for
Self-Employed in chapter 5.
Where To Deduct Contributions
Deduct the contributions you make for your common-law employees on your tax return. For example, sole proprietors deduct them
on Schedule C (Form
1040), Profit or Loss From Business, or Schedule F (Form 1040), Profit or Loss From Farming; partnerships deduct them on Form
1065, U.S. Return of
Partnership Income; and corporations deduct them on Form 1120, U.S. Corporation Income Tax Return, or Form 1120S, U.S. Income
Tax Return for an S
Sole proprietors and partners deduct contributions for themselves on line 28 of Form 1040, U.S. Individual Income Tax Return.
(If you are a
partner, contributions for yourself are shown on the Schedule K-1 (Form 1065), Partner's Share of Income, Deduction, Credits,
etc., you get from the
Carryover of Excess Contributions
If you contribute more to the plans than you can deduct for the year, you can carry over and deduct the difference in later
years, combined with
your contributions for those years. Your combined deduction in a later year is limited to 25% of the participating employees'
compensation for that
year. For purposes of this limit, a SEP is treated as a profit-sharing (defined contribution) plan. However, this percentage
limit must be reduced to
figure your maximum deduction for contributions you make for yourself. See Deduction Limit for Self-Employed Individuals, earlier. The
amount you carry over and deduct may be subject to the excise tax discussed next.
Table 4-1 illustrates the carryover of excess contributions to a profit-sharing plan.
Table 4-1. Carryover of Excess Contributions Illustrated—Profit-Sharing Plan (000's omitted)
Participants' share of required contribution (10% of annual profit)
limit for current
year (25% of compensation)
Excess contribution carryover
deduction including carryovers
Excess contribution carryover available at
end of year
1There were no carryovers from years before 2004.
Excise Tax for Nondeductible (Excess) Contributions
If you contribute more than your deduction limit to a retirement plan, you have made nondeductible contributions and you may
be liable for an
excise tax. In general, a 10% excise tax applies to nondeductible contributions made to qualified pension and profit-sharing
plans and to SEPs.
Special rule for self-employed individuals.
The 10% excise tax does not apply to any contribution made to meet the minimum funding requirements in a money purchase
pension plan or a defined
benefit plan. Even if that contribution is more than your earned income from the trade or business for which the plan is set
up, the difference is not
subject to this excise tax. See Minimum Funding Requirement,
Reporting the tax.
You must report the tax on your nondeductible contributions on Form 5330. Form 5330 includes a computation of the
tax. See the separate
instructions for completing the form.
Elective Deferrals (401(k) Plans)
Your qualified plan can include a cash or deferred arrangement under which participants can choose to have you contribute
part of their before-tax
compensation to the plan rather than receive the compensation in cash. A plan with this type of arrangement is popularly known
as a “401(k)
plan.” (As a self-employed individual participating in the plan, you can contribute part of your before-tax net earnings from the
contribution is called an “elective deferral” because participants choose (elect) to defer receipt of the money.
In general, a qualified plan can include a cash or deferred arrangement only if the qualified plan is one of the following
For tax years beginning after December 31, 2005, a 401(k) plan may allow employees to contribute to a qualified Roth contribution
more details, see Qualified Roth Contribution Program, later.
Automatic enrollment in a 401(k) plan.
Your 401(k) plan can have an automatic enrollment feature. Under this feature, you can automatically reduce an employee's
pay by a fixed percentage
and contribute that amount to the 401(k) plan on his or her behalf unless the employee affirmatively chooses not to have his
or her pay reduced or
chooses to have it reduced by a different percentage. These contributions qualify as elective deferrals. For more information
about 401(k) plans with
an automatic enrollment feature, see Regulations section 1.401(k)-1.
A partnership can have a 401(k) plan.
Restriction on conditions of participation.
The plan cannot require, as a condition of participation, that an employee complete more than 1 year of service.
If your plan permits, you can make matching contributions for an employee who makes an elective deferral to your 401(k)
plan. For example, the plan
might provide that you will contribute 50 cents for each dollar your participating employees choose to defer under your 401(k)
You can, under a qualified 401(k) plan, also make contributions (other than matching contributions) for your participating
employees without giving
them the choice to take cash instead.
Employee compensation limit.
No more than $225,000 of the employee's compensation can be taken into account when figuring contributions.
SIMPLE 401(k) plan.
If you had 100 or fewer employees who earned $5,000 or more in compensation during the preceding year, you may be
able to set up a SIMPLE 401(k)
plan. A SIMPLE 401(k) plan is not subject to the nondiscrimination and top-heavy plan requirements discussed later under Qualification Rules.
For details about SIMPLE 401(k) plans, see SIMPLE 401(k) Plan
in chapter 3
Limit on Elective Deferrals
There is a limit on the amount an employee can defer each year under these plans. This limit applies without regard to community
Your plan must provide that your employees cannot defer more than the limit that applies for a particular year. For 2007 and
2008, the basic limit on
elective deferrals is $15,500 per year. If, in conjunction with other plans, the deferral limit is exceeded, the difference
is included in the
employee's gross income.
A 401(k) plan can permit participants who are age 50 or over at the end of the calendar year to also make catch-up
contributions. The catch-up
contribution limit for 2007 and 2008 is $5,000 per year. Elective deferrals are not treated as catch-up contributions for
2007 until they exceed the
$15,500 limit, the ADP test limit of section 401(k)(3), or the plan limit (if any). However, the catch-up contribution a participant
can make for a
year cannot exceed the lesser of the following amounts.
Treatment of contributions.
Your contributions to a 401(k) plan are generally deductible by you and tax free to participating employees until
distributed from the plan.
Participating employees have a nonforfeitable right to the accrued benefit resulting from these contributions. Deferrals are
included in wages for
social security, Medicare, and federal unemployment (FUTA) tax.
Reporting on Form W-2.
You must report the total amount deferred in boxes 3, 5, and 12 of your employee's
Form W-2. See the Form W-2 instructions.
Treatment of Excess Deferrals
If the total of an employee's deferrals is more than the limit for 2007, the employee can have the difference (called an excess
deferral) paid out
of any of the plans that permit these distributions. He or she must notify the plan by April 15, 2008 (or an earlier date
specified in the plan), of
the amount to be paid from each plan. The plan must then pay the employee that amount by April 15, 2008.
Excess withdrawn by April 15.
If the employee takes out the excess deferral by April 15, 2008, it is not reported again by including it in the employee's
gross income for 2008.
However, any income earned on the excess deferral taken out is taxable in the tax year in which it is taken out. The distribution
is not subject to
the additional 10% tax on early distributions.
If the employee takes out part of the excess deferral and the income on it, the distribution is treated as made proportionately
from the excess
deferral and the income.
Even if the employee takes out the excess deferral by April 15, the amount is considered contributed for satisfying
(or not satisfying) the
nondiscrimination requirements of the plan, unless the distributed amount is for a non-highly compensated employee who participates
in only one
employer's 401(k) plan or plans. See Contributions or benefits must not discriminate,
later, under Qualification Rules.
Excess not withdrawn by April 15.
If the employee does not take out the excess deferral by April 15, 2008, the excess, though taxable in 2007, is not
included in the employee's cost
basis in figuring the taxable amount of any eventual benefits or distributions under the plan. In effect, an excess deferral
left in the plan is taxed
twice, once when contributed and again when distributed. Also, if the entire deferral is allowed to stay in the plan, the
plan may not be a qualified
Reporting corrective distributions on Form 1099-R.
Report corrective distributions of excess deferrals (including any earnings) on Form 1099-R. For specific information
about reporting corrective
distributions, see the Instructions for Forms 1099-R and 5498.
Tax on excess contributions of highly compensated employees.
The law provides tests to detect discrimination in a plan. If tests, such as the actual deferral percentage test (ADP
test) (see section 401(k)(3))
and the actual contribution percentage test (ACP test) (see section 401(m)(2)), show that contributions for highly compensated
employees are more than
the test limits for these contributions, the employer may have to pay a 10% excise tax. Report the tax on Form 5330.
The ADP and ACP tests do not apply to safe harbor 401(k) plans.
The tax for the year is 10% of the excess contributions for the plan year ending in your tax year. Excess contributions
are elective deferrals,
employee contributions, or employer matching or nonelective contributions that are more than the amount permitted under the
ADP test or the ACP test.
See Regulations sections 1.401(k)-2 and 1.401(m)-2 for further guidance relating to the nondiscrimination rules under
sections 401(k) and 401(m).
Qualified Roth Contribution Program
Under this program an eligible employee can designate all or a portion of his or her elective deferrals as after-tax Roth
deferrals designated as Roth contributions must be maintained in a separate Roth account. However, unlike other elective deferrals,
contributions are not excluded from your gross income but qualified distributions from a Roth account are excluded from your
Under a qualified Roth contribution program, the amount of elective deferrals that an employee may designate as a Roth contribution
is limited to
the maximum amount of elective deferrals excludable from gross income for the year ($15,500 for 2007, $20,500 if 50 or over)
less the total amount of
the employee's elective deferrals not designated as Roth contributions.
Designated Roth deferrals are treated the same as pre-tax elective deferrals for most purposes, including:
The annual individual elective deferral limit (total of all designated Roth contributions and traditional, pre-tax elective
- $15,500 in 2007 and also in 2008, with an additional $5,000 if age 50 or over,
Determining the maximum employee and employer annual contributions - the lesser of 100% of compensation or $45,000 for 2007
in 2008) and subject to cost-of-living adjustment thereafter,
Required distributions, and
Elective deferrals not taken into account for purposes of deduction limits.
A qualified distribution is a distribution that is made after the employee's nonexclusion period and:
On or after the employee attains age
On account of the employee's being disabled, or
On or after the employee's death.
An employee's nonexclusion period for a plan is the 5-tax-year period beginning with the earlier of the following tax years.
The first tax year in which the employee made a designated Roth contribution to the plan, or
If a rollover contribution was made to the employee's designated Roth account from a designated Roth account previously established
employee under another plan, then the first tax year the employee made a designated Roth contribution to the previously established
Since 2006 was the first year an employee could make designated Roth contributions, the earliest a qualified distribution
can be made is January 1,
A distribution from a designated Roth account can only be rolled over to another designated Roth account or a Roth
IRA. Rollover amounts do not
apply toward the annual deferral limit.
You must report a contribution to a Roth account on Form W-2, Wage and Tax Statement, and a distribution from a Roth account
on Form 1099-R,
Distributions From Pensions, Annuities, Retirement or Profit-Sharing Plans, IRAs, Insurance Contracts, etc. See the Form W-2
and 1099-R instructions
for detailed information.
Amounts paid to plan participants from a qualified plan are called distributions. Distributions may be nonperiodic, such as
or periodic, such as annuity payments. Also, certain loans may be treated as distributions. See Loans Treated as Distributions in Pub. 575.
A qualified plan must provide that each participant will either:
Receive his or her entire interest (benefits) in the plan by the required beginning date (defined later), or
Begin receiving regular periodic distributions by the required beginning date in annual amounts calculated to distribute the
entire interest (benefits) over his or her life expectancy or over the joint life expectancy of the participant and the designated
over a shorter period).
These distribution rules apply individually to each qualified plan. You cannot satisfy the requirement for one plan by taking
a distribution from
another. The plan must provide that these rules override any inconsistent distribution options previously offered.
If the account balance of a qualified plan participant is to be distributed (other than as an annuity), the plan administrator
must figure the
minimum amount required to be distributed each distribution calendar year. This minimum is figured by dividing the account
balance by the applicable
life expectancy. For details on figuring the minimum distribution, see Tax on Excess Accumulation
in Pub. 575.
Minimum distribution incidental benefit requirement.
Minimum distributions must also meet the minimum distribution incidental benefit requirement. This requirement ensures
the plan is used primarily
to provide retirement benefits to the employee. After the employee's death, only “incidental
” benefits are expected to remain for distribution to
the employee's beneficiary (or beneficiaries). For more information about other distribution requirements, see Pub. 575.
Required beginning date.
Generally, each participant must receive his or her entire benefits in the plan or begin to receive periodic distributions
of benefits from the
plan by the required beginning date.
A participant must begin to receive distributions from his or her qualified retirement plan by April 1 of the first
year after the later of the
Calendar year in which he or she reaches age 70½.
Calendar year in which he or she retires from employment with the employer maintaining the plan.
However, the plan may require the participant to begin receiving distributions by April 1 of the year after the participant
reaches age 701/ even if the participant has not retired.
If the participant is a 5% owner of the employer maintaining the plan or if the distribution is from a traditional
or SIMPLE IRA, the participant
must begin receiving distributions by April 1 of the first year after the calendar year in which the participant reached age
more information, see Tax on Excess Accumulation
in Pub. 575.
Distributions after the starting year.
The distribution required to be made by April 1 is treated as a distribution for the starting year. (The starting
year is the year in which the
participant meets (1) or (2) above, whichever applies.) After the starting year, the participant must receive the required
distribution for each year
by December 31 of that year. If no distribution is made in the starting year, required distributions for 2 years must be made
in the next year (one by
April 1 and one by December 31).
Distributions after participant's death.
See Pub. 575 for the special rules covering distributions made after the death of a participant.
Distributions From 401(k) Plans
Generally, distributions cannot be made until one of the following occurs.
The employee retires, dies, becomes disabled, or otherwise severs employment.
The plan ends and no other defined contribution plan is established or continued.
In the case of a 401(k) plan that is part of a profit-sharing plan, the employee reaches age 59½ or suffers financial
hardship. For the rules on hardship distributions, including the limits on them, see Regulations section 1.401(k)-1(d).
Certain distributions listed above may be subject to the tax on early distributions discussed later.
Qualified domestic relations order (QDRO).
These distribution restrictions do not apply if the distribution is to an alternate payee under the terms of a QDRO,
which is defined in Pub. 575.
Tax Treatment of Distributions
Distributions from a qualified plan minus a prorated part of any cost basis are subject to income tax in the year they are
distributed. Since most
recipients have no cost basis, a distribution is generally fully taxable. An exception is a distribution that is properly
rolled over as discussed
under Rollover, below.
The tax treatment of distributions depends on whether they are made periodically over several years or life (periodic distributions)
nonperiodic distributions. See Taxation of Periodic Payments and Taxation of Nonperiodic Payments in Pub. 575 for a detailed
description of how distributions are taxed, including the 10-year tax option or capital gain treatment of a lump-sum distribution.
A recipient of a distribution from a designated Roth account will have a cost basis since designated Roth contributions are
made on an after-tax
basis. Also, a distribution from a designated Roth account is tax-free if certain conditions are met. See Qualified distributions under
Qualified Roth Contribution Program.
The recipient of an eligible rollover distribution from a qualified plan can defer the tax on it by rolling it over
into a traditional IRA or
another eligible retirement plan. However, it may be subject to withholding as discussed under Withholding requirement,
Eligible rollover distribution.
This is a distribution of all or any part of an employee's balance in a qualified retirement plan that is not any
of the following.
A required minimum distribution. See Required Distributions, earlier.
Any of a series of substantially equal payments made at least once a year over any of the following periods.
The employee's life or life expectancy.
The joint lives or life expectancies of the employee and beneficiary.
A period of 10 years or longer.
A hardship distribution.
The portion of a distribution that represents the return of an employee's nondeductible contributions to the plan. See Employee
Contributions, earlier. Also, see the Tip later.
A corrective distribution of excess contributions or deferrals under a 401(k) plan and any income allocable to the excess,
or of excess
annual additions and any allocable gains. See Correcting excess annual additions, earlier, under Limits on Contributions and Benefits.
Loans treated as distributions.
Dividends on employer securities.
The cost of life insurance coverage.
Similar items designated by the IRS in published guidance. See, for example, the Instructions for Forms 1099-R and 5498.
Rollover of nontaxable amounts.
You may be able to roll over the nontaxable part of a distribution to another qualified retirement plan or a section
403(b) plan, or to a
traditional IRA. The transfer must be made either through a direct (trustee-to-trustee) rollover to a qualified retirement
plan or a section 403(b)
plan that separately accounts for the taxable and nontaxable parts of the rollover or through a rollover to a traditional
A distribution from a designated Roth account can be rolled over to another designated Roth account or to a Roth IRA. If the
rollover is to a Roth
IRA, it can be rolled over by any rollover method, but if the rollover is to another designated Roth account, it must be rolled
A distribution of the employee's nondeductible contributions may qualify as a rollover distribution. The transfer must be
made either (1) through a
direct rollover to a defined contribution plan (or, beginning in 2007, to a section 403(b) plan) that separately accounts
for the taxable and
nontaxable parts of the rollover or (2) through a rollover to a traditional IRA.
For more information about rollovers, see Rollovers
in Pubs. 575 and 590.
If, during a year, a qualified plan pays to a participant one or more eligible rollover distributions (defined earlier)
that are reasonably
expected to total $200 or more, the payor must withhold 20% of each distribution for federal income tax.
If, instead of having the distribution paid to him or her, the participant chooses to have the plan pay it directly
to an IRA or another eligible
retirement plan (a direct rollover
), no withholding is required.
If the distribution is not an eligible rollover distribution, defined earlier, the 20% withholding requirement does
not apply. Other withholding
rules apply to distributions such as long-term periodic distributions and required distributions (periodic or nonperiodic).
However, the participant
can still choose not to have tax withheld from these distributions. If the participant does not make this choice, the following
For periodic distributions, withholding is based on their treatment as wages.
For nonperiodic distributions, 10% of the taxable part is withheld.
Estimated tax payments.
If no income tax is withheld or not enough tax is withheld, the recipient of a distribution may have to make estimated
tax payments. For more
information, see Withholding Tax and Estimated Tax
in Pub. 575.
Tax on Early Distributions
If a distribution is made to an employee under the plan before he or she reaches age 59½, the employee may have to pay a 10%
additional tax on the distribution. This tax applies to the amount received that the employee must include in income.
The 10% tax will not apply if distributions before age 59½ are made in any of the following circumstances.
Made to a beneficiary (or to the estate of the employee) on or after the death of the employee.
Made due to the employee having a qualifying disability.
Made as part of a series of substantially equal periodic payments beginning after separation from service and made at least
annually for the
life or life expectancy of the employee or the joint lives or life expectancies of the employee and his or her designated
beneficiary. (The payments
under this exception, except in the case of death or disability, must continue for at least 5 years or until the employee
reaches age 59½, whichever is the longer period.)
Made to an employee after separation from service if the separation occurred during or after the calendar year in which the
Made to an alternate payee under a QDRO.
Made to an employee for medical care up to the amount allowable as a medical expense deduction (determined without regard
to whether the
employee itemizes deductions).
Timely made to reduce excess contributions under a 401(k) plan.
Timely made to reduce excess employee or matching employer contributions (excess aggregate contributions).
Timely made to reduce excess elective deferrals.
Made because of an IRS levy on the plan.
Made as a qualified reservist distribution. A qualified reservist distribution is a distribution from an IRA or an elective
made after September 11, 2001, to a military reservist or a member of the National Guard who has been called to active duty
for at least 180 days or
for an indefinite period.
Reporting the tax.
To report the tax on early distributions, file Form 5329, Additional Taxes on Qualified Plans (Including IRAs) and
Other Tax-Favored Accounts. See
the form instructions for additional information about this tax.
If you are or have been a 5% owner of the business maintaining the plan, amounts you receive at any age that are more than
the benefits provided
for you under the plan formula are subject to an additional tax. This tax also applies to amounts received by your successor.
The tax is 10% of the
excess benefit includible in income.
You are a 5% owner if you meet either of the following conditions at any time during the 5 plan years immediately
before the plan year that ends
within the tax year you receive the distribution.
You own more than 5% of the capital or profits interest in the employer.
You own or are considered to own more than 5% of the outstanding stock (or more than 5% of the total voting power of all stock)
Reporting the tax.
Include on Form 1040, line 63, any tax you owe for an excess benefit. On the dotted line next to the total, write
” and write in
The amount subject to the additional tax is not eligible for the optional methods of figuring income tax on a lump-sum
distribution. The optional
methods are discussed under Lump-Sum Distributions
in Pub. 575.
Excise Tax on Reversion of Plan Assets
A 20% or 50% excise tax is generally imposed on the cash and fair market value of other property an employer receives directly
or indirectly from a
qualified plan. If you owe this tax, report it on Schedule I of Form 5330. See the form instructions for more information.
Notification of Significant Benefit Accrual Reduction
An employer or the plan will have to pay an excise tax if both the following occur.
A defined benefit plan or money purchase pension plan is amended to provide for a significant reduction in the rate of future
The plan administrator fails to notify the affected individuals and the employee organizations representing them of the reduction
writing. Affected individuals are the participants and alternate payees whose rate of benefit accrual under the plan may reasonably
be expected to be
significantly reduced by the amendment.
A plan amendment that eliminates or reduces any early retirement benefit or retirement-type subsidy reduces the rate of future
The notice must be written in a manner calculated to be understood by the average plan participant and must provide enough
information to allow
each individual to understand the effect of the plan amendment. It must be provided within a reasonable time before the amendment
The tax is $100 per participant or alternate payee for each day the notice is late. It is imposed on the employer, or, in
the case of a
multi-employer plan, on the plan.
There are certain exceptions to, and limitations on, the tax. The tax does not apply in any of the following situations.
The person liable for the tax was unaware of the failure and exercised reasonable diligence to meet the notice requirements.
The person liable for the tax exercised reasonable diligence to meet the notice requirements and provided the notice within
30 days starting
on the first date the person knew or should have known that the failure to provide notice existed.
If the person liable for the tax exercised reasonable diligence to meet the notice requirement, the tax cannot be more than
$500,000 during the
tax year. The tax can also be waived to the extent it would be excessive or unfair if the failure is due to reasonable cause
and not to willful
Prohibited transactions are transactions between the plan and a disqualified
person that are prohibited by law. (However, see Exemption, later.) If you are a disqualified
person who takes part in a prohibited transaction, you must pay a tax (discussed later).
Prohibited transactions generally include the following transactions.
A transfer of plan income or assets to, or use of them by or for the benefit of, a disqualified person.
Any act of a fiduciary by which he or she deals with plan income or assets in his or her own interest.
The receipt of consideration by a fiduciary for his or her own account from any party dealing with the plan in a transaction
plan income or assets.
Any of the following acts between the plan and a disqualified person.
Selling, exchanging, or leasing property.
Lending money or extending credit.
Furnishing goods, services, or facilities.
Certain transactions are exempt from being treated as prohibited transactions. For example, a prohibited transaction
does not take place if you are
a disqualified person and receive any benefit to which you are entitled as a plan participant or beneficiary. However, the
benefit must be figured and
paid under the same terms as for all other participants and beneficiaries. For other transactions that are exempt, see section
4975 and the related
You are a disqualified person if you are any of the following.
A fiduciary of the plan.
A person providing services to the plan.
An employer, any of whose employees are covered by the plan.
An employee organization, any of whose members are covered by the plan.
Any direct or indirect owner of 50% or more of any of the following.
The combined voting power of all classes of stock entitled to vote, or the total value of shares of all classes of stock of
that is an employer or employee organization described in (3) or (4).
The capital interest or profits interest of a partnership that is an employer or employee organization described in (3) or
The beneficial interest of a trust or unincorporated enterprise that is an employer or an employee organization described
in (3) or
A member of the family of any individual described in (1), (2), (3), or (5). (A member of a family is the spouse, ancestor,
descendant, or any spouse of a lineal descendant.)
A corporation, partnership, trust, or estate of which (or in which) any direct or indirect owner described in (1) through
(5) holds 50% or
more of any of the following.
The combined voting power of all classes of stock entitled to vote or the total value of shares of all classes of stock of
The capital interest or profits interest of a partnership.
The beneficial interest of a trust or estate.
An officer, director (or an individual having powers or responsibilities similar to those of officers or directors), a 10%
shareholder, or highly compensated employee (earning 10% or more of the yearly wages of an employer) of a person described
in (3), (4), (5), or
A 10% or more (in capital or profits) partner or joint venturer of a person described in (3), (4), (5), or (7).
Any disqualified person, as described in (1) through (9) above, who is a disqualified person with respect to any plan to which
501(c)(22) trust is permitted to make payments under section 4223 of ERISA.
Tax on Prohibited Transactions
The initial tax on a prohibited transaction is 15% of the amount involved for each year (or part of a year) in the taxable
period. If the
transaction is not corrected within the taxable period, an additional tax of 100% of the amount involved is imposed. For information
on correcting the
transaction, see Correcting a prohibited transaction, later.
Both taxes are payable by any disqualified person who participated in the transaction (other than a fiduciary acting only
as such). If more than
one person takes part in the transaction, each person can be jointly and severally liable for the entire tax.
The amount involved in a prohibited transaction is the greater of the following amounts.
If services are performed, the amount involved is any excess compensation given or received.
The taxable period starts on the transaction date and ends on the earliest of the following days.
The day the IRS mails a notice of deficiency for the tax.
The day the IRS assesses the tax.
The day the correction of the transaction is completed.
Payment of the 15% tax.
Pay the 15% tax with Form 5330.
Correcting a prohibited transaction.
If you are a disqualified person who participated in a prohibited transaction, you can avoid the 100% tax by correcting
the transaction as soon as
possible. Correcting the transaction means undoing it as much as you can without putting the plan in a worse financial position
than if you had acted
under the highest fiduciary standards.
If the prohibited transaction is not corrected during the taxable period, you usually have an additional 90 days after
the day the IRS mails a
notice of deficiency for the 100% tax to correct the transaction. This correction period (the taxable period plus the 90 days)
can be extended if
either of the following occurs.
If you correct the transaction within this period, the IRS will abate, credit, or refund the 100% tax.
You may have to file an annual return/report form by the last day of the 7th month after the plan year ends. See the following
list of forms to
choose the right form for your plan.
You can use Form 5500-EZ if the plan meets all the following conditions.
The plan is a one-participant plan, defined below.
The plan meets the minimum coverage requirements of section 410(b) without being combined with any other plan you may have
that covers other
employees of your business.
The plan only provides benefits for you, you and your spouse, or one or more partners and their spouses.
The plan does not cover a business that is a member of an affiliated service group, a controlled group of corporations, or
a group of
businesses under common control.
The plan does not cover a business that leases employees.
Your plan is a one-participant plan if either of the following is true.
The plan covers only you (or you and your spouse) and you (or you and your spouse) own the entire business (whether incorporated
The plan covers only one or more partners (or partner(s) and spouse(s)) in a business partnership.
Form 5500-EZ not required.
You do not have to file Form 5500-EZ (or Form 5500) for a plan year (other than the final plan year) that begins on
or after January 1, 2007, if
you meet the conditions mentioned above and you have one or more one-participant plans that separately or together had total
assets of $250,000 or
less at the end of that plan year.
You are a sole proprietor and your plan meets all the conditions for filing Form 5500-EZ. The total plan assets are more than
$250,000. You should
file Form 5500-EZ.
All one-participant plans must file Form 5500-EZ for their final plan year, even if the total plan assets have always been
less than $100,000 for
plans beginning on or before December 31, 2006, and $250,000 for plans beginning on or after January 1, 2007. The final plan
year is the year in which
distribution of all plan assets is completed.
If you do not meet the requirements for filing Form 5500-EZ, you must file Form 5500.
Schedule A (Form 5500).
If any plan benefits are provided by an insurance company, insurance service, or similar organization, complete and
attach Schedule A (Form 5500)
to Form 5500. Schedule A is not needed for a plan that covers only one of the following.
An individual or an individual and spouse who wholly own the trade or business, whether incorporated or unincorporated.
Partners in a partnership or the partners and their spouses.
Schedule B (Form 5500).
For most defined benefit plans, complete and attach Schedule B (Form 5500), Actuarial Information, to Form 5500.
Do not file a Schedule A (Form 5500) or a Schedule B (Form 5500) with a Form 5500-EZ. However, filers of Form 5500-EZ must
collect and retain
completed and signed Schedule Bs, if applicable.
If you terminate your plan and are the plan sponsor or plan administrator, you can file Form 5310, Application for
Determination for Terminating
Plan. Your application must be accompanied by the appropriate user fee and Form 8717,
User Fee for Employee Plan Determination, Opinion, and Advisory Letter Request.
For more information about reporting requirements, see the forms and their instructions.
For small plans with 25 or fewer participants, certain simplified filing choices may be available. See the Instructions for
To qualify for the tax benefits available to qualified plans, a plan must meet certain requirements (qualification rules)
of the tax law.
Generally, unless you write your own plan, the financial institution that provided your plan will take the continuing responsibility
qualification rules that are later changed. The following is a brief overview of important qualification rules that generally
have not yet been
discussed. It is not intended to be all-inclusive. See Setting Up a Qualified Plan, earlier.
Generally, the following qualification rules also apply to a SIMPLE 401(k) retirement plan. A SIMPLE 401(k) plan is, however,
not subject to the
top-heavy plan rules and nondiscrimination rules if the plan satisfies the provisions discussed in chapter 3 under SIMPLE
Plan assets must not be diverted.
Your plan must make it impossible for its assets to be used for, or diverted to, purposes other than the benefit of
employees and their
beneficiaries. As a general rule, the assets cannot be diverted to the employer.
Minimum coverage requirement must be met.
To be a qualified plan, a defined benefit plan must benefit at least the lesser of the following.
The greater of:
40% of all employees, or
If there is only one employee, the plan must benefit that employee.
Contributions or benefits must not discriminate.
Under the plan, contributions or benefits to be provided must not discriminate in favor of highly compensated employees.
Contributions and benefits must not be more than certain limits.
Your plan must not provide for contributions or benefits that are more than certain limits. The limits apply to the
annual contributions and other
additions to the account of a participant in a defined contribution plan and to the annual benefit payable to a participant
in a defined benefit plan.
These limits were discussed earlier under Contributions.
Minimum vesting standard must be met.
Your plan must satisfy certain requirements regarding when benefits vest. A benefit is vested (you have a fixed right
to it) when it becomes
nonforfeitable. A benefit is nonforfeitable if it cannot be lost upon the happening, or failure to happen, of any event.
In general, an employee must be allowed to participate in your plan if he or she meets both the following requirements.
A plan cannot exclude an employee because he or she has reached a specified age.
A leased employee, defined in chapter 1, who performs services for you (recipient of the services) is treated as your
employee for certain plan
qualification rules. These rules include those in all the following areas.
Nondiscrimination in coverage, contributions, and benefits.
Minimum age and service requirements.
Limits on contributions and benefits.
Top-heavy plan requirements.
Contributions or benefits provided by the leasing organization for services performed for you are treated as provided by you.
Benefit payment must begin when required.
Your plan must provide that, unless the participant chooses otherwise, the payment of benefits to the participant
must begin within 60 days after
the close of the latest of the following periods.
The plan year in which the participant reaches the earlier of age 65 or the normal retirement age specified in the plan.
The plan year in which the 10th anniversary of the year in which the participant began participating in the plan occurs.
The plan year in which the participant separates from service.
Your plan can provide for payment of retirement benefits before the normal retirement age. If your plan offers an
early retirement benefit, a
participant who separates from service before satisfying the early retirement age requirement is entitled to that benefit
if he or she meets both the
Satisfies the service requirement for the early retirement benefit.
Separates from service with a nonforfeitable right to an accrued benefit. The benefit, which may be actuarially reduced, is
payable when the
early retirement age requirement is met.
Defined benefit and money purchase pension plans must provide automatic survivor benefits in both the following forms.
A qualified joint and survivor annuity for a vested participant who does not die before the annuity starting date.
A qualified pre-retirement survivor annuity for a vested participant who dies before the annuity starting date and who has
The automatic survivor benefit also applies to any participant under a profit-sharing plan unless all the following
conditions are met.
The participant does not choose benefits in the form of a life annuity.
The plan pays the full vested account balance to the participant's surviving spouse (or other beneficiary if the surviving
or if there is no surviving spouse) if the participant dies.
The plan is not a direct or indirect transferee of a plan that must provide automatic survivor benefits.
Loan secured by benefits.
If survivor benefits are required for a spouse under a plan, he or she must consent to a loan that uses as security
the accrued benefits in the
Waiver of survivor benefits.
Each plan participant may be permitted to waive the joint and survivor annuity or the pre-retirement survivor annuity
(or both), but only if the
participant has the written consent of the spouse. The plan also must allow the participant to withdraw the waiver. The spouse's
consent must be
witnessed by a plan representative or notary public.
Waiver of 30-day waiting period before annuity starting date.
A plan may permit a participant to waive (with spousal consent) the 30-day minimum waiting period after a written
explanation of the terms and
conditions of a joint and survivor annuity is provided to each participant.
The waiver is allowed only if the distribution begins more than 7 days after the written explanation is provided.
Involuntary cash-out of benefits not more than dollar limit.
A plan may provide for the immediate distribution of the participant's benefit under the plan if the present value
of the benefit is not greater
However, the distribution cannot be made after the annuity starting date unless the participant and the spouse or
surviving spouse of a participant
who died (if automatic survivor benefits are required for a spouse under the plan) consents in writing to the distribution.
If the present value is
greater than $5,000, the plan must have the written consent of the participant and the spouse or surviving spouse (if automatic
survivor benefits are
required for a spouse under the plan) for any immediate distribution of the benefit.
Benefits attributable to rollover contributions and earnings on them can be ignored in determining the present value
of these benefits.
For distributions made on or after March 28, 2005, a plan must provide for the automatic rollover of any cash-out
distribution of more than $1,000
to an individual retirement account, unless the participant chooses otherwise. The plan administrator must notify the participant
in writing that the
distribution can be transferred to another IRA.
Consolidation, merger, or transfer of assets or liabilities.
Your plan must provide that, in the case of any merger or consolidation with, or transfer of assets or liabilities
to, any other plan, each
participant would (if the plan then terminated) receive a benefit equal to or more than the benefit he or she would have been
entitled to just before
the merger, etc. (if the plan had then terminated).
Benefits must not be assigned or alienated.
Your plan must provide that its benefits cannot be assigned or alienated.
Exception for certain loans.
A loan from the plan (not from a third party) to a participant or beneficiary is not treated as an assignment or alienation
if the loan is secured
by the participant's accrued nonforfeitable benefit and is exempt from the tax on prohibited transactions under section 4975(d)(1)
or would be exempt
if the participant were a disqualified person. A disqualified person is defined earlier under Prohibited Transactions.
Exception for QDRO.
Compliance with a QDRO does not result in a prohibited assignment or alienation of benefits. QDRO is defined in Pub.
Payments to an alternate payee under a QDRO before the participant attains age 59½ are not subject to the 10% additional
would otherwise apply under certain circumstances. The interest of the alternate payee is not taken into account in determining
whether a distribution
to the participant is a lump-sum distribution. Benefits distributed to an alternate payee under a QDRO can be rolled over
tax free to an individual
retirement account or to an individual retirement annuity.
No benefit reduction for social security increases.
Your plan must not permit a benefit reduction for a post-separation increase in the social security benefit level
or wage base for any participant
or beneficiary who is receiving benefits under your plan, or who is separated from service and has nonforfeitable rights to
benefits. This rule also
applies to plans supplementing the benefits provided by other federal or state laws.
Elective deferrals must be limited.
If your plan provides for elective deferrals, it must limit those deferrals to the amount in effect for that particular
year. See Limit on
Top-heavy plan requirements.
A top-heavy plan is one that mainly favors partners, sole proprietors, and other key employees.
A plan is top heavy for a plan year if, for the preceding plan year, the total value of accrued benefits or account
balances of key employees is
more than 60% of the total value of accrued benefits or account balances of all employees. Additional requirements apply to
a top-heavy plan primarily
to provide minimum benefits or contributions for non-key employees covered by the plan.
Most qualified plans, whether or not top heavy, must contain provisions that meet the top-heavy requirements and will
take effect in plan years in
which the plans are top heavy. These qualification requirements for top-heavy plans are explained in section 416 and its regulations.
SIMPLE and safe harbor 401(k) plan exception.
The top-heavy plan requirements do not apply to SIMPLE 401(k) plans or to safe harbor 401(k) plans that consist solely
of safe harbor
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