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Executive and Deferred Compensation Options for Public School Employees

Executive and Deferred Compensation Options for Public School Employees. Presented by: Kristi Cook, JD for Kades-Margolis Corporation March 14, 2002. Why Enact Changes to Retirement Savings?. Congressional Recognition of Need for Additional Retirement Income Expect:

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Executive and Deferred Compensation Options for Public School Employees

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  1. Executive and Deferred Compensation Options for Public School Employees Presented by: Kristi Cook, JD for Kades-Margolis Corporation March 14, 2002

  2. Why Enact Changes to Retirement Savings? • Congressional Recognition of Need for Additional Retirement Income • Expect: • Reduced Social Security benefits • Longer life expectancies • Compounded inflation rates diminish fixed benefits • Market fluctuations on investments

  3. Retirement Plan Changes • All individuals will be permitted to save more for their retirement • Easier calculations and contribution limits • Portability at retirement • Using pre-tax dollars to buy past service credit under PSERS • “Roth” type 403(b) contributions for estate planning and post retirement tax-free assets

  4. 403(b) Plans Were Changed… • Easier contribution limits • Higher contribution limits • Contributions after retirement permitted • Coordination with 457 plans • Source for PSERS “buy back” dollars • Portability

  5. Higher Employee Deferral Limits • New 402(g) limit for employee salary reduction contributions will be $15,000 • Effective in $1,000 increments

  6. Special Aged 50+ “Catch Up” • For any individual who is aged 50 or older during the calendar year, the deferral limit is increased by the following amounts: • Does NOT replace “15 Years of Service” catch up limit • Qualified individuals may use both “catch ups” in the same calendar year • Is not reduced by any other limit

  7. Review of New 403(b) Deferral Limits

  8. Employer Contribution Limits • MEA repealed after 2001 • 415 limit applies to sum of employer and employee contributions • New 415(c) limit is lesser of 100% of compensation or $40,000 • Thereafter automatically increase for cost of living increases in $1,000 increments (not $5,000) • $40,000 limit only applies if employer contributes to plan

  9. Special Note… • One definition of “includible compensation” for all 403(b) purposes • Very friendly definition of “compensation” for all 403(b) purposes • Compensation measured over most recent one-year period of service • Allows look backs • Excludes “termination pay” or other extraordinary compensation accrued over more than one year

  10. In 2002… Employee contribution limit is $11,000 If aged 50+, deferral limit is increased by $1,000 to $12,000 total If eligible for 15 years of service “catch up,” limit is increased by up to $3,000 for possible total of $15,000 Limit for employer and employee contributions is lesser of 100% of includible compensation or $40,000 In 2006… Employee contribution limit is $15,000 If aged 50+, deferral limit is increased by $5,000 to $20,000 total If eligible for 15 years of service “catch up,” limit is increased by up to $3,000 for possible total of $23,000 Limit for employer and employee contributions is lesser of 100% of includible compensation or $40,000 Review of 403(b) Limits

  11. Summary of New 403(b) Deferral Limits Through 2006

  12. 457 Plans…More Deferral Opportunities • Because of changes under EGTRRA, 457 plans will become more attractive to school districts and other governmental employers

  13. What is a 457 Plan? • Considered “nonqualified deferred compensation” plan • NOT a “retirement” plan • Usually a payroll reduction but employer may contribute • No offsets against other plans • Salary reduction agreements are not effective until the 1st day of the month following the election to participate • Distribution timing restrictions • No 10% penalty for distributions before 59 ½

  14. New 457 Plan Limits • Total annual limit is same as deferral limit for 403(b) plans • $11,000 in 2002 increasing to $15,000 in 2006 • Aged 50+ catch up • $1,000 in 2002 increasing to $5,000 in 2006 • OR “Final 3 years” catch up equals 200% of normal limit • Cannot use in final year of service, only in last 3 full years before year of retirement • BUT, cannot use final 3 years of service “catch up” in same year as aged 50+ “catch up”

  15. Combined 403(b) and 457(b) Limits * In 457 plans, cannot use both “catch ups” in same year

  16. Compliance Issues… • Some calculations are still necessary • 15 YOS catch up (in 403(b) plans) is still only available if employee has not averaged more than $5,000 per year in elective deferral contributions and has not previously used the full $15,000 limit • Contribution history • Service history • Available catch up dollars • Must still monitor deferrals and 415 dollar limit if employer contributes to plan • Must collect information on calendar year age • Includible compensation differences between 403(b) and 457 plans

  17. How to Install 457(b) Program • Employer must establish a “plan” • Need plan documentation to satisfy IRS requirements • Two Options • Employer adopts plan funded through trust, custodial account or annuity contract like a “traditional” retirement program, or • Investment products provide “document” through custodial accounts, annuities or contracts • Like current 403(b) relationships • Set up payroll process/procedure like 403(b) plans • Need separate tax reporting “slot” • FICA withholding issues • Will report 403(b) and 457(b) on W-2 as separate items

  18. How to Maximize Deferred Compensation • Multiple Plan Options • Employer may contribute to 403(b) and 457 plan for same employee • School district 457 plan is not subject to general eligibility requirements • Employer may contribute amounts into 457 or 403(b) plan for one, some or all employees • Employer may also contribute to other qualified plans in addition to 403(b) and 457 plans

  19. Multiple Plan Options • Multiple Plan Limits: • Separate 403(b) and 401(a) 415 limits • Employer contributions are not offset by contributions to other plan • Up to $40,000 in each plan! • PLUS 457(b) plan • Employer may fund all or any portion • $11,000 in 2002, $15,000 in 2006 • Employee deferrals DO NOT offset 403(b) contributions

  20. New Employer Funding Opportunities… • Employers may make contributions into 403(b) plans for employees who have retired or otherwise severed their employment for a period of up to 5 years • No post employment contributions into 457(b), 401(k) or 401(a) plans

  21. How Much Can An Employer Contribute? • Up to 100% of final year’s “includible compensation,” capped at 415 dollar limit (currently $40,000) • In each of the 5 years following the year in which employee retired/terminated • Possible total of $200,000 • Will increase as 415 dollar limit increases • Codifies previous private letter rulings • Effect is to increase annual limit from $15,000 to $40,000

  22. Possible Deferred Compensation Scenarios • Using 403(b) Plans… • Employer funds up to $40,000 per year • Employee may still contribute age 50+ catch up • Employer may fund $40,000 per year for up to 5 years after retirement • Add 457(b) plan… • Employer or Employer could fund up to deferral limitRESULT? For 2002 retiree, possible $253,000 For 2006 retiree, possible $265,000

  23. More possibilities • Using 457(f) • Unlimited dollar amounts, but all contributions are immediately taxed when they are no longer subject to a “substantial risk of forfeiture.” • NOT taxed when received • What is a substantial risk of forfeiture ? • Only “approved” risk is a fixed period of years • Perspective on attorneys vs. IRS

  24. Recommendations on Maximizing Deferred Income • Install 457(b) program to double deferral opportunities • Employees can defer up to $40,000 (in 2006) with no employer funding • Have employer make contributions into 403(b) accounts • Up to $40,000 per year while active employee • Employee could also contribute aged 50+ catch up amount • Employer or employee could also fund 457(b) plan

  25. Still More Deferred Compensation… • Employer should contribute to 403(b) plan for 5 years after retirement or severance • If more is needed, consider 457(f) with unlimited contributions

  26. Miscellaneous Changes • Past Service “Buy Backs” with 403(b)/457 Assets • School district employees could use 403(b) and 457 assets to buy past service credits under PSERS • Portability from all plans including 457(b) plans • “Roth” Type Contributions into 403(b) and 401(k) Plans, beginning in January 1, 2006

  27. Education Savings Programs • Education IRAs • Increased to $2,000/yr • May be used for K-12 expenses • 529 Tuition Savings Plans • After tax contributions deposited into “approved” 529 product • Proceeds are tax free if used for qualifying education expenses • Subject to 10% penalty if not used for education expenses • May change beneficiary to anyone within first cousin relationship to first named beneficiary

  28. Summary of New Opportunities • More opportunities for retirement savings • Compliance is easier for employers • More payroll issues • Post retirement funding of employer 403(b) contributions • Retirement planning is tax free benefit • Help will be needed to coordinate retirement options, portability issues and “Roth” viability • Integration of benefits with Social Security and state pension system

  29. Thank You Any Questions?

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