Life and Death Planning for Retirement Benefits

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Life and Death Planning for Retirement Benefits

The participant’s basis in a QRP consists of the sum of the following three components, A–C. In addition, some QRP participants may have basis in a life insurance contract held within the plan; see ¶ 11.2.05 . A. Nondeductible employee contributions. Some QRPs permit (or formerly permitted) employees to make after-tax contributions. The employee’s nondeductible contributions become his basis or investment in the contract with respect to the plan benefits. Some 403(b) plans and government plans have mandatory employee contributions or permit participants to contribute their own after-tax money to the plan to purchase “past service credits”; these nondeductible contributions are added to the employee’s investment in the contract. Regardless of the reason for the nondeductible contributions, the earnings on such contributions are not part of the employee’s basis; the earnings are pretax money. B. Employer plan contributions when plan was not qualified. If the retirement plan was not a “qualified plan” at some time(s) during its history, employer contributions to the employee’s account in the plan may have been treated as taxable income to the employee at the time of the contribution. Any such previously-taxed contribution becomes part of the participant’s “investment in the contract.” Reg. § 1.402(a)-1(a)(1)(iv) . C. Plan loans that become deemed distributions. See ¶ 2.1.07 (A). It is unusual for an employee to have any basis in a QRP, since most employees do not have defaulted or improper plan loans, previously-taxed employer contributions, or nondeductible employee contributions. When an employee does have significant basis in a QRP, consider converting the plan (or the employee contribution account in the plan, if that is the account that contains the after-tax money; see ¶ 2.2.04 (C)) directly to a Roth IRA; see ¶ 5.4.04 (B). 2.2.04 QRP distributions from account that contains after-tax money Under the “cream-in-the-coffee” rule of § 72 ( ¶ 2.2.02 ), a distribution from a QRP generally carries out a pro rata share of the participant’s pre- and after-tax money in the plan. § 72(e)(8)(A) , (B) , (5)(D) . Thus, for example, the employee cannot tell the plan administrator, “Send me a check for all my after-tax money, and keep the pretax money inside the plan for now”; the plan administrator generally cannot distribute the after-tax money separately from the pretax money or vice versa. This Section Matters Only If There Is After-tax Money in the Plan If the participant doesn’t have any after-tax money in his retirement plan, you can skip this ¶ 2.2.04 : All distributions from his account(s) will consist entirely of pretax money...there is no after-tax money to be prorated or allocated. Most participants do not have after-tax money in their qualified plan accounts; for how and why some people do have after-tax money in their plan accounts, see ¶ 2.2.03 .

On the bright side, unlike with IRAs (see ¶ 2.2.08 ), there is no “aggregation rule” requiring multiple nonIRA plans to be considered as “one plan” for purposes of determining how much of any distribution constitutes after-tax money. Thus, for example, a solo practitioner lawyer who has