by Richard D. Weber, J.D.
MDA Legal Counsel
Published in the March 2002 issue of the Journal
Question: I understand there is a new law regarding retirement plans that may be beneficial to dentists. Can you explain?
Answer: My partner, Curt DeRoo, specializes in retirement plans. He has responded to this question for this month's issue.
The Economic Growth and Tax Relief Reconciliation Act, or EGTRRA, (the act), effective Jan. 1, 2002, has a number of provisions favorable to dentists. hese include liberalized contribution rules which provide greater tax savings. A brief summary follows:
Increased contribution limits for retirement plans. An individual is limited to a maximum compensation level and a maximum percentage and dollar contribution level. The current $170,000 ceiling on compensation for retirement plan purposes is raised to $200,000 and the individual contribution limit is raised from 25 percent/$30,000 to 100 percent/$40,000. These increases in compensation and contribution levels benefit higher-paid individuals such as dentists. A dentist will now be able to achieve tax savings of $40,000 per year rather than $30,000. The 100 percent limit also means that a lower-paid employee may be able to achieve greater tax savings in contributing a larger portion of his or her salary in a 401(k) plan.
Employer contributions for profit-sharing plans. The employer contribution limit in a profit-sharing plan is changed from 15 percent to 25 percent of compensation. Money purchase pension plans remain at the 25 percent limit. This means that many paired plans (the classic formula was a 10 percent money purchase Pension Plan plus a 15 percent profit-sharing plan) can now be eliminated or merged into a single profit-sharing plan, since the profit-sharing plan can now allow the maximum employer contribution of 25 percent. A dentist earning $200,000 per year can reach the maximum $40,000 by having a single profit-sharing plan with a 20 percent contribution.
Employee contributions for 401(k) plans. Employee contribution limits for 401(k) and similar plans are substantially increased. 401(k) plans, 403(b) plans, and 457 plans all previously had maximum limits of $10,500, $10,500, and $8,500, respectively. The new limits for all three plans are now $11,000 in 2002; $12,000 in 2003; $13,000 in 2004; $14,000 in 2005; and $15,000 in 2006. After that the limit is indexed with cost-of-living increases.
Simple plan limits are increased from $6,500 in 2001 to $7,000 in 2002; $8,000 in 2003; $9,000 in 2004; and $10,000 in 2005. After that they are indexed with cost-of-living increases.
Catch-up contributions. A new type of contribution is also available to individuals aged 50 and older. This provision can be added to any retirement plan that allows employee deferrals (such as 401(k) and 403(b) plans). These special "catch up" contributions are $1,000 for 2002; $2,000 for 2003; $3,000 for 2004; $4,000 for 2005; and $5,000 for 2006. For simple plans the limits are half of the above. No discrimination rules apply to these catch-up contributions, and the dollars involved do not apply against the $40,000 compensation limit. Accordingly, a dentist could contribute a total of $45,000 in a profit sharing 401(k) plan if $40,000 is made as a profit sharing contribution and $5,000 is made as a catch-up contribution in 2006.
IRA contributions. IRA contribution limits are increased and compensation limits for deductibility are also increased. The current IRA contribution limit of $2,000 is increased to $3,000 for 2002, 2003, and 2004; it is increased to $4,000 for 2005, 2006, and 2007; and reaches $5,000 in 2008. In addition, there is a special catch-up contribution available to an IRA for those aged 50 and older. For 2002 through 2005, the annual catch-up amount is $500 and rises to $1,000 for 2006 and thereafter.
Roth IRAs are subject to the same contribution amounts as set forth above for regular IRAs. However, Roth IRAs are limited to those individuals whose income is less than $110,000 per year.
Individuals who are not covered by any retirement plan can make deductible IRA contributions as set forth above. For individuals who participate in an employer-sponsored qualified retirement plan, IRA contributions are deductible only if they are below certain income levels. These limits are not part of the new act, but were part of the Taxpayer Relief Act of 1997. For married individuals, the IRA deduction limit is $63,000 in 2001; $64,000 in 2002; $70,000 in 2003; $75,000 in 2004; $80,000 in 2005; $85,000 in 2006; and $100,000 in 2007. The rates are correspondingly lower for single individuals.
Other changes. There are multiple other changes, including simplification of the highly compensated employee rules, the key employee rules, easier portability/rollovers between plans, automatic rollover to an IRA if a participant makes no other election, and accelerated vesting over a six-year period (0/20/40/60/80/100) instead of the old seven-year rule. Loans are available to partners and sub-chapter S owners on the same terms as non-owner employees.
Conclusion. This area of the law is highly complex and technical. Space constraints limit further explanations beyond this summary. The retirement plan changes are especially positive for higher-income individuals, such as dentists. Dentists are advised to consult their retirement plan counsel to determine how the new act impacts their plans and whether changes should be made.