Hailed as the most sweeping reform of America’s pension laws in over 30 years, the Pension Protection Act of 2006 (PPA) was signed into law by President Bush on August 17, 2006. As its name implies, the law focuses mainly on pension plans, completely overhauling rules to ensure that employers adequately fund their plans (see “The PBGC’s Prospects” sidebar).
But of interest to many more advisors and their clients are the numerous other significant tax changes within the Act, many of which will make it easier to save for retirement. What follows highlights, perhaps from a different perspective, some of the Act’s provisions that offer new ways to help your clients plan for their retirements.
PPA Highlight No. 1:
Memo to Nonspouse Beneficiaries:
Only Withdraw the RMD in 2006
Nonspouse beneficiaries, including certain trust beneficiaries, who inherited a participant’s account in a qualified retirement plan (QRP), 403(a), 403(b), or 457 plan will want to hold off on withdrawing anything other than the required minimum distribution (RMD) from these plans during 2006. What will they receive in return for doing nothing?
Beginning in 2007, a nonspouse beneficiary who may otherwise have been required to take a lump sum distribution will be permitted to request a direct rollover of the inherited benefits into an inherited or “beneficiary” Individual Retirement Account or Individual Retirement Annuity (collectively “IRA”). The transfer must be a direct trustee-to-trustee transfer and the nonspouse beneficiary must abide by the RMD rules. For a nonspouse beneficiary, this ability to “roll over” inherited retirement plan assets may provide for many more years of tax-deferred growth. Remember, the law of the land is frequently not the law of the plan. Verify with both the retirement plan administrator and the IRA custodian that neither their document provisions, operational capabilities, nor administrative procedures prevent a nonspouse beneficiary rollover.
It is hoped that the IRS will issue regulations that will address situations where a trust or estate has been named as beneficiary and it is advisable to move the inherited retirement benefits into a beneficiary IRA in the name of the trust’s or estate’s ultimate beneficiary(ies)–not the name of the trust or estate.
PPA Highlight No. 2:
EGTRRA’s Increases in Retirement Plan
Contribution Limits Made Permanent
PPA makes permanent The Economic Growth and Tax Relief Reconciliation Act of 2001′s (EGTRRA) increases in IRA and employer-sponsored plan contribution limits and provides additional benefits for certain individuals.
The IRA contribution limit is $4,000 for 2006, increasing to $5,000 in 2008, and indexed for inflation thereafter. Clients who have attained age 50 or over during the tax year may make additional “catch-up” contributions of $1,000 for 2006. Certain 401(k) plan participants may be eligible to make special IRA catch-up contributions of $3,000 per year for 2006 through 2009; however, they must forego the standard $1,000 catch-up opportunity.
Investors’ elective salary deferral limit for employer-sponsored plans such as 401(k) and 403(b) plans is $15,000 for 2006 and–like IRA contribution limits–are indexed for inflation thereafter. Their catch-up contributions of $5,000 for 2006 are also indexed going forward.
The employer’s deductible contribution limit for QRPs and SEP IRAs has been permanently increased to 25% of eligible payroll, exclusive of any employee salary deferrals, thus enabling your self-employed clients to continue maximizing their total plan contributions at relatively low income levels.
Remember that the deadline for calendar-year employers to establish employer-sponsored retirement plans is December 31. The only exception to this rule? A SEP IRA plan may be adopted as late as employers’ tax filing deadlines, usually April 15, plus extensions. The deadline for employers to fund deductible contributions is generally their tax filing deadline, plus extensions.
PPA Highlight No. 3:
Relief on Hardship Distributions