Many individuals wonder how they have been affected by the Pension Protection Act of 2006. They also question what the Welfare Benefit Plan rules are in regards to benefits, discrimination and funding. The Pension Protection Act (PPA) is great news for retirement planning and it supersedes Traditional 401(k) plans, Traditional IRAs and Roth IRAs. Some people refer to the Pension Protection Act as the Super 401(k). The great thing about it is that the PPA gives flexibility to design a specific retirement plan that will eventually provide an individual with a combined full pension, a full elective k deferral and a 6% profit sharing. Another thing to get excited about is that these plans fall under ERISA (Employee Retirement Income Security Act of 1974) rules and thus are fully asset protected.
Pros and Advantages of the Pension Protection Act: Super 401(k) Plan
The Pension Protection Act type of retirement plan will allow for contributions between 2 and 5 times the traditional 401(k) stand alone contribution for any employee that is highly compensated and for business owners. Instead of the usual limit, contributors will be able to exceed $100,000 to $250,000 a year. Benefit plans that have direct allocations to business owners can also reach this amount as well as the full (k) elective and 6% profit sharing.
If an owner has a combination pension-profit sharing plan, the owner will experience a material reduction in regards to the employee participation costs if the owner spends $50,000. By adding the super 401(k) format, the business owners will gain. The owner will benefit from lower benefit costs for employees that are not owners and reallocated or larger contributions to human resources which will add to the bottom-line of the company.
Example of the Pension Protection Act: Super 401(k) Plan
The following examples provide a comparison between traditional 401(k) and Super 401(k) plans. The illustrations also display the impact on the levels of contributions between the two plans. If plans have more employees that are highly-compensated, they will be even more dramatic. These examples are not maxed out.
TRADITIONAL PROFITSHARING 401(K) PLAN – BOSTON MEDIC LTD.
| PARTICIPANT | Profit Sharing | Traditional 401(k) | Plan Contribution |
|---|---|---|---|
| Dr. Key | $29,000 | $15,500 | $44,500 |
| Worker A | $4,700 | $0 | $4,700 |
| Worker B | $4,300 | $0 | $4,300 |
| Totals | $38,000 | $15,500 | $53,500 |
SUPER 401(k) REALLOCATION – BOSTON MEDIC LTD.
5x Contribution & Benefit
| PARTICIPANT | Profit Sharing | Traditional 401(k) | Plan Contribution | Total Contribution |
|---|---|---|---|---|
| Dr. Key | $14,200 | $15,500 | $189,000 | 218,700 |
| Worker A | $1,800 | $0 | $3,500 | $5,300 |
| Worker B | $2,400 | $0 | $3,000 | 5,400 |
| Totals | $18,400 | $15,500 | $195,500 | $229,400 |
Seeing these examples, it should be clear how dramatic the differences are, but if this is not enough, individuals should consider the tax savings for payroll on the differences in contributions. The difference, 2.9% which is $5,101, would be enough to pay for the benefit for a single worker.
There are also material benefits in addition to the money saved on payroll taxes. Based on the above illustration, the retirement fund for the doctor will be enhanced by almost $2 million. Every employee will benefit from enhancements. In addition, the income tax for the doctor is reduces by around $69,000 per year; far exceeding the benefits for the Traditional IRA, Roth IRA, and Traditional 401(k) in many cases.
When using a Super 401(k), contribution is calculated at guaranteed rates and market rates will reduce the costs of the plan. Above, 3% was used. If the rate was 6%, the costs would be reduced to $1,362 and $1,023.
Results of the Super 401(k) Plan
- Owner’s retirement fund is enhanced.
- Every employee will benefit from enhancements.
- Income tax is reduced for the owner which is significantly more than the traditional IRA, Roth IRA, traditional 401(k).
- Plan costs are decreased.
Example 2 of the Pension Protection Act: Super 401(k) Plan
Example 2: Reducing the Plan Costs
Retirement Plan with Super 401(k)REALLOCATION – BOSTON MEDIC LTD.
| PARTICIPANT | Profit Sharing | Traditional 401(k) | Super 401(k) | Total Contribution |
|---|---|---|---|---|
| Dr. Key | $7,750 | $15,500 | $21,550 | $44,800 |
| Worker A | $1,460 | $0 | $660 | $2,120 |
| Worker B | $1,570 | $0 | $640 | $2,210 |
| Totals | $10,780 | $15,500 | $22,850 | $49,130 |
This example focuses on the utility of a Super 401(k) as a device to save benefit costs. In the example, the employee plan costs were reduced by $5,570 in comparison to a traditional plan. The savings could be reallocated among all participants with $5,200 going to the doctor and the remaining balance to the employees. The totals would then equal $54,700 and the doctor would receive $50,000.
How Does the Pension Protection Act: Super 401(k) Plan Work?
A Super 401(k) plan is basically a combined 401(k), profit sharing and defined benefit plan. Before the PPA, it was almost impossible to integrate all three plans. With the passing of the PPA, there are new ways to legally discriminate in favor of key employees. Since many third party administrators are not up to speed on the many benefits of the PPA, information may not have been passed down to CPAs, financial planners or attorneys. The final thing to get excited about is that these plans fall under ERISA rules and thus are fully asset protected.
Super 401(k) plans are a new opportunity for employees to help grow the business and their wealth within it. It is without question that these benefits far exceed benefits relative to the Traditional IRA, Roth IRA, and Traditional 401(k) in many cases.