11/03/06 - How the Pension Protection Act of 2006 Will Affect Your Retirement Plan (Part 2)
By: Richard Feldman, MBA, CFP, AIF
As I wrote in my last article, the Pension Protection act of 2006 is the most sweeping and massive pension legislation in 30 years. "Congress is putting you on alert that when it comes to planning for a secure retirement, you are on your own. Even though the law is called the "Pension Protection Act", the result will be exactly the opposite as far as company plans are concerned."[1] The Pension protection act grandfathered changes made in retirement and IRA contribution limits making previous increases permanent. The increased limits should make it easier for individuals and families to build up a sizeable nest egg for retirement.
Non-Spouse Rollover
This provision was mentioned in my last article but is so critical I wanted to mention it again:
The Pension Protection Act outlines new rules regarding defined contribution plans (401 (k) plans, Profit Sharing Plans, and Money Purchase Pension Plans) and the ability of a non-spouse beneficiary to roll over the retirement account balance to a newly established inherited IRA.
This is a dramatic change in the retirement laws and will save individuals billions of dollars in tax cost due to the ability to stretch tax payments on the inheritance over the beneficiary's lifetime. The old laws did not provide the ability to rollover the proceeds to a stretch IRA and typically provided that the funds needed to be distributed to the beneficiary no latter than five years from the date of death of the participant.
For example, if your mother or father passed away with a $500,000 401(k) account and you were the sole beneficiary of the account, you would need to distribute the proceeds no later than five years after the date of death. This would lead to $500,000 of taxable income over that five year period which might be taxed as high as 35%. That means $175,000 of the $500,000 could go to taxes. The new law allows a beneficiary to rollover the proceeds to an inherited IRA and distribute the funds according to the beneficiary's life expectancy, which could be 50 - 60 years if the beneficiary is young enough.
Non-Spouse Trust Rollover
The above provision also applies to trusts that are listed as beneficiaries of corporate retirement plans. The trust must meet the IRS requirements for a look through trust in order to meet the stretch IRA provisions. A properly titled deceased IRA or inherited IRA will be set up and then required minimum distributions would flow from the inherited IRA into the trust.
Contribution and Other Annual Limit Increases
The Pension Protection Act makes permanent the current increased limits that individuals can contribute to an IRA and defer into a 401(k) and 403(b) plan under the EGTRRA act. If EGTRRA had been allowed to expire contribution limits would have reverted to pre-EGTRRA levels making it harder for individuals to put away funds on a tax deferred basis. The table below is an estimate prepared by Deloitte Tax LLP of the contribution amounts in 2011 and what they would have been had EGTTRA not been extended or grandfathered:
|
|
Contribution |
Limit in 2011 with |
Limit in 2011 if |
|
Type of Contribution |
Amount 2006 |
EGTRRA Permanent |
EGTRRA not Extended |
|
IRA |
$4,000 |
$5,000 |
$2,000 |
|
IRA Catch-UP 50+ |
$1,000 |
$1,000 |
$0 |
|
401K/403(b) |
$15,000 |
$16,500 |
$13,500 |
|
401(k) Catch-UP 50+ |
$5,000 |
$5,500 |
$0 |
|
Simple IRA/Simple 401K |
$10,000 |
$11,500 |
$8,000 |
|
Simple Catch Up 50+ |
$2,500 |
$2,500 |
$0 |
The act also permanently extends the EGTRRA increases in:
- The dollar limit on the maximum contribution for an individual under a defined contribution plan including employer, employee pre-tax, and after tax contributions. The limit is currently $44,000 and is estimated to rise to $49,000 in 2011.
- The maximum annual benefit an individual can receive from a defined benefit plan which is currently $175,000 and is estimated to increase to $195,000 by 2011.
- The maximum amount of compensation that may be considered by the plan in calculating benefits and satisfying various regulatory requirements. Currently $220,000 and estimated to increase to $245,000 by 2011.
Summary
The Pension Protection Act of 2006 has definitely put the onus of retirement savings on an the individual and family units. Defined Benefit plans are going to be harder for employers to maintain in light of the new act. Congress has stepped up to the plate in regards to helping individuals save money for retirement through tax deferred vehicles. It is a necessity to know and take advantage of the increased contribution limits in order to secure a safe retirement for you and your family.
[1] IRA Advisor, Slott, Ed, October 2006
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