Deck 14: Retirement Planning: Concepts and Strategies

Question 1

Explain why early retirement planning might be necessary (pp. 617-618)

Answer 1

Anyone with a sizable retirement plan and/or IRA benefits should begin planning early in order to maximize the value of those benefits. The early planning strategy should strive to avoid penalty taxes and take advantage of beneficial tax treatments. In some cases, payment of current taxes using 10-year averaging or deferral of taxes on appreciation in employer stock may be appropriate. However, most individuals would achieve greater value by a tax-free rollover to another qualified plan or IRA, which would further defer taxation on the amounts rolled over and permit additional tax-deferred earnings.
The distribution of rollover IRA account balances can be planned to maximize the total value received by the individual, the individual's spouse, and their beneficiary. In general, this planning entails delaying the start of distributions and stretching them out as long as possible under the minimum distribution rules.

Question 2

What are the areas which should be examined before making an early retirement decision?

Answer 2

The financial dimensions of the early retirement decision should be handled by undertaking a preliminary review of the following four key areas.
Pension
The terms of pension payments should be explored. As a general rule, an early retirement offer should pay a pension equal to or greater than the amount one would receive under normal retirement. In some cases, employers calculate the benefit by adding on three to five years to the employee's age or tenure. Both types of offers can increase the pension by as much as 30 percent over the expected normal pension income.
Health Insurance
The Consolidated Omnibus Budget Reconciliation Act (COBRA) law, passed in 1986, requires every employer to continue group health insurance coverage (excluding dental insurance) at the employee's expense for up to 18 months after retirement. It is important to find out the cost and availability (regarding preexisting conditions or current health conditions) of buying individual health insurance after group coverage is discontinued.
Life Insurance
An early retirement may require switching from the company's group life policy to an individual policy. The cost of such a policy may run around $400 a year per $10,000 of coverage. The employer may also offer a decreasing term policy; the benefit would shrink each year and virtually disappear at the age of 70.

Question 3

What are the rules regarding the taxability of lump sum distribution?

Answer 3

Although the law does not require them to do so, as an alternative to the annuity option, many qualified plans offer persons who have been participants for at least five tax years - the minimum required for lump sum distribution - a choice of receiving the money in the form of a lump sum distribution. Under IRS rules, employees favoring this option may choose between two methods of computing the tax: as part capital gains or as all ordinary income subject to the forward averaging rule.
Capital Gains Treatment
The portion of a lump sum distribution attributable to employer contribution for service before 1974 is eligible for capital gains treatment. This treatment was phased out in 1993. But employees who attained the age of 50 before January 1, 1986, can choose to remain eligible for capital gains treatment.
Participants who choose the capital gains tax option are permitted to use 20 percent as the favorable tax rate to compute the tax separately on accumulations eligible for capital gains in their plan accounts.
Forward Averaging
Participants of qualified plans can choose the alternative method of taxation known as forward averaging. Employees who attained the age of 50 before January 1, 1986 can elect to use the 10-year averaging method. However, in that case, they must use the tax rates in effect on December 31, 1986.

Question 4

Describe the basic structure of a Combo Strategy

Question 5

What are the rules regarding the taxability of annuity distribution?

Question 6

Explain the tax treatment of annuity payments.

Question 7

Sandy Pelferry has read that annual expenditure at retirement should be 60 percent of the preretirement expenditure. She wants you to use this figure in developing her retirement plan. What is your advice?

Question 8

What are the required distributions from qualified plans?

Question 9

What are the consequences of excess contributions to a qualified plan?

Question 10

Why is it asserted that planning can maximize the value of retirement benefits?

Question 11

Describe the rules of taxation of IRAs.

Question 12

Discuss the internal revenue code relating to minimum distributions from qualified plans.

Question 13

What are the general rules regarding taxation of benefits distributed from a qualified plan?

Question 14

What are the key choices available to an annuitant?

Question 15

What are the rules of taxation of the funds which are rolled over into an IRA?

Question 16

Explain the annuity principle.

Question 17

What are the consequences of premature distributions from a qualified plan?

Question 18

Explain the provisions which guide loans from qualified plans.

Question 19

What are the consequences of insufficient distributions from a qualified plan?

Question 20

Explain the salient features of a nonqualified deferred compensation plan.

Question 21

Question 3. Which of the following strategies may be used in the case of a shortfall in retirement income?

A) Tax-advantaged investment planning
B) Savings planning
C) Asset repositioning
D) Lower expenditures
E) All of the above are useful strategies

Question 22

Question 6. When an individual reaches the age of 70½ but does not withdraw the "minimum withdrawal" amount:

A) There is a 50 percent excise tax on the shortfall
B) There is a 50 percent tax on the entire account
C) There is a 50 percent tax on the taxable portion
D) There is a 50 percent tax on the nontaxable portion
E) None of the above will apply

Question 23

Question 13. Which of the following statements are correct?

A) IRA rollovers are completed if the total distribution is rolled over into another qualified plan or IRA within 60 days
B) A custodian to custodian transfer is an efficient way to move the assets
C) IRA rollovers are accomplished if the total distribution is rolled over within 90 days into another qualified plan or IRA
D) A and B
E) A and C

Question 24

Rodney Pete has become extremely depressed after learning from you that his retirement plan has a potential shortfall of $1,500 per month. He argues that since it is beyond his means to save that kind of money, he would have been better off not engaging you to develop his retirement plan. How do you calm him down?

Question 25

Question 5. Distribution from a profit-sharing plan would not be allowed under which of the following circumstances?

A) Upon the attainment of the age of 59½
B) Disability, illness, lay-off, and termination of employment
C) After passage of prespecified period of time
D) When plan investments are performing poorly

Question 26

Doug Furdock is a young orthopedic surgeon who is making over $400,000 per year. He has no pension plan and insists that a defined benefit plan would best suit him. How do you advise him?

Question 27

Question 8. If a contribution is made to a qualified plan which exceeds the maximum allowed by law, the excess contribution is subject to a _________ percent excise tax.

A) 5
B) 6
C) 8
D) 10
E) 15

Question 28

Question 1. Successful retirement planning may be thought of as:

A) Being able to retire at the desired age
B) Being able to retire with the desired income
C) Becoming an affluent person
D) A and B
E) A, B, and C

Question 29

Question 16. The AGI threshold which triggers a tax on Social Security benefits is________ for married people and ________ for single people.

A) $40,000 and $25,000
B) $32,000 and $25,000
C) $30,000 and $25,000
D) $25,000 and $30,000
E) None of the above

Question 30

Question 15. Loans from qualified plans are permitted from all qualified plans to all employees, except to only:

A) Owner-employees who are sole proprietors
B) Owner-employees who are sole proprietors and more than 5 percent partners
C) Owner-employees who are sole proprietors, more than 5 percent partners, or more than 50 percent shareholders of S corporations
D) Owner-employees who are sole proprietors and more than 50 percent shareholders of S corporations
E) more than 5 percent partners

Question 31

Question 4. Which of the following retirement plans is subject to the most stringent distribution rules?

A) Pension
B) Profit-sharing
C) 401k)
D) IRA
E) SEP

Question 32

Question 14. Loans within limits) can be taken by all employees except those that are:

A) Owner employees who are sole proprietors
B) Partners who own more than 10 percent
C) Shareholders of S corporations who own more than 10 percent
D) A, B, and C
E) None of the above statements

Question 33

Question 12. Which of the following are not acceptable methods of receiving a lump sum distribution, provided the plan participant meets the requirements?

A) Capital gains treatment
B) 5- or 10-year forward averaging
C) Annuity
D) Ordinary income
E) All are acceptable methods under different circumstances

Question 34

Question 2. What is the best approach for estimating retirement expenses?

A) Seventy-Eighty percent of salary
B) Seventy-Eighty percent of pre-retirement expenses
C) Divide fixed and flexible expenses into "key" separate categories and estimate expenses for each category
D) One hundred percent of pre-retirement expenses
E) One hundred and fifty of pre-retirement expenses

Question 35

Dena Durish has just been told by her Certified Public Accountant (CPA) that her income is above the maximum income threshold; therefore, her social security income will be taxed. Dena has invested most of her money in tax-free municipal bonds and believes that her CPA is incorrectly advising her. Can you clear up her confusion?

Question 36

Question 9. Which type of annuity will continue for at least a minimum guaranteed period even if the annuitant dies?

A) Fixed
B) Lifetime annuity
C) Joint and survivor
D) Joint and survivor period certain
E) Installment life

Question 37

Question 11. Which of the following plans are not subject to 5- or 10-year averaging rules?

A) 403b), SEP, IRA
B) Pension/profit-sharing
C) Keogh HR-10)
D) Personal retirement plans
E) Thrifts/ESOPs

Question 38

Scott Kazmier is about to retire from his high-paying job. The company has offered to pay him a lump sum, although he also has the option of a single life annuity. Dick is attracted by the lifetime annuity option because, as he puts it, "he can never outlive the income." What is your advice?

Question 39

Question 10. One of the primary advantages of purchasing a variable annuity is that it provides:

A) Guaranteed income
B) No exclusion ratio
C) An inflation hedge
D) B and C
E) A, B, and C

Question 40

Question 7. If an individual makes a withdrawal prior to the attainment of the age of 59½ from an IRA:

A) It is subject to a 10 percent penalty
B) The taxable amount is subject to a 10 percent penalty
C) The nontaxable amount is subject to a 10 percent penalty
D) The nontaxable amount withdrawn is subject to a 10 percent penalty
E) The entire plan amount becomes taxable but the penalty is waived

Question 41

Question 19. The Internal Revenue Code limits deferral by requiring that minimum distribution must begin for the calendar year in which the

A) Age of 65 is attained
B) Age of 70 is attained
C) Age of 70½ is attained and be paid no later than December 1 of the same year
D) Age of 70½ is attained and be paid no later than April 15 of the following year
E) Age of 70½ is attained and be paid no later than April 1 of the following year

Question 42

Question 20. The Internal Revenue Code requires that distribution of retirement benefits begins after the age of 70½ and that the benefits be paid out over a period that does not exceed

A) The life expectancy of the individual
B) The life expectancy of the individual, or the joint life expectancies of the individual and a designated beneficiary
C) The life expectancy of the individual, or the age of 85 whichever is longer
D) Fifteen years
E) The number of years selected by the owner at the time he or she attained the age of 70½

Question 43

Question 17. Under the ________ law, employees are given the opportunity to purchase health insurance at group rates for ________ months after separation:

A) TRA 1986; 18
B) COBRA; 18
C) TRA 1986; 12
D) COBRA; 12
E) TEFRA; 18

Question 44

Question 18. Which of the following areas would not be a likely factor for an individual considering early retirement?

A) Income limitation
B) Pension
C) Life insurance
D) Health insurance
E) All of the above are relevant factors