Publication 560 |
2000 Tax Year |
Definitions You Need To Know
Certain terms used in this publication are defined below. The same
term used in another publication may have a slightly different
meaning.
Annual additions.
Annual additions are the total of all your contributions in a year,
employee contributions (not including rollovers), and forfeitures
allocated to a participant's account.
Annual benefits.
Annual benefits are the benefits to be paid yearly in the form of a
straight life annuity (with no extra benefits) under a plan to which
employees do not contribute and under which no rollover contributions
are made.
Business.
A business is an activity in which a profit motive is present and
economic activity is involved. Service as a newspaper carrier under
age 18 is not a business, but service as a newspaper dealer is.
Service as a sharecropper under an owner-tenant arrangement is a
business. Service as a public official is not.
Common-law employee.
A common-law employee is any individual who, under common law,
would have the status of an employee. A leased employee can also be a
common-law employee.
A common-law employee is a person who performs services for an
employer who has the right to control and direct the results of the
work and the way in which it is done. For example, the employer:
- Provides the employee's tools, materials, and workplace,
and
- Can fire the employee.
Common-law employees are not self-employed and cannot set up
retirement plans for income from their work, even if that income is
self-employment income for social security tax purposes. For example,
common-law employees who are ministers, members of religious orders,
full-time insurance salespeople, and U.S. citizens employed in the
United States by foreign governments cannot set up retirement plans
for their earnings from those employments, even though their earnings
are treated as self-employment income.
However, a common-law employee can be self-employed as well. For
example, an attorney can be a corporate common-law employee during
regular working hours and also practice law in the evening as a
self-employed person. In another example, a minister employed by a
congregation for a salary is a common-law employee even though the
salary is treated as self-employment income for social security tax
purposes. However, fees reported on Schedule C (Form 1040) for
performing marriages, baptisms, and other personal services are
self-employment earnings for qualified plan purposes.
Compensation.
Compensation for plan allocations is the pay a participant received
from you for personal services for a year. You can generally define
compensation as including all the following payments.
- Wages and salaries.
- Fees for professional services.
- Other amounts received (cash or noncash) for personal
services actually rendered by an employee, including, but not limited
to, the following items.
- Commissions and tips.
- Fringe benefits.
- Bonuses.
For a self-employed individual, compensation means the earned
income, discussed later, of that individual.
Compensation also includes amounts deferred in the following
employee benefit plans, unless you choose not to include any amount
contributed under a salary reduction agreement that is not included in
the gross income of the employee. These amounts are elective
deferrals.
- Qualified cash or deferred arrangement (section 401(k)
plan).
- Salary reduction agreement to contribute to a tax-sheltered
annuity (section 403(b) plan), a SIMPLE IRA plan, or a SARSEP.
- Section 457 nonqualified deferred compensation plan.
- Section 125 cafeteria plan.
The limit on elective deferrals is discussed later under
Salary Reduction Simplified Employee Pension (SARSEP) and
Qualified Plans.
Other options.
In figuring the compensation of a participant, you can treat any of
the following amounts as the employee's compensation.
- The employee's wages as defined for income tax withholding
purposes.
- The employee's wages you report in box 1 of Form
W-2.
- The employee's social security wages (including elective
deferrals).
Compensation generally cannot include either of the following
items.
- Reimbursements or other expense allowances (unless paid
under a nonaccountable plan).
- Deferred compensation (either amounts going in or amounts
coming out) other than certain elective deferrals unless you choose
not to include those elective deferrals in compensation.
Contribution.
A contribution is an amount you pay into a plan for all those
participating in the plan, including self-employed individuals. Limits
apply to how much, under the contribution formula of the plan, can be
contributed each year for a participant.
Deduction.
A deduction is the plan contributions you can subtract from gross
income on your federal income tax return. Limits apply to the amount
deductible.
Earned income.
Earned income is net earnings from self-employment, discussed
later, from a business in which your services materially helped to
produce the income.
You can also have earned income from property your personal efforts
helped create, such as royalties from your books or inventions. Earned
income includes net earnings from selling or otherwise disposing of
the property, but it does not include capital gains. It includes
income from licensing the use of property other than goodwill.
If you have more than one business, but only one has a retirement
plan, only the earned income from that business is considered for that
plan.
Employer.
An employer is generally any person for whom an individual performs
or did perform any service, of whatever nature, as an employee. A sole
proprietor is treated as his or her own employer for retirement plan
purposes. However, a partner is not an employer for retirement plan
purposes. The partnership is treated as the employer of each partner.
Highly compensated employee.
A highly compensated employee is an individual who:
- Owned more than 5% of the capital or profits in your
business at any time during the year or the preceding year, or
- For the preceding year, received compensation from you of
more than $80,000 ($85,000 for certain non-calendar year plans making
a calendar year data election described in Notice 97-45 in
Cumulative Bulletin 1997-2) and, if you so choose, was in the
top 20% of employees when ranked by compensation.
Leased employee.
A leased employee who is not your common-law employee must
generally be treated as your employee for retirement plan purposes if
he or she does all the following.
- Provides services to you under an agreement between you and
a leasing organization.
- Has performed services for you (or for you and related
persons) substantially full time for at least 1 year.
- Performs services under your primary direction or
control.
Exception.
A leased employee is not treated as your employee if all the
following conditions are met.
- Leased employees are not more than 20% of your nonhighly
compensated work force.
- The employee is covered by the leasing organization under
its qualified pension plan.
- The leasing organization's plan is a money purchase pension
plan that has all the following provisions.
- Immediate participation.
- Full and immediate vesting.
- A nonintegrated employer contribution rate of at least 10%
of compensation for each participant.
However, if the leased employee is your common-law employee,
that employee will be your employee for all purposes, regardless of
any pension plan of the leasing organization.
Net earnings from self-employment.
For SEP and qualified plans, net earnings from self-employment is
your gross income from your trade or business (provided your personal
services are a material income-producing factor) minus allowable
business deductions. Allowable deductions include contributions to SEP
and qualified plans for common-law employees and the deduction allowed
for one-half of your self-employment tax.
Net earnings from self-employment do not include items excluded
from gross income (or their related deductions) other than foreign
earned income and foreign housing cost amounts.
For the deduction limits, earned income is net earnings for
personal services actually rendered to the business. You take into
account the income tax deduction for one-half of self-employment tax
and the deduction for contributions to the plan made on your behalf
when figuring net earnings.
Net earnings include a partner's distributive share of partnership
income or loss (other than separately stated items, such as capital
gains and losses). It does not include income passed through to
shareholders of S corporations. Guaranteed payments to limited
partners are net earnings from self-employment if they are paid for
services to or for the partnership. Distributions of other income or
loss to limited partners are not net earnings from self-employment.
For SIMPLE plans, net earnings from self-employment is the amount
on line 4 of Short Schedule SE (Form 1040) before subtracting any
contributions made to the SIMPLE IRA plan for yourself.
Participant.
A participant is an eligible employee who is covered by your
retirement plan. See the discussions of the different types of plans
for the definition of an employee eligible to participate in each type
of plan.
Partner.
A partner is an individual who shares ownership of an
unincorporated trade or business with one or more persons. For
retirement plans, a partner is treated as an employee of the
partnership.
Self-employed individual.
An individual in business for himself or herself is self-employed.
Sole proprietors and partners are self-employed. Self-employment can
include part-time work.
Not everyone who has net earnings from self-employment for social
security tax purposes is self-employed for qualified plan purposes.
See Common-law employee, earlier. Also see Net
earnings from self-employment.
In addition, certain fishermen may be considered self-employed for
setting up a qualified plan. See Publication 595,
Tax Highlights
for Commercial Fishermen, for the special rules used to
determine whether fishermen are self-employed.
Sole proprietor.
A sole proprietor is an individual who owns an unincorporated
business by himself or herself. For retirement plans, a sole
proprietor is treated as both an employer and an employee.
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