Qualified Plan

A qualified retirement plan is a written plan you can set up for the exclusive benefit of your employees and their beneficiaries. It is sometimes called a Keogh or H.R. 10 plan.

You, or you and your employees, can make contributions to the plan. If your plan meets the qualification requirements, you can generally deduct your contributions to the plan. For more information, see Publication 560.

Your employees generally are not taxed on your contributions or increases in the plan's assets until they are distributed. However, certain loans made from qualified plans are treated as taxable distributions. For more information, see Publication 575.

Qualification requirements.   To be a qualified plan, the plan must meet many requirements. They include requirements that determine the following.

• Who must be covered by the plan.
• How contributions to the plan are to be invested.
• How contributions to the plan and benefits under the plan are to be determined.
• How much of an employee's interest in the plan must be guaranteed (vested).

For more information, see Publication 560.

More than one job.   If you are self-employed and also work for someone else, you can participate in retirement plans for both jobs. Generally, your participation in a retirement plan for one job does not affect your participation in a plan for the other job. However, if you have an IRA, you may not be allowed to deduct part or all of your IRA contributions. See Publication 590.

Kinds of Qualified Plans

There are two basic kinds of qualified retirement plans: defined contribution plans and defined benefit plans.

Defined Contribution Plan

This plan provides for a separate account for each person covered by the plan. Benefits are based only on amounts contributed to or allocated to each account.

There are two types of defined contribution plans: profit-sharing and money purchase pension.

Profit-sharing plan.   This plan lets your employees or their beneficiaries share in the profits of your business. The plan must have a definite formula for allocating the contribution among the participating employees and for distributing the accumulated funds in the plan.

Money purchase pension plan.   Under this plan, contributions are fixed and are not based on your business profits. For example, if the plan requires contributions be 10% of each participating employee's compensation, regardless of whether you have a profit, the plan is a money purchase plan.

Defined Benefit Plan

This is any plan that is not a defined contribution plan. In general, contributions to a qualified defined benefit plan are based on what is needed to provide definitely determinable benefits to plan participants. Your contributions to the plan are based on actuarial assumptions. Generally, you will need continuing professional help to administer a defined benefit plan.

Setting Up a Plan

The plan can be an IRS-approved master or prototype plan offered by a sponsoring organization. Or it can be an individually designed plan.

Master or prototype plan.   The following sponsoring organizations generally can provide IRS-approved master or prototype plans.

• Trade or professional organizations.
• Banks (including savings and loan associations and federally insured credit unions).
• Insurance companies.
• Mutual funds.

Adoption of a master or prototype plan does not mean your plan is automatically qualified. It must still meet all the qualification requirements stated in the law.

Individually designed plan.   If you prefer, you can set up an individually designed plan to meet specific needs. Although advance IRS approval is not required, you can apply for approval by requesting a determination letter. You may need professional help with this. The following revenue procedure and announcement will help you decide whether to apply for approval.

• Revenue Procedure 2001-6 in Internal Revenue Bulletin 2001-1.
• Announcement 2001-77 in Internal Revenue Bulletin 2001-30.

Deduction Limits

The deduction limit for contributions to a qualified plan depends on the kind of plan you have.

In figuring the deduction for contributions to these plans, you cannot take into account any contributions or benefits that are more than the limits discussed under Limits on Contributions and Benefits in Publication 560. However, for plan years beginning in 2002 and later years, your deduction can be as much as the plan's unfunded current liability.

Defined contribution plans.   The deduction for contributions to a defined contribution plan profit sharing plan (or money purchase pension plan) cannot be more than 25% of the compensation paid (or accrued) during the year to the eligible employees participating in the plan. You must reduce this limit in figuring the deduction for contributions you make for your own account. See Deduction of contributions for yourself, later.

When figuring the deduction limit, the following rules apply.

• Elective deferrals (discussed in Publication 560) are not subject to the limit.
• Compensation includes elective deferrals.
• The maximum compensation that can be taken into account for each employee is $200,000.

Defined benefit plans.   An actuary must figure the deduction for contributions to a defined benefit plan since it is based on actuarial assumptions and computations.

Deduction of contributions for yourself.   To take a deduction for contributions you make to a plan for yourself, you must have net earnings from the trade or business for which the plan was set up.

Limit on deduction.   If the qualified plan is a profit-sharing plan, your deduction for yourself is limited to the lesser of $40,000 or 20% (25% reduced as discussed later under Net earnings reduced by adjusting contribution rate) of your net earnings from the trade or business that has the plan. If the plan is a money purchase pension plan, the deduction is limited to the lesser of $40,000 or 20% (25% reduced as discussed later under Net earnings reduced by adjusting contribution rate) of your net earnings.

Net earnings.   Your net earnings must be from self-employment in a trade or business in which your personal services are a material income-producing factor. Your net earnings do not include items excluded from income (or deductions related to that income), other than foreign earned income and foreign housing cost amounts.

Your net earnings are your business gross income minus the allowable deductions from that business. Allowable business deductions include contributions to SEP and qualified plans for common-law employees and the deduction for one-half your self-employment tax.

Net earnings include a partner's distributive share of partnership income or loss (other than separately stated items such as capital gains and losses) and any guaranteed payments. If you are a limited partner, net earnings include only guaranteed payments for services rendered to or for the partnership. For more information, see Partnership Income or Loss under Figuring Earnings Subject to Self-Employment Tax in Publication 533.

Net earnings do not include income passed through to shareholders of S corporations.

Adjustments.   You must reduce your net earnings by the deduction for one-half your self-employment tax. Also, net earnings must be reduced by the deduction for contributions you make for yourself. This reduction is made indirectly, as explained next.

Net earnings reduced by adjusting contribution rate.   You must reduce net earnings by your deduction for contributions for yourself. The deduction and the net earnings depend on each other. You make the adjustment indirectly by reducing the contribution rate called for in the plan and using the reduced rate to figure your maximum deduction for contributions for yourself.

Annual compensation limit.   You generally cannot take into account more than $200,000 of your compensation in figuring your contribution to a defined contribution plan.

Figuring your deduction.   To figure the maximum deduction for contributions for yourself, see chapter 5, Table and Worksheets for the Self-Employed, in Publication 560.

When to make contributions.   To take a deduction for contributions for a particular year, you must make the contributions not later than the due date (generally April 15 for calendar year taxpayers), plus extensions, of your tax return for that year.

More information.   See Publication 560 for more information on retirement plans for small business owners, including the self-employed. Publication 560 also discusses the reporting forms that must be filed for these plans.

Excise Taxes

Important Reminders

Dyed diesel fuel and dyed kerosene.   Dyed diesel fuel and dyed kerosene used for a nontaxable use (such as farm use) are not taxed. However, the tax applies if these fuels are used for a taxable use (such as in operating a vehicle on the highway). In addition, a penalty is imposed on a person who uses dyed diesel fuel or dyed kerosene for a taxable use and knows or has reason to know the fuel was dyed. For more information, see How To Buy Diesel Fuel and Kerosene Tax Free.

Undyed diesel fuel and undyed kerosene.   A registered ultimate vendor that sells undyed diesel fuel or undyed kerosene for use on a farm for farming purposes is allowed to claim a credit or refund of the excise tax on that fuel. Farmers cannot claim a credit or refund for the excise tax paid on that fuel. See How To Buy Diesel Fuel and Kerosene Tax Free.

Introduction

You may be eligible to claim a credit on your income tax return for federal excise tax on certain fuels. You may also be eligible to claim a quarterly refund of the fuel taxes during the year, instead of waiting to claim a credit on your income tax return.

Whether you can claim a credit or refund depends on the kind of fuel you purchased, whether it was taxed, and the purpose (nontaxable use) for which you used the fuel. The nontaxable uses of fuel for which a farmer may claim a credit or refund are generally the following.

• Use on a farm for farming purposes.
• Off-highway business use.
• Uses other than as a fuel in a propulsion engine, such as home use.

Table 18-1 presents an overview of credits and refunds that may be claimed for fuels used for the nontaxable uses listed above. See Publication 378 for information about credits and refunds for fuels used for nontaxable uses not discussed in this chapter.

Topics

This chapter discusses:

• Fuels used in farming
• How to buy diesel fuel and kerosene tax free
• Fuels used in off-highway business use
• Fuels used for household use
• How to claim a credit or refund
• Including the credit or refund in income

Useful Items You may want to see:

Publication

• 378   Fuel Tax Credits and Refunds
• 510   Excise Taxes for 2003

Form (and Instructions)

• 720   Quarterly Federal Excise Tax Return
• 4136   Credit for Federal Tax Paid on Fuels
• 8849   Claim for Refund of Excise Taxes

See chapter 21 for information about getting publications and forms.

Fuels Used in Farming

You may be eligible to claim a credit or refund of excise taxes on fuel used on a farm for farming purposes. This applies if you are the owner, tenant, or operator of a farm. You can claim only a credit for the tax on gasoline and gasohol used on a farm for farming purposes. You can claim either a credit or refund for the tax on aviation fuel used on a farm for farming purposes. You cannot claim a credit or refund for the tax on undyed diesel fuel or undyed kerosene used on a farm for farming purposes or for any use of dyed diesel fuel or dyed kerosene.

Fuel is used on a farm for farming purposes only if used in carrying on a trade or business of farming, on a farm in the United States, and for farming purposes.

Farm.   A farm includes livestock, dairy, fish, poultry, fruit, fur-bearing animals, and truck farms, orchards, plantations, ranches, nurseries, ranges, and feed yards for fattening cattle. It also includes structures such as greenhouses used primarily for raising agricultural or horticultural commodities. A fish farm is an area where fish are grown or raised - not merely caught or harvested.

Use this table to see if you can take a credit or refund for a nontaxable use of the fuel listed.

Table 18-1. Fuel Tax Credits and Refunds at a Glance

Fuel Used	On a Farm for Farming Purposes	Off-Highway Business Use	Household Use 1
Gasoline and gasohol	Credit only	Credit or refund	None
Aviation gasoline	Credit only	None	None
Undyed diesel fuel and kerosene	Credit or refund by registered ultimate vendor only	Credit or refund 2	Credit or refund 2
Dyed diesel fuel and kerosene	None	None	None
Aviation fuel	Credit or refund	None	None
1For a use other than as fuel in a propulsion engine.
2Applies to kerosene not sold from a blocked pump or, under certain circumstances, for blending with diesel fuel to be used for heating purposes.

Farming purposes.   As the owner, tenant, or operator and the ultimate purchaser of fuel that you purchased, you use the fuel on a farm for farming purposes if you use it in any of the following ways.

1. To cultivate the soil or to raise or harvest any agricultural or horticultural commodity.
2. To raise, shear, feed, care for, train, or manage livestock, bees, poultry, fur-bearing animals, or wildlife.
3. To operate, manage, conserve, improve, or maintain your farm and its tools and equipment.
4. To handle, dry, pack, grade, or store any raw agricultural or horticultural commodity. For this use to qualify, you must have produced more than half the commodity so treated during the tax year. The more-than-one-half test applies separately to each commodity. Commodity means a single raw product. For example, apples and peaches are two separate commodities.
5. To plant, cultivate, care for, or cut trees or to prepare (other than sawing logs into lumber, chipping, or other milling) trees for market, but only if the planting, etc., is incidental to your farming operations. Your tree operations are incidental only if they are minor in nature when compared to the total farming operations.

If any other person, such as a neighbor or custom operator, performs a service for you on your farm for any of the purposes included in list items (1) or (2), above, you are considered to be the ultimate purchaser who used the fuel on a farm for farming purposes. Therefore, you can still claim the credit or refund for the fuel so used (other than for diesel fuel or kerosene). However, see Custom application of fertilizer and pesticide, later. If the other person performs any other services for you on your farm for purposes not included in list items (1) or (2), no one can claim the credit or refund for fuel used on your farm for those other services.

Example.   Farm owner Nancy Blue hired custom operator Harry Steele to cultivate the soil on her farm. Harry used 200 gallons of gasoline that he purchased to perform the work on Nancy's farm. In addition, she hired Contractor Brown to pack and store her apple crop. Brown bought 25 gallons of gasoline to use in packing the apples. Nancy can claim the credit for the 200 gallons of gasoline used by Harry on her farm because it qualifies as fuel used on the farm for farming purposes. No one can claim a credit for the 25 gallons used by Brown because they were not used for a farming purpose included in list items (1) or (2), earlier.

Buyer of fuel (other than diesel fuel or kerosene).   If doubt exists whether the owner, tenant, or operator of the farm bought the fuel, determine who actually bore the cost of the fuel. For example, if the owner of a farm and his tenant equally share the cost of gasoline used on the farm, each can claim a credit for the tax on half the fuel used.

Diesel fuel and kerosene.   If undyed diesel fuel or undyed kerosene is used for any of the previously listed farming purposes, the credit or refund is allowed only to the registered ultimate vendor. You cannot claim a credit or refund for this fuel if it is used for farming purposes. See How To Buy Diesel Fuel and Kerosene Tax Free, later.

A registered ultimate vendor is the person who sells undyed diesel fuel or undyed kerosene to the user (ultimate purchaser) of the fuel for use on a farm for farming purposes. To claim a credit or refund of tax, the person must be registered with the Internal Revenue Service at the time the claim is made.

Table 18-2. Sample Waiver

WAIVER OF RIGHT TO CREDIT OR REFUND

I hereby waive my right as owner, tenant, or operator of a farm located at:

Address

to receive credit or refund for fuel used by:

Name of Applicator

on the farm in connection with cultivating the soil, or the raising or harvesting of any agricultural or horticultural commodity. This waiver applies to fuel used during the period:

Both Dates Inclusive

I understand that by signing this waiver, I give up my right to claim any credit or refund for fuel used by the aerial applicator or other applicator of fertilizer or other substances during the period indicated, and I acknowledge that I have not previously claimed any credit for that fuel.

Signature

Date

Custom application of fertilizer and pesticide.   Fuel used on a farm for farming purposes includes fuel used in the aerial or other application of fertilizer, pesticides, or other substances. You, as the owner, tenant, or operator, can claim the credit or refund for the fuel (other than for diesel fuel or kerosene). Or, in the case of gasoline, you can waive your right to the claim and allow the applicator to make the claim. If you waive your right, the applicator is treated as having used the gasoline on a farm for farming purposes and can claim the credit or refund. See How To Claim a Credit or Refund, later.

To waive your right to the credit or refund, you must take the following actions.

• Before the applicator files his or her claim, sign an irrevocable agreement stating that you knowingly give up your right to the credit or refund. You can authorize an agent, such as a cooperative, to sign the waiver for you.
• Identify clearly the period the waiver covers.

The applicator must retain a copy of the waiver and give you a copy. Do not send a copy to the Internal Revenue Service unless requested to do so.

The waiver can be a separate document or it can appear on an invoice or another document from the applicator. If the waiver appears on an invoice or other document, it must be printed in a section clearly set off from all other material, and it must be printed in type large enough to put you on notice that you are waiving your right to the credit or refund. If the waiver appears as part of an invoice or other document, it must be signed separately from any other item that requires your signature.

The effective period of the waiver cannot extend beyond your taxable year. When the period covered by the waiver extends beyond the applicator's tax year, the applicator can only claim a credit or refund for the part of the waiver period that includes the applicator's tax year. The applicator must wait until the next tax year to file a claim for the part of the waiver period that extends beyond the applicator's tax year.

While no specific form is required, an acceptable waiver of your right to claim a credit or refund is shown in Table 18-2.

Fuel not used for farming.   You do not use fuel on a farm for farming purposes when you use it in any of the following ways.

• Off the farm, such as on the highway or in noncommercial aviation, even if the fuel is used in transporting livestock, feed, crops, or equipment.
• For personal use, such as mowing the lawn.
• In processing, packaging, freezing, or canning operations.
• In processing crude gum into gum spirits of turpentine or gum resin or in processing maple sap into maple syrup or maple sugar.

All-terrain vehicles (ATVs).   Fuel used in ATVs on a farm for farming purposes, discussed earlier, is eligible for a credit or refund of excise taxes on the fuel. Fuel used in ATVs for nonfarming purposes is not eligible for a credit or refund of the taxes. If ATVs are used both for farming and nonfarming purposes, only that portion of the fuel used for farming purposes is eligible for the credit or refund.

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