Important Changes for 2001

Notification of significant benefit accrual reduction.   For plan amendments taking effect after June 6, 2001, the employer or the plan will have to pay an excise tax if both the following apply.

• A defined benefit plan or money purchase pension plan is amended to provide for a significant reduction in the rate of future benefit accrual.
• The plan administrator fails to notify each affected participant and alternate payee, and each employee organization representing them, of the reduction in writing.

For more information, see Notification of Significant Benefit Accrual Reduction in chapter 4.

Third-party authorization.   You can check a box and authorize the IRS to discuss your Form 1040 with a third party. If you check the Yes box above the signature area of your return, the IRS can call the third party you designate to ask any questions that may arise during the processing of your return. See your income tax package for details.

New forms for determination letter requests.   The IRS has issued the following revised forms for filing requests for determination letters on qualified employee benefit plans.

• Form 5300, Application for Determination for Employee Benefit Plan (including collectively bargained plans formerly filed on Form 5303) (Rev. September 2001).
• Schedule Q (Form 5300), Elective Determination Requests (Rev. August 2001).
• Form 5307, Application for Determination for Adopters of Master or Proto-type or Volume Submitter Plans (Rev. September 2001).
• Form 6406, Short Form Application for Determination for Minor Amendment of Employee Benefit Plan (Rev. September 2001).

See chapter 6 for information on how to get forms.

New Form 5306-A.   The IRS has issued new Form 5306-A, Application for Approval of Prototype Simplified Employee Pension (SEP) or Savings Incentive Match Plan for Employees of Small Employers (SIMPLE IRA Plan), to be used by sponsors of prototype SEPs and prototype SIMPLE IRA plans to apply for opinion letters on these documents. The new form replaces Form 5306-SEP. See chapter 6 for information on how to get forms.

Important Changes for 2002

Plan amendments to conform to the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA).   Generally, master and prototype plans are amended by sponsoring organizations. However, you may need to request a determination letter regarding a master or prototype plan you maintain that is a nonstandardized plan if you make changes to adopt some provisions of EGTRRA. Your request should be made on the appropriate form (generally Form 5300 or Form 5307). The request should be filed with Form 8717, User Fee for Employee Plan Determination Letter Request, and the applicable user fee. See User fee, later.

Earned income of members of recognized religious sects.   For years beginning after December 31, 2001, earned income for retirement plans includes amounts received for services by self-employed members of recognized religious sects opposed to social security benefits who are exempt from self-employment tax.

Credit for startup costs.   For costs paid or incurred in tax years beginning after December 31, 2001, for retirement plans established after that date, you may be able to claim a tax credit for part of the ordinary and necessary costs of starting a SEP, SIMPLE, or qualified plan. The credit equals 50% of the cost to set up and administer the plan and educate employees about the plan, up to a maximum of $500 per year for each of the first 3 years of the plan. You can choose to start claiming the credit in the tax year before the tax year in which the plan becomes effective.

You must have had 100 or fewer employees who received at least $5,000 in compensation from you for the preceding year. At least one participant must be a non-highly compensated employee. The employees generally cannot be substantially the same employees for whom contributions were made or benefits accrued under a plan of any of the following employers in the 3-tax-year period immediately before the first year to which the credit applies.

1. You.
2. A member of a controlled group that includes you.
3. A predecessor of (1) or (2).

The credit is part of the general business credit, which can be carried back or forward to other tax years if it cannot be used in the current year. However, the part of the general business credit attributable to the small employer pension plan startup cost credit cannot be carried back to a tax year beginning before January 1, 2002. You cannot deduct the part of the startup costs equal to the credit claimed for a tax year, but you can choose not to claim the allowable credit for a tax year.

Compensation limit.   For years beginning after December 31, 2001, the maximum compensation used for figuring contributions and benefits increases to $200,000. This amount is subject to cost-of-living increases after 2002.

Deduction limits.   After 2001, certain deduction limits change as explained next.

Elective deferrals. For years beginning after December 31, 2001, elective deferrals are not subject to the deduction limit that applies to profit-sharing plans (discussed next). Also, elective deferrals are not taken into account when figuring the amount you can deduct for employer contributions that are not elective deferrals.

SEP and profit-sharing plans. For years beginning after December 31, 2001, your maximum deduction for contributions to a SEP or a profit-sharing plan increases to 25% of the compensation paid or accrued during the year to your eligible employees participating in the plan. Compensation for figuring the deduction for contributions includes elective deferrals.

Defined benefit plans. For plan years beginning after December 31, 2001, your deduction for contributions to a defined benefit plan can be as much as the plan's unfunded current liability.

Elective deferrals.   The limit on elective deferrals increases to $11,000 for tax years beginning in 2002 and then increases $1,000 each tax year thereafter until it reaches $15,000 in 2006. These new limits will apply for participants in SARSEPs, 401(k) plans (excluding SIMPLE plans), and deferred compensation plans of state or local governments and tax-exempt organizations. The $15,000 figure is subject to cost-of-living increases after 2006.

Catch-up contributions. For tax years beginning after 2001, a plan can permit participants who are age 50 or over at the end of the plan year to also make catch-up contributions. The catch-up contribution limit for 2002 is $1,000. This limit increases by $1,000 each year thereafter until it reaches $5,000 in 2006. The limit is subject to cost-of-living increases after 2006. The catch-up contribution a participant can make for a year cannot exceed the lesser of the following amounts.

• The catch-up contribution limit.
• The excess of the participant's compensation over the elective deferrals that are not catch-up contributions.

SIMPLE plan salary reduction contributions.   The limit on salary reduction contributions to a SIMPLE plan increases to $7,000 beginning in 2002 and then increases $1,000 each tax year thereafter until it reaches $10,000 in 2005. The $10,000 figure is subject to adjustment after 2005 for cost-of-living increases.

Catch-up contributions. For years beginning after 2001, a SIMPLE plan can permit participants who are age 50 or over at the end of the year to make catch-up contributions. The catch-up contribution limit for 2002 is $500. This limit increases by $500 each year thereafter until it reaches $2,500 in 2006. The limit is subject to cost-of-living increases after 2006. The catch-up contributions a participant can make for a year cannot exceed the lesser of the following amounts.

• The catch-up contribution limit.
• The excess of the participant's compensation over the elective deferrals that are not catch-up contributions.

User fee.   The user fee for requesting a determination letter does not apply to certain requests made after December 31, 2001, by employers who have 100 or fewer employees, at least one of whom is a non-highly compensated employee participating in the plan. See User fee under Setting Up a Qualified Plan in chapter 4.

Limits on contributions and benefits.   For years ending after December 31, 2001, the maximum annual benefit for a participant under a defined benefit plan increases to the lesser of the following amounts.

• 100% of the participant's average compensation for his or her highest 3 consecutive calendar years.
• $160,000 (subject to cost-of-living increases after 2002).

For years beginning after December 31, 2001, a defined contribution plan's maximum annual contributions and other additions (excluding earnings) to the account of a participant increases to the lesser of the following amounts.

• 100% of the compensation actually paid to the participant.
• $40,000 (subject to cost-of-living increases after 2002).

For years beginning after December 31, 2001, the maximum compensation that can be taken into account for this limit increases to $200,000. This amount is subject to cost-of-living increases after 2002.

Excise tax for nondeductible (excess) contributions.   For years beginning after December 31, 2001, in figuring the 10% excise tax, you can choose not to take into account as nondeductible contributions for any year contributions to a defined benefit plan that are not more than the full funding limit figured without considering the current liability limit. Apply the overall limits on deductible contributions first to contributions to defined contribution plans and then to contributions to defined benefit plans. If you use this new exception, you cannot also use the existing exception discussed in chapter 4 under Excise Tax for Nondeductible (Excess) Contributions.

Rollover distributions.   A hardship distribution made after December 31, 2001, will not qualify as an eligible rollover distribution.

Involuntary payment of benefits.   If a participant's employment is terminated, a plan may provide for immediate distribution of the participant's benefit under the plan if the present value of the benefit is not greater than $5,000. For distributions after December 31, 2001, benefits attributable to rollover contributions and earnings on the contributions can be ignored in determining the value of these benefits.

Saver's tax credit.   Beginning in 2002, retirement plan participants (including self-employed individuals) who make contributions to their plan may qualify for the saver's tax credit. The amount of the credit is based on the contributions participants make and their credit rate. The maximum contribution eligible for the credit is $2,000. The credit rate can be as low as 10% or as high as 50%, depending on the participant's adjusted gross income. The credit also depends on the participant's filing status. For more information, see Publication 553, Highlights of 2001 Tax Changes.

Important Reminders

Plan amendments required by changes in the law.   If you must revise your qualified plan to conform to recent legislation, you may choose to get a determination letter from the IRS approving the revision. Generally, master and prototype plans are amended by sponsoring organizations. However, there are instances when you may need to request a determination letter regarding a master or prototype plan that is a nonstandardized plan you maintain. Your request should be made on the appropriate form (generally Form 5300 or Form 5307). The request should be filed with Form 8717 and the appropriate user fee.

You may have to amend your plan to comply with tax law changes made by the following laws.

• Uniformed Services Employment and Reemployment Rights Act of 1994, Public Law 103-353.
• Uruguay Round Agreements Act, Public Law 103-465.
• Small Business Job Protection Act of 1996, Public Law 104-188.
• Taxpayer Relief Act of 1997, Public Law 105-34.
• Internal Revenue Service Restructuring and Reform Act of 1998, Public Law 105-206.
• Community Renewal Tax Relief Act of 2000, Public Law 106-554.

You generally need to make these amendments by February 28, 2002. Plans directly affected by the September 11, 2001, terrorist attacks on the United States have until June 30, 2002, to make these amendments. In cases of substantial hardship resulting from the terrorist attacks, the IRS may grant additional extensions of time up to December 31, 2002, to make the amendments.

For more information about these extensions, see Revenue Procedure 2001-55 in Internal Revenue Bulletin 2001-49.

Photographs of missing children.   The Internal Revenue Service is a proud partner with the National Center for Missing and Exploited Children. Photographs of missing children selected by the Center may appear in this publication on pages that would otherwise be blank. You can help bring these children home by looking at the photographs and calling 1-800-THE-LOST (1-800-843-5678) if you recognize a child.

Introduction

This publication discusses retirement plans you can set up and maintain for yourself and your employees. In this publication, you refers to the employer. See chapter 1 for the definition of the term employer and the definitions of other terms used in this publication. This publication covers the following types of retirement plans.

• SEP (simplified employee pension) plans.
• SIMPLE (savings incentive match plan for employees) plans.
• Qualified plans (also called H.R. 10 plans or Keogh plans when covering self-employed individuals).

Table 1. Key Retirement Plan Rules

SEP, SIMPLE, and qualified plans offer you and your employees a tax-favored way to save for retirement. You can deduct contributions you make to the plan for your employees. If you are a sole proprietor, you can deduct contributions you make to the plan for yourself. You can also deduct trustees' fees if contributions to the plan do not cover them. Earnings on the contributions are generally tax free until you or your employees receive distributions from the plan.

Under certain plans, employees can have you contribute limited amounts of their before-tax pay to a plan. These amounts (and earnings on them) are generally tax free until your employees receive distributions from the plan.

What this publication covers.   This publication contains the information you need to understand the following topics.

• What type of plan to set up.
• How to set up a plan.
• How much you can contribute to a plan.
• How much of your contribution is deductible.
• How to treat certain distributions.
• How to report information about the plan to the IRS and your employees.

Basic features of retirement plans.   Basic features of SEP, SIMPLE, and qualified plans are discussed below. The key rules for SEP, SIMPLE, and qualified plans are outlined in Table 1.

SEP plans.   SEPs provide a simplified method for you to make contributions to a retirement plan for your employees. Instead of setting up a profit-sharing or money purchase plan with a trust, you can adopt a SEP agreement and make contributions directly to a traditional individual retirement account or a traditional individual retirement annuity (SEP-IRA) set up for each eligible employee.

SIMPLE plans.   A SIMPLE plan can be set up by an employer who had 100 or fewer employees who received at least $5,000 in compensation from the employer for the preceding calendar year and who meets certain other requirements. Under a SIMPLE plan, employees can choose to make salary reduction contributions rather than receiving these amounts as part of their regular pay. In addition, you will contribute matching or nonelective contributions. The two types of SIMPLE plans are the SIMPLE IRA plan and the SIMPLE 401(k) plan.

Qualified plans.   The qualified plan rules are more complex than the SEP plan and SIMPLE plan rules. However, there are advantages to qualified plans, such as increased flexibility in designing plans and increased contribution and deduction limits in some cases.

What this publication does not cover.   Although the purpose of this publication is to provide general information about retirement plans you can set up for your employees, it does not contain all the rules and exceptions that apply to these plans. You may also need professional help and guidance.

Also, this publication does not cover all the rules that may be of interest to employees. For example, it does not cover the following topics.

• The comprehensive IRA rules an employee needs to know. These rules are covered in Publication 590, Individual Retirement Arrangements (IRAs).
• The comprehensive rules that apply to distributions from retirement plans. These rules are covered in Publication 575, Pension and Annuity Income.

Comments and suggestions.   We welcome your comments about this publication and your suggestions for future editions.

You can e-mail us while visiting our web site at www.irs.gov.

You can write to us at the following address.

Internal Revenue Service
Technical Publications Branch
W:CAR:MP:FP:P
1111 Constitution Ave. NW
Washington, DC 20224

We respond to many letters by telephone. Therefore, it would be helpful if you would include your daytime phone number, including the area code, in your correspondence.

Help from the Internal Revenue Service (IRS).   See chapter 6 for information about getting publications and forms. For further information, call Employee Plans' customer service at 1-877-829-5500 (toll-free) from 8:00 a.m. to 6:30 p.m. Eastern Time, Monday through Friday.

Note:   All references to section in the following discussions are to sections of the Internal Revenue Code (which can be found at most libraries) unless otherwise indicated.

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