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As the end of the calendar year approaches, many of you are probably reviewing your financial results to see how things will turn out for you or your company this calendar tax year. Despite what many had been expecting, a lot of businesses are finding that they will have a good year. That is a good news/bad news situation. More profits, while desirable, means potentially more income taxes.

Websites and accounting firm blogs are full of suggestions on how to create deductions and lower taxes. However, most tax experts will agree that the most efficient way to reduce taxes is by using qualified retirement plans. Properly and strategically designed qualified retirement plans – such as 401(k) plans, profit-sharing plans, and cash balance plans – provide a company or self-employed individual with a method to sock away significant earnings that would otherwise be taxed at the company’s or individual’s tax rate. Using these types of methods to reduce taxable earnings can result in significant tax savings and can potentially result in qualifying for favorable tax provisions that would otherwise be unavailable or phased-out under the tax code.  

Qualified retirement plans:

  • Have the advantage of being protected from creditors of the company under ERISA.
  • Are generally exempt from the payment of taxes on earnings while in the plan.
  • Are eligible to be rolled over into an IRA or another qualified plan, and thus benefit from the continued deferral from taxes following the participant’s termination of employment or retirement. 

Perhaps the best part of qualified retirement plans is that while the company or individual can take the deduction for contributions for the tax year, they have until the end of their extended filing date for such tax year to actually contribute the funds to the plan. 

If you could benefit from such savings, you should seriously consider adopting a retirement plan program – or, if you have one, revising the program – to maximize your benefits or the benefits to your targeted employees or owners. 

Many owners and executives are limited in what they can contribute to a 401(k) plan. They think they have maximized their retirement savings opportunities if they are able to contribute $19,000 through 401(k) salary deferrals. However, there is usually much more that can be done.

In 2019, the maximum amount that can be contributed to a defined contribution plan for a targeted individual is $56,000. This includes employee deferrals and employer contributions. If the individual is age 50 or older there is an additional catchup contribution of up to $6,000 available (these limits rise to $57,000 and $6,500 for 2020). Money is being left on the table if the individual is only contributing $19,000,  and up to one-third or more of that money could be going to pay current taxes.

To contribute $56,000 for yourself or another targeted individual, there may need to be contributions for other employees. But careful analysis and design can make that additional contribution a manageable and acceptable number. What that number will be depends on the employer’s census and the plan design.

If you are looking to save more, the use of a cash balance pension plan covering the target(s) could add up to another $100,000 – $220,000 per year. The actual amount will depend on the age of the target. However, any targeted employee that is 50 or older and is earning $200,000 or more can reasonably expect that level of additional benefit. As mentioned above, there will likely need to be contributions made for other employees. 

The end of 2019 may be approaching, but there are tax savings opportunities available and there is still time to take advantage of them if you act now. Remember, numbers need to be crunched, designs need to be analyzed, decisions need to be made, and documents need to be created and executed. And in order to take advantage of these rules for the 2019 calendar tax year (or your applicable tax year), you must adopt or amend your retirement plan before the end of the applicable tax year. 

If you believe you or your company can potentially benefit from savings offered by a strategically designed retirement plan, contact one of the McDonald Hopkins attorneys listed below. 

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