TOOLS & TECHNIQUES OF LIFE INSURANCE PLANNING



TOOLS & TECHNIQUES OF EMPLOYEE BENEFIT AND RETIREMENT PLANNING

11th Edition

College Course Materials

Deanna L. Sharpe, Ph.D., CFP®, CRPC®, CRPS®

Associate Professor

CFP® Program Director

Personal Financial Planning Department

University of Missouri-Columbia

Please Note: Correct answers for each question are indicated in bold type. After each question, the number of the page containing information relevant to answering the question is given. When a calculation is necessary or the reasoning behind a given answer may be unclear, a brief rationale for the correct answer is also given.

Part A: Retirement Planning

Defined Contribution Plans

Chapter 20: Section 401(k) Plan

True/False

20.1 Employees can elect a salary reduction to fund their 401(k) plan either before or within a month after compensation is earned.

20.2 Employers match employee contributions to 401(k) plans to increase participation and help the plan meet nondiscrimination requirements.

20.3 Employees can make in-service withdrawals from their 401(k) plans

Answers:

20.1 false [p. 176]

20.2 true [p. 175]

20.3 true [p. 178]

Multiple Choice

20.4 Disadvantages of a 401(k) plan include:

a. benefits are not an adequate source of retirement income for those entering the plan relatively close to retirement

b. employer bears the investment risk

c. employer may need to match contributions to avoid having the plan deemed discriminatory

d. a and b

e. a and c

Answers E [p. 176]

20.5 Which of the following is (are) true regarding Section 401(k) plans?

a. employees decide how much of their compensation is to be deferred

b. all types of employers can adopt a Section 401(k) plan

c. Section 401(k) plans can allow hardship withdrawals

d. a and b

e. a and c

Answer: E [pp. 175, 178]

20.6 Which of the following is (are) true regarding elective deferrals in a Section 401(k)?

a. elective deferrals are not subject to Social Security and Federal Unemployment payroll taxes

b. elective deferrals are always made on an after-tax basis

c. if the company elects to have a safe harbor plan, elective deferrals must meet the actual deferral percentage test

d. account funds can be withdrawn without a premature distribution penalty if the employee becomes disabled or dies

e. since employees elect the amount of funds to defer, nondiscrimination tests do not apply to elective deferrals

Answer: D [p. 179]

Application

20.7 Last week while driving to work, Mike Salsbury’s car broke down. He called a tow truck and got a ride with a friend to and from work that day. When the auto repair shop called, Mike learned repairs would cost $2000. That was $2000 more than he had. Mike is considering taking money out of his 401(k) plan to cover cost of the repair. If he does

a. there will be no tax or penalty since it is a hardship withdrawal

b. Mike must pay income tax, but will avoid a 10% penalty tax since it is a hardship withdrawal

c. Mike can withdraw $2000, but he must pay income tax on the amount withdrawn. If he replaces the withdrawn amount within two years, he can avoid paying a penalty on the amount withdrawn.

d. Mike cannot withdraw money from a 401(k) unless he is 59 1/2, disabled, or has unusually high medical or housing expenses

e. Mike will pay income tax and a 10% penalty for an early withdrawal, and must satisfy requirements to show it qualifies as a hardship

Answer: E [pp. 181-82]

20.8 Last year, the owner of Quinton Enterprises decided to contribute an additional $4,000 to each employee’s 401(k) account. This amount was about four times the average annual contribution made by rank and file employees, but about even with the average annual contribution of the highly compensated employees. The $4,000 was about double the amount that the owner had contributed to employees’ accounts the year before that. The form of employer contribution used at Quinton Enterprises is:

a. formula matching

b. discretionary matching

c. pure discretionary

d. formula contributions

e. proportional contributions

Answer: C [p. 177]

20.9 Maxton Manufacturing, Inc. uses prior year testing to monitor discrimination in its Section 401(k) plan. Last year, the actual deferral percentage (ADP) for all nonhighly compensated employees at Maxton was 4%. This year, the ADP for highly compensated employees at Maxton can be as high as:

a. 2%

b. 4%

c. 5%

d. 6%

e. 8%

Answer: D [p. 179 – Prior year of 4% + 2%, using ADP test 2 similar to the example on page 185]

20.10 Caribon Cruise Tours has a traditional 401(k) plan for employees. Last year, payroll for employees covered under the plan was $500,000 and employee elective deferrals amounted to $100,000. Which of the following is true?

a. Caribon Cruise Tours can deduct up to $150,000 for federal income tax purposes

b. Caribon Cruise Tours can deduct no more than $125,000 for federal income tax purposes

c. employees paid income and payroll taxes on the amounts they chose to defer

d. a and c

e. a and b

Answer: A [p. 179 – Caribon Cruise Tours can deduct up to .25 ( $500,000 + $100,000) = $150,000]

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