Unlike qualified plans, such as defined benefit and defined contribution plans, some plans are nonqualified, meaning they do not meet ERISA guidelines and the employer therefore may not deduct contributions.
However, earnings on these plans are tax deferred until withdrawn.
- 457 plan - The most common nonqualified retirement plans are deferred compensation plans set up under IRS Code Section 457. These plans are available to state and local government workers and employees of certain nonprofit employers. Like 401(k) and 403(b) plans, a 457 plan allows employees to reduce their taxable income by setting aside a portion of their salary for retirement. A 457 plan may be offered to workers in addition to other defined contribution plans.
Exam Tips and Tricks
Consider these sample exam questions about retirement plans:
- A retirement plan is qualified if it:
- Is established by an employer instead of an individual
- Qualifies for special tax treatment
- Provides special benefits for highly paid employees
- Is part of an IRA
The correct answer is "b", since qualified plans must be established by the employer, but not all employer retirement plans are qualified.
- If a retirement plan is nonqualified, which one of the following statements is always TRUE:
- The plan is illegal and should be terminated
- Investment earnings accumulate tax-free
- The employer may not deduct the plan contributions
- It is a defined benefit plan
The correct answer is "c", since nonqualified plans never permit deductibility of the employer's contributions.
- The investment policy statement under a qualified plan can best be described as:
- A required document that contains the "legal list" of permissible investments in the plan
- A written document that outlines the plan's investment objectives and guidelines
- The list of prohibited transactions that the fiduciaries must not permit
- A written document provided to the plan participants, to limit the trustees' legal liability for poor investment decisions
The correct answer is "b", since the document is designed to provide guidance on investment decisions - not give a list of required or prohibited investments.
RetirementQualified and non-qualified retirement plans are created by employers to benefit their employees.
Financial AdvisorLearn about eligibility requirements, contributions and distribution rules for these retirement plans.
RetirementA pension plan is a savings plan maintained by an employer on behalf of its employees for their retirement.
RetirementThese plans aren't widely used, but they fill a specific niche for employees in certain situations.
RetirementThis plan has become one of the most popular retirement options. Find out why.
Financial AdvisorThese plans resemble 401(k) plans in many respects, but are specially designed for nonprofit entities.
RetirementA defined contribution plan is a company retirement plan that specifies the amount of money contributed to it.
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Financial AdvisorEmployers establish qualified retirement plans to help their employees save money.
Defined benefit plans offer advantages to both employers and employees. Employers must understand the federal tax rules when establishing these plans.