PROFIT SHARING PLANS

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PROFIT SHARING, money purchase, and other types of defined contribution (DC) plans can take the form of IRS pre-approved designs, or other designs that meet the employer’s objectives while still complying with IRS rules.

Pre-approved methods of allocating employer contributions include:

• a level percentage of pay for each employee, and
• an “integrated” plan that takes the employer’s FICA taxes into account by allocating an additional contribution for pay above the Social Security wage base.

Many other designs are possible when pre-approved plans aren’t good enough. Two examples are shown here:

• A service-weighted plan that contributes a higher percentage of pay for each year an employee stays with the company. Service-Weighted plan allocates 1% of pay per year of service.
• A “class allocation” plan that enables highly paid employees to defer more of their compensation while other employees take most of their compensation in cash. Class Allocation plan allocates 20% of pay for owner, 5% for employees.

Both of these examples are “cross-tested” plans, named after the IRS “cross-testing” process of converting contributions into benefits for nondiscrimination testing.

	Age	Years of Service	Pay	Service-Weighted		Class Allocation
				Contribution	% of Pay	Contribution	% of Pay
Owner	55	20	$250,000	$50,000	20.0%	$50,000	20.0%
Employee	40	10	50,000	5,000	10.0%	2,500	5.0%
Employee	30	5	30,000	1,500	5.0%	1,500	5.0%
Total			$330,000	$56,500	17.1%	$54,000	16.4%

You can follow current defined contribution topics on the DC plan section of our blog.

© 2012 Northern Consulting Actuaries, Inc. dba Van Iwaarden Associates.