Many companies are having very successful years, and at the same time are struggling to find and retain key employees. Could a well-crafted retirement saving plan provide answers to both issues? Tax planning opportunities in the SECURE Act (Setting Every Community Up for Retirement Enhancement Act) may have been overlooked during the Coronavirus pandemic and the subsequent CARES Act. Tax Beat hosts Brooks and Sarah welcome their colleagues David Flinchum, Tax Partner and Leader of the Firm’s Qualified Plan Services, and Jeff Gump, Financial Advisor with Choreo (formerly Cherry Bekaert Wealth Management LLC), to talk about current trends in retirement savings plans. The discussion highlights hot topics, using multiple plans, and how business owners can still lower their 2020 tax bill.
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BROOKS NELSON: Welcome to the Cherry Bekaert Tax Beat, a conversation about tax that matters.
BROOKS NELSON: Welcome to the Cherry Bekaert Tax Beat Podcast. Today's session will be about the world of retirement plans for employees and business owners. The SECURE Act was signed into law in December 2019, but it was quickly overshadowed by the CARES Act and the pressing needs of the COVID pandemic.
BROOKS NELSON: Joining today's discussion are two of my colleagues who bring insights and experience working with employer plans. David Flinchum, introduce yourself.
DAVID FLINCHUM: Hi, all. I have 30 years of experience. Most of my practice involves consulting, designing, dealing with compliance issues, and reporting issues pertaining to qualified retirement plans.
JEFF GUMP: I'm Jeff Gump. I'm in our Virginia Beach office and spend a lot of time in our Raleigh market.
JEFF GUMP: I'm a financial advisor with Cherry Bekaert Wealth Management, which is a wholly owned subsidiary of Cherry Bekaert. I've been in this business more than 20 years, pre-tech bubble, so that shows how long I've been in the investment side.
JEFF GUMP: I mainly work with high-net-worth individuals, business owners, and retirement plans.
SARAH MCGREGOR: Hello, this is Sarah McGregor calling in from Greenville, South Carolina, and I'm excited to learn more about this topic.
BROOKS NELSON: I'm Brooks Nelson, sitting here in downtown Richmond, Virginia. Sarah, how's life treating you?
SARAH MCGREGOR: Life is good as always, Brooks. This time of year when school's starting back, it feels fresh and new, like fall is around the corner, but you still get these last wonderful weeks of summer. I'm pretty excited about it.
BROOKS NELSON: I went to an outdoor concert last night. The weather felt like fall, but it was very humid. The concert was Wilco, and the music was great.
BROOKS NELSON: All right, let's switch to our retirement plan discussion.
BROOKS NELSON: The SECURE Act, which stands for the Setting Every Community Up for Retirement Enhancement Act, was enacted December 20, 2019. It had many provisions pertaining to retirement plans.
BROOKS NELSON: It extended the due date to establish certain plans, increased tax credits for starting up plans, added flexibility to adopting 3% and 4% contribution safe harbors, enhanced automatic enrollment options, and opened plan participation to part-time employees.
BROOKS NELSON: Subsequent to that, as I mentioned, the CARES Act came out in response to the COVID pandemic and provided some well-publicized retirement plan provisions, mainly how employees could access funds through loans and distributions with favorable tax treatment.
BROOKS NELSON: We're not spending much time on that area in this podcast.
BROOKS NELSON: David, you've been doing this a long time. What are the top three questions you are asked most often in the retirement plan realm?
DAVID FLINCHUM: That's a fun question. Before I answer, I'd like to mention a couple of other important SECURE Act provisions.
DAVID FLINCHUM: The Act extended by two years the age at which we need to take required minimum distributions from IRAs and plans. It was 70½ and now it's 72.
DAVID FLINCHUM: The Act also removed the age limit for making IRA contributions, so we can continue to contribute to IRAs as long as we have earned income.
DAVID FLINCHUM: The number-one question I get is typically from business owners or principals: "How can I get more money into my retirement plan?"
DAVID FLINCHUM: Owners often say they can only get $58,000 a year into a 401(k) plan, which can be expensive because they must cover other employees within certain nondiscrimination limits.
DAVID FLINCHUM: I respond that we can redesign plans to allow owners or principals to get the maximum contribution, possibly $58,000 or about $63,000 if age 50 or older, while holding the cost of funding for staff at an affordable level.
DAVID FLINCHUM: Finding the right plan design often means allocations aren't uniform but targeted to specific owners or employees.
DAVID FLINCHUM: Often we can design a 401(k) profit sharing plan that allows an owner or principal to achieve the maximum contribution while keeping staff contributions to a minimum, sometimes 3% or 5%.
DAVID FLINCHUM: The other common questions involve the backdoor Roth IRA and the mega backdoor Roth IRA.
DAVID FLINCHUM: The Roth IRA contribution ability hinges on income limits. The mega backdoor Roth involves a 401(k) plan modified to allow after-tax employee contributions that can then be converted to a Roth IRA once made to the plan.
BROOKS NELSON: Most employers ask how to design a plan efficiently so they get what they want and the total plan makes sense from a business perspective.
BROOKS NELSON: It's important to note that the more you provide to highly compensated employees, the more you may have to provide to other associates.
BROOKS NELSON: There are great benefits to giving qualified plan dollars to associates, including employee satisfaction and retention.
JEFF GUMP: On the golden handcuffs, the employment market is extremely competitive. Your retirement plan and matching must be competitive or you could lose employees.
JEFF GUMP: Additional profit sharing above safe harbor can have a vesting schedule of up to six years, which helps retain employees. There are also nonqualified deferred compensation strategies to incentivize key employees to stay.
BROOKS NELSON: Even a simple 401(k) and match may not be enough to retain employees, but more advanced plans can provide stronger incentives.
BROOKS NELSON: David, we talked about the SECURE Act. One important change is the timing for establishing certain qualified plans. What are your thoughts?
DAVID FLINCHUM: That change is a great part of the legislation.
DAVID FLINCHUM: Prior to 2020, an employer had to have the plan agreement in place and executed by the end of the calendar year or plan year to take advantage of retirement plan benefits.
DAVID FLINCHUM: The SECURE Act now permits an employer to adopt a qualified plan as late as the due date of the employer's tax return, including extensions.
DAVID FLINCHUM: Employers with tax returns due in September or October under valid extensions still have the opportunity to adopt a qualified plan and make a tax deduction for the prior year.
DAVID FLINCHUM: Even cash basis taxpayers can deduct accrued contributions for the prior year, provided the contributions are paid by the due date of the extended tax return.
DAVID FLINCHUM: This is a great postmortem tax planning opportunity for employers who are surprised by a tax bill or facing penalties and interest.
SARAH MCGREGOR: David, the IRS recently provided relief for filing Form 5500 for 2020 plans that are set up now. We are already past the initial due date for the 5500, so this was great news.
DAVID FLINCHUM: That announcement made a lot of sense.
DAVID FLINCHUM: If you adopt a plan now for 2020, you do not have to file a 5500 for 2020. The first year these plans will file a 5500 will be 2021, and there will be a checkbox indicating that although this is the first filing, the plan was implemented the prior year.
SARAH MCGREGOR: There were enhancements to the tax credits for small employers establishing plans.
DAVID FLINCHUM: Yes. The credit is underutilized and is a great incentive for small employers to adopt retirement plans.
DAVID FLINCHUM: The credit applies to corporations and pass-through entities for the first three years of the plan and is available to small employers with fewer than 100 employees and at least one non-highly compensated employee.
DAVID FLINCHUM: Sole proprietors or single consultants without a non-highly compensated employee cannot take it.
DAVID FLINCHUM: The credit can be as much as 50 percent of the actual costs the employer incurs to adopt, implement, educate, and run the plan, including fees to file Form 5500, compliance fees, and plan-document costs.
DAVID FLINCHUM: The credit cannot exceed $5,000 per year and has a minimum of $500 per year. A credit of up to $15,000 over the first three years can substantially subsidize the cost of installing and running a plan.
DAVID FLINCHUM: Employers who have adopted or are considering a plan should remind their tax advisors that the credit may be available.
SARAH MCGREGOR: Great. Jeff, what are you seeing as the hot topics for retirement plans in your practice?
JEFF GUMP: Four things stand out.
JEFF GUMP: First, cybersecurity. Participants' assets are inside these plans, so securing systems is a major concern.
JEFF GUMP: Second, auto-enrollment and auto-escalation continue to be important. Auto-enrollment automatically enrolls new employees in the plan, and auto-escalation increases deferral percentages over time, often improving outcomes due to participant inertia. Auto-enrollment also helps plans pass nondiscrimination testing.
JEFF GUMP: Third, stable value funds, often the fixed-income option, are receiving scrutiny for high internal expenses.
JEFF GUMP: Fourth, target date funds are popular, but we must analyze their fees and compare them to peers to ensure value.
SARAH MCGREGOR: Brooks, you served as trustee for a retirement savings plan. What has been the influence of automatic enrollment and automatic escalation?
BROOKS NELSON: We had concerns about employee pushback, but auto-enrollment and escalation have been embraced with almost no criticism.
BROOKS NELSON: Most employees appreciate having it managed for them and rarely change settings. Automatic enrollment typically places participants in an age-appropriate target-date fund and escalates their deferral percentage over time, which helps long-term outcomes.
BROOKS NELSON: Employees approaching retirement who had these provisions were often surprised at how much had accumulated.
SARAH MCGREGOR: Jeff and David, there's renewed interest in defined benefit plans. Not the old pension plans, but a different flavor of defined benefit as opposed to defined contribution plans.
SARAH MCGREGOR: Jeff, what are you seeing?
JEFF GUMP: Many businesses have had strong years, and some owners, partners, or targeted C-suite executives have maxed out their 401(k) contributions and employer contributions, reaching roughly $64,000 in the plan.
JEFF GUMP: They ask how to put away more pre-tax dollars. With the right plan design and an older employee, deductible contributions could be as high as $338,000. This is especially attractive given concerns about potential higher taxes.
DAVID FLINCHUM: I agree. Owners and principals want to contribute more money annually.
DAVID FLINCHUM: Often the solution is adding a second plan, typically a cash balance plan.
DAVID FLINCHUM: We are achieving outcomes where owners and principals have annual deductions into their accounts of $200,000 or more. These plans are commonly adopted by employers with up to about 50 employees. I'm not designing plans for much larger employers.
BROOKS NELSON: Jeff, our firm also offers a plan called the Variable Interest Plan. Can you briefly explain what a Variable Interest Plan is, what a cash balance plan is, and compare the two?
JEFF GUMP: Internally we call it the VIP plan, but the official name is the Direct Recognition Variable Investment Plan.
JEFF GUMP: It's similar to a cash balance plan with more flexibility, bells and whistles you pay for. I liken the cash balance to a Camry and the VIP to a Lexus: the VIP has additional features at additional cost.
JEFF GUMP: We do VIP plans in conjunction with Cherry Bekaert Benefits Consulting, which acts as a record keeper and administrator or TPA. Charles Schwab is often the independent third-party custodian holding the assets, and Cherry Bekaert Wealth Management many times is the advisor on the plan.
JEFF GUMP: We help with the investment side. The VIP is layered on top of the 401(k), with integrated plan design to maximize contributions for targeted employees.
BROOKS NELSON: What's the top end of contributions you see with the VIP plan?
JEFF GUMP: It can be up to $338,000 when combining the 401(k) portion and the VIP contributions. That's actuarially tested and typically applies to older employees. Younger participants can contribute less.
JEFF GUMP: The Benefits Consulting Group will run a plan design to show maximum contributions and required employee contributions, and clients decide affordability.
BROOKS NELSON: David, your thoughts on the difference between the VIP and a standard cash balance plan?
DAVID FLINCHUM: There's an important difference.
DAVID FLINCHUM: A traditional cash balance plan provides a fixed annual contribution and a fixed annual rate of return to eligible participants, often around 4% to 5% regardless of actual investment performance.
DAVID FLINCHUM: If plan investments return less than the fixed rate, the employer must fund the deficit, creating underfunding risk.
DAVID FLINCHUM: A VIP, or variable interest plan, is essentially an actual rate of return plan. The contribution limits and core designs are generally identical to a cash balance plan, but instead of a fixed rate of return, the actual rate of return from the plan's underlying investments is credited to participants.
DAVID FLINCHUM: This eliminates underfunding risk, which is valuable to employers and often makes the VIP more attractive.
JEFF GUMP: To add, VIP contributions are pooled and invested for the firm's overall objective. Participants' benefits rise and fall with the pool's performance, mitigating the traditional underfunding risk of a cash balance plan.
JEFF GUMP: Contributions are known, consistent, and reliable.
SARAH MCGREGOR: By combining a defined contribution plan with a cash balance plan or VIP, you get flexibility in less profitable years while controlling deferred contributions needed for the defined benefit side.
SARAH MCGREGOR: David, I'd like to revisit your comments on the Roth and have a roundtable view on where Roth savings fit into overall retirement savings.
DAVID FLINCHUM: I'm a big fan of the Roth. I have a Roth and believe it should be part of wealth accumulation.
DAVID FLINCHUM: I like the tax diversification and the idea of a permanent tax-free savings account. I also like that at age 72 you won't have to take required minimum distributions from Roth IRAs as you do from non-Roth IRAs.
DAVID FLINCHUM: For high earners, funding opportunities are constrained, so we get creative to enable them to take advantage of Roth savings.
BROOKS NELSON: I echo David. Roths are a good tax diversification strategy, and the longer you hold them, the more sense they make.
BROOKS NELSON: They are not a short-term play but provide long-term tax-free accumulation benefits.
BROOKS NELSON: Retirement plans are valuable. With qualified plans, you get tax deductions up front, money accumulates tax-deferred, and distributions have protections such as bankruptcy and creditor protections.
BROOKS NELSON: From a tax, cash, financial, and security perspective, qualified plans accomplish many important goals.
BROOKS NELSON: With recent legislation and planning opportunities, it's a good time to check in with advisors, especially if you don't already have a plan.
SARAH MCGREGOR: For those who haven't missed the opportunity to set up a plan to cover a 2020 contribution, there's still time before tax return filing deadlines.
SARAH MCGREGOR: It can help with tax liabilities, and starting now is also good for 2021 because employers and employees can make contributions between now and the end of 2021.
BROOKS NELSON: Even if you've filed, this is the traditional cycle for the current year.
BROOKS NELSON: Thank you for listening to our discussion on the latest trends in qualified retirement plans.
BROOKS NELSON: A quick disclaimer: we're not providing tax advice on this podcast. Please consult with your tax advisor, hopefully at Cherry Bekaert, regarding your specific tax issues or to discuss information from today's podcast.
BROOKS NELSON: Check our firm's website at cbh.com for the latest guidance and materials on this and other tax and business topics. This concludes today's podcast.
BROOKS NELSON: Thank you, David. Thank you, Jeff. Thank you, Sarah. Thank you to our listeners for spending your time with us.
BROOKS NELSON: We ask that you please share, like, or subscribe to this podcast.
