Last minute tax planning is like cramming for a final exam. You don’t always get the best results. Starting now to do 2007 retirement planning can make a big difference. Here are some of the situations we saw in late December, 2006:
- Not enough compensation for a shareholder-employee of an S corporation. Many owners will minimize W-2 compensation for payroll tax reasons. The balance of their income goes on their K-1s. However, only W-2 compensation can count for retirement plan purposes. Minimizing W-2 income can also minimize retirement benefits.
- Not enough time to maximize 401(k) contributions. Adopting a 401(k) in the latter part of the year may not give an employee enough time to maximize his or her own contributions. Remember 401(k) contributions must be elected in advance and withheld by the employer. A December plan adoption only provides December payroll as a basis for employee deferral.
- Timely notice not give to employees. Tax planning is a time-sensitive activity, and sometimes notices to employees must be made in order to achieve desired results. For example, an employer sponsoring a SIMPLE must give its employees notice of the plan provisions and employer contribution levels, including any plan changes, at least 60 days prior to the start of the next calendar year. An employer who did not give the requisite termination notice by November 1, 2006 meant no profit sharing/401(k) plan for 2007. An employer with a SIMPLE should keep November 1, 2007 in mind if a different plan type is intended in 2008.
- Employer contributions made early in the year. While it can be advantageous from an investment standpoint to get the money working as soon as possible, this can sometimes cause problems. For example, if an employer has already made its profit sharing contributions for the current plan year, those contributions may practically preclude a defined benefit plan from being adopted for the year. It may also eliminate the adoption of a profit sharing plan whose allocation method might better favor a Highly Compensated Employee if contributions to a SEP have already been made.
These are just a few of the situations that could have been avoided by not waiting until the last minute to adopt a retirement plan. Studying for that final 2007 retirement planning final exam should begin now.