Winter, 2004 Edition

• 401(K) Plans Now Advantageous for Small Businesses
• New Opportunities for Additional Disability Insurance
• IRS Announces Cost of Living Increases
• Nursing Home Costs Continue to Climb
• Update on Bush Retirement Savings Proposals

 

401(K) Plans Now Advantageous for Small Businesses

A lot has changed in the past decade with retirement plans. If you think back to the type of plan (or plans) that you were involved with in 1993, it is most likely significantly different than your situation today. In particular, the rules covering 401(k) Plans have been changed to enable small business owners – and specifically businesses where both spouses are employed – to be able to save and accumulate substantial amounts for retirement with a nominal cost to cover their employees.

In the past, there were significant drawbacks to setting up a 401(k) Plan for a small, closely-held business. First, in order to have a 401(k), the complex non-discrimination rules had to be met. If there was not enough interest among the employees, it limited the amount the owner could contribute to the 401(k) Plan. In small office situations where there might be only two or three employees, it made it very difficult to predict whether a 401(k) would be a viable retirement plan. Second, the matching contributions for Self-Employed and Partnership entities were treated differently than corporations, making it less advantageous to have a 401(k). Third, in businesses where both spouses were employees, the “Family Aggregation” rules treated them as “one employee” with one overall compensation limit

Now, various laws have broken down all three of these barriers and have also significantly increased the savings possibilities by increasing contribution limits. The Small Business Job Protection Act of 1996 was key, creating the “Safe Harbor 401(k) Plan” and repealing the Family Aggregation rules. The Taxpayer Relief Act of 1997 changed the 401(k) rules to treat corporations and self-employed/partnership situations equally. More recently, the Economic Growth and Tax Reconciliation Act of 2001 greatly increased the 401(k) contribution limits and introduced “Catch-Up” contributions for persons age 50 and above.

Because of these changes, the Safe Harbor 401(k) has become very attractive for small offices. Under a Safe Harbor 401(k), as long as a minimum contribution is made, the Plan automatically satisfies the non-discrimination tests. Thus, even if your employees do not contribute any of his or her own money to the 401(k), you can contribute the maximum as long as you make a 3% contribution for the eligible employees. In offices where both spouses are employed, it provides an even better opportunity to save for retirement.

As an example, let’s take a small office with the following information:

Doctor - earns over the includable compensation limit of $205,000; age 55
Spouse - is the Office Manager; earns $40,000; age 52
Employee #1 - earns $40,000
Employer #2 - earns $30,000

If this office sets up a Safe Harbor 401(k) for 2004, the contribution figures would be significant for the doctor and spouse, with a very minimal employee cost.

Participant	Compensation	401(k)*	Match	Total
Doctor	$205,000	$16,000	$ 6,150	$22,150
Spouse	40,000	16,000	1,200	17,200
Employee #1	40,000	0	1,200	1,200
Employee #2	30,000	0	900	900

* - includes $3,000 Catch-Up contribution available for those age 50 and over.

Even if neither employee has interest in contributing their own money to the 401(k), the doctor and spouse can put away $39,350 for retirement with an employee cost of only $2,100.

Given the retirement savings opportunities available through the use of a Safe Harbor 401(k), it makes sense for many small employers to consider adopting a new plan or amending their existing plan. Since there are specific notice and other requirements involved in having a Safe Harbor 401(k), it is important to contact Mid-Atlantic Benefit Consultants, Inc. at the earliest possible date if you think this plan is right for your organization.

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New Opportunities for Additional Disability Insurance

In recent years, it has become far more difficult for successful professionals and executives to obtain substantial amounts of top-quality disability insurance coverage.

The leading disability insurance carriers have suffered very large claims losses, primarily among the physicians and lawyers they insured. This was the result of many factors, including the impact of Managed Care, and a dramatic increase in Mental/Nervous/Drug-related claims.

Back in the 1980’s, depending upon the level of one’s earned income, it was possible to obtain almost limitless amounts of top-quality individual disability coverage. The situation changed dramatically in the 1990’s to the point where few, if any, disability insurance carriers will now issue more than $10,000 per month of coverage.

One recent development represents the first “positive” in the disability insurance area in a number of years. In addition to the normal limits for the issuance of disability insurance coverage, it is now possible to “insure” one’s Retirement Plan contributions. Some of the top insurance companies will now issue supplemental coverage which retains the same basic policy definitions as the best disability coverage available. The limits in this case, however, are based upon the applicant’s tax-qualified Retirement Plan contributions. This can include both employer and employee contributions to Defined Contribution (Money Purchase) Pension Plans, Profit Sharing Plans, and 401(k)’s.

A major difference of this coverage is that rather than paying benefits directly to the insured, disability payments are made to a Trust which invests them in one or multiple mutual funds selected by the insured. At age 65, the accumulated amount is paid to the insured.

This type of coverage is best considered in situations where the individual has already maximized his or her traditional disability insurance coverage. While this new type of coverage is not identical to the traditional disability policy, it does represent a means of effectively increasing one’s overall disability insurance program.

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IRS Announces Cost of Living Increases

The IRS has announced the plan limit cost of living increases for 2004.

	2003	2004
Taxable Wage Base	$87,000	$87,900
Includable Compensation Limit	$200,000	$205,000
401(k)/403(b) Deferral Limit	$12,000	$13,000
401(k)/403(b), 457 Catch-up Limit	$2,000	$3,000
Defined Contribution 415 Limit	$40,000	$41,000
Defined Benefit 415 Limit	$160,000	$165,000
SIMPLE Deferral Limit	$8,000	$9,000
SIMPLE 401(k) & IRA Catch-up Limit	$1,000	$1,500
Highly Compensated Employee	$90,000	$90,000
SEP Compensation Limit	$450	$450
457 Deferral Limit	$12,000	$13,000

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Nursing Home Costs Continue to Climb

The cost of a nursing home stay has been increasing substantially over the past several years, with the most recent figures available indicating that there has been no slowdown in the rate of increase.

A survey by MetLife, Inc. indicates that the average daily cost of a private room in a nursing home has increased to $181. This represents an 8% increase from a survey taken 15 months earlier.

The same study indicates that the average nursing home stay is 2.4 years.

Based upon the daily rate and length-of-stay figures, the typical bill for a nursing home stay now averages close to $160,000. The MetLife survey also found that there is a wide disparity in rates around the country. For example, the average in the New York area is $346 per day, as compared with $172 in Chicago, $162 in Los Angeles, and $129 in New Orleans.

The survey concluded that the cost of providing home care has also risen, but at a lesser rate. The increase over the 15-month period since the prior survey was 3%. Interestingly, Fort Worth, Texas had the highest hourly rate, at $27; this compared with $15 in New York, $18 in Chicago, $16 in Los Angeles, and $12 in New Orleans.

The fact that nursing-home costs are increasing far quicker than the rate of inflation would appear to be a further indication of the advisability of considering the establishment of Long-Term Care Insurance coverage.

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Update on Bush Retirement Savings Proposals

In our Winter 2003 Newsletter, we detailed the Retirement Savings proposals put forth by President Bush. Included among these proposals was the creation of two new types of savings accounts – the Lifetime Savings Account (LSA) and the Retirement Savings Account (RSA) -- as well as a simplified 401(k)-type Plan called the Employer Retirement Savings Account (ERSA).

What Happened?

While the President’s tax bill was passed, the sweeping retirement account proposals were dropped. The Pension simplification ideas were relatively well-received, but there were worries about the impact on small business retirement coverage. For years, pension experts and government officials have struggled with ways to increase the adoption of retirement plans in small to medium sized businesses. In this case, many analysts believed that the ability to save large amounts on an individual basis with the LSA and RSA accounts would accomplish the opposite – it would encourage small business owners to save only on their own and abandon Pension and 401(k) Plans which also cover their employees. The American Society of Pension Actuaries, the leading advocacy group on the Retirement Plan issues, has vigorously opposed the proposals primarily on this basis.

In 2004...

Despite the lukewarm reception to the ideas this year, indications are that the Bush Administration is gearing up to make these proposals a major part of the 2004 budget. When the budget is introduced, expect that the creation of the new accounts will be included, although with some changes that may address concerns of the Retirement Plan community. Traditionally, it has been very difficult to pass such significant Pension legislation. Over the past decade, there have been many changes to the Pension Laws, but most have only tinkered with the limits and rules covering the existing employer-based retirement system. Given the potential impact and cost, it seems unlikely that the proposals would pass in their original form. However, if the President does make it an important part of his domestic agenda, it would not be surprising to see a revised form signed into law in the upcoming election year.

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This publication is not meant to provide legal or other professional advice. It is suggested that a tax advisor be contacted to review applicable areas discussed herein. All rights reserved.