Terminate Profit Share
I have a client whose ran a Heart Surgery unit within a major hospital. THe business had a PS plan while it was a going concern but stopped contributing about 10 yrs ago when the business ceased because it was folded into the hospital. Most of the participants have since rolled over to an IRA but a few remain. THese few remaining doctors now want to “retire the PS and role to their IRA”. Here are two issues which give rise to a few questions:
Two of the doctors who were the biggest owners of the business took loans out of the PS plan about 8 yrs ago and NEVER PAID IT BACK. Also the TPA never 1099d them. ( doctors are aware they will have to declare loan amount as ordinary income)
THe PS holds about 20% in an illiquid private reit that has a steep penalty to sell.
1) Can the doc’s with the defaulted loan still roll to an ira and simply get a 1099 for loan amount , pay the tax on the recognized income all is forgiven with irs?
As a follow up what would a sequence of events have to look like..ie) roll first , 1009 later… vise vera ?
2) For the illiquid reit can a in-kind rollover be done for this portion .. ie pro rata in proportion to each doc’s interest?
3) Assuming in kind is allowed can the doc’s come to an agreement where one may say “i’ll take IBM.. another take the GE and the last one take the reit..?
4_ ) Since the PS will be no more is this considered a termination? If so what are the formal procedures of a termination and how do they effect the desire to roll into IRA?
Thanks
Permalink Submitted by mk foss on Thu, 2008-11-06 02:52
The loans should have been taxable long ago; when no payments are made they’re considered taxable as soon as they’re made. The loans still must be paid back to an ongoing plan even if the borrower paid tax on the income due to default. You might check to see if the TPA reported them on 1099s 8 years ago. In any event, although a loan cannot be rolled over to an IRA, the IRS has allowed someone with a loan offset upon termination to roll an equivalent amount of cash into an IRA. See PLR 200617037 for example.
In kind distributions are allowed from qualifying plans that can be rolled to IRAs. I’m not aware that any IRS reporting would require which specific assets were allocated to each participant — I don’t think they’d have to receive a fixed percentage of each asset.
When a profit sharing plan is terminated, it must file Form 5500. The form is due ordinarily by July 31 of the year after the termination. The TPA should have been filing these forms all along.
Permalink Submitted by charles lore on Thu, 2008-11-06 03:35
Thank you but I want to flesh out the loan one a bit more.
Putting numbers on it lets say loan was 50,000 and he’s in 30 tax brackets.
In what yr would he recognize it ? In 2008 0r does he do amended return for a back yr?
Also he pays 15,000 in tax and then has to come up with another 50,000 to pay loan back to plan for a total flow of 65,000? And only after funds are spent ( from presumably non qualified money) can he terminate plan and roll to ira? ( assume he does not apply for a ruling)
Also do you you see penalties and late interest charges own on defaulted loan?
Appreciated this very much..
Permalink Submitted by Martin Helmer on Thu, 2008-11-06 04:48
From the perspective of a former Employee Plans agent, my top of the head thoughts are:
The plan is no longer qualified under 401(a) for multiple reasons. The plan was not operated according to its written terms. There is no employer that sponsors the plan. It’s likely the plan has not been timely amended to include required language from the last several years.
I expect the account balances are significant enough so that you would be pretty resistant to taking the entire value into taxable income. You might reconsider going for a ruling, in spite of the inclination not to do so. The ruling I’m thinking of would be via the IRS correction program. See the latest version of same, aka Rev. Proc. 2008-50. It tells you of various ways that various plans go wrong and which subprogram to use to remedy the situation. As part of the process it’s likely you’d need a determination letter for the plan document, using Form 5310. Before doing any rollover, the usual sequence here would be to complete the correction and determination processes first.
The PLR cited does not apply to a deemed distribution. The loan should have continued to be shown as a plan asset accruing interest. Even though upon distribution of the entire account balance you are effecting a type of offset, it’s not the kind of offset that can be rolled over. Because the plan is currently nonqualified, no plan asset is currently rollable.
Like a lot of retirement plan jargon, ‘termination’ has multiple meanings. In the final sense, termination occurs when the last asset has been distributed and the plan has no liabilities. The final Form 5500 series return is then due seven months from the end of the month the termination occurred, usually resulting in a short plan year and a return due date other than July 31.
If I have any good news, it’s likely you’ll be able to divide up the assets and roll even the in kind ones, assuming the plan becomes requalified.
Permalink Submitted by Denise Appleby on Thu, 2008-11-06 07:15
Al I have to add is…They need to get someone who is an expert in this field to work with them on making required corrections and making sure that compliance requirements are met when terminating the plan. It may cost them some money- but that is less of an issue then rolling over assets that are not rollover eligible. It won’t be too soon when they start the corrections process.