ERISA consultants at the Retirement Learning Center Resource Desk regularly receive calls from financial advisors on a broad array of technical topics related to IRAs, qualified retirement plans and other types of retirement savings and income plans, including nonqualified plans, stock options, and Social Security and Medicare. We bring Case of the Week to you to highlight the most relevant topics affecting your business.
A recent call with an advisor in California is representative of a common inquiry regarding 401(k) salary deferrals. The advisor asked: “I’m a wealth advisor working with sole proprietor who wants to set up a 401(k) plan for 2022. Is that still possible and could she make salary deferrals for 2022?”
Highlights of the Discussion
Because this question deals with specific tax information, business owners and other taxpayers should always seek the guidance of their tax professionals for advice on their specific situations. What follows is general information based on IRS guidance and does not represent tax or legal advice and is for informational purposes only.
With respect to setting up a plan for 2022, the short answer is, yes, provided your client has an extension to file her 2022 tax return. However, she could only make an employer contribution for herself—not employee salary deferrals for 2022. Here’s why.
Under the SECURE Act 1.0, for 2020 and later tax years, a business has until its tax filing deadline, plus extensions for a particular tax year to set up a plan. The plan establishment deadline is tied to the type of business entity and its associated tax filing deadline. Please see a prior Case of the Week, “Plan Establishment and Compensation,” for more detailed information.
For example, a sole proprietorship [or limited liability corporation (LLC) taxed as sole proprietorship] would have an extended plan establishment deadline of Oct. 15, 2023, to set up a plan for 2022. That means your client could set up a 401(k) plan up until that date if she has a tax filing extension.
Regarding the ability to make retro-active employee salary deferrals, unfortunately, it is too late for your client to make salary deferrals for 2022. The change that allows sole proprietors or single member LLCs to make retroactive first-year elective deferrals under Section 317 of SECURE Act 2.0 takes effect for plan years beginning after Dec. 29, 2022. Consequently, if she sets up a 401(k) plan now, she could only make salary deferrals on a prospective basis.
Conclusion
SECURE Acts 1.0 and 2.0 have made favorable changes to plan establishment and funding rules, including the ability to make retroactive first-year elective deferrals for certain unincorporated business owners beginning for the 2023 plan year. Before jumping into a plan, be aware there are lots of details that investors should discuss with their tax and legal advisors.
Any information provided is for informational purposes only. It cannot be used for the purposes of avoiding penalties and taxes. Consumers should consult with their tax advisor or attorney regarding their specific situation.
©2023, Retirement Learning Center, LLC. Used with permission
