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2. 22 COMPENSATION & RETIRMENT PLANNING Employee vs. independent contractor Salaries Employee fringe benefits Employee stock options Employment-related expenses Retirement plans

3. 33 Employee vs. Independent Contractor (1 of 3) Tax consequences if taxpayer classified as an employee Employer Must pay ½ of FICA and payroll taxes. Responsible for withholding taxes. Must provide employee benefits Taxpayer Only pay ½ of FICA (no SE tax). Employment-related expenses deductible as miscellaneous itemized deduction subject to 2% AGI limitation.

4. 44 Employee vs. Independent Contractor (2 of 3) Tax consequences if taxpayer classified as an independent contractor Employer Pays no FICA or payroll taxes, no withholding. No employee benefits Taxpayer Must pay SE tax (2x FICA). Employment-related expenses deductible as for AGI deduction (fewer restrictions).

5. 55 Employee vs. Independent Contractor (3 of 3) Factors used to determine if employer- employee relationship exists: An employer controls details of how work is performed. An employer can discharge an employee without legal liability (no breach of contract). Employers furnish tools &/or place of work. Employee income based on time spent rather than task performed.

6. 66 Salaries (1 of 2) Employers may deduct wages if ordinary business expense. Exception: cash compensation > $1M to a top-5 officer is not deductible unless it is performance based. Wages are taxable to employees at ordinary rates. Family compensation issues discussed in Chapters 9 & 10.

7. 77 Salaries (2 of 2) Foreign earned income exclusion. U.S. citizens (or permanent residents) who reside and work overseas. Must be physically present in foreign for 330 of 365 day period. Exclude up to $80,000 (2003 limit). Exclusion based on portion of year physically present outside U.S. Addl exclusion for foreign housing allowance. Cannot claim FTC on excluded income.

8. 88 Employee Fringe Benefits (1 of 2) General rule: Fringe benefits taxable. Types of fringe benefits excluded: Providing a social welfare benefit Health, life ins, child care. Hard to enforce anyway De minimis rules, discounts. Non-discriminatory, or Necessary for job Moving expenses, supplies at work.

9. 99 Employee Fringe Benefits (2 of 2) Cafeteria plans Employee chooses from several options. Taxable if employee chooses to receive cash instead of benefits. Specific examples: Health insurance not taxable if nondiscrim. Group term life ins. up to $50,000. Dependent care assistance up to $5,000.

10. 10 Employee Stock Options (1 of 2) Nonqualified stock option (NSO). NO tax owed on date of grant. Employee tax consequences: Salary income on exercise date equal to difference in FMV of stock and exercise price. Basis in stock is FMV at exercise date. Capital gain/loss on subsequent sale. Employer tax consequences Tax deduction equal to employee income on exercise date. Not subject to nondiscrimination rules.

11. 11 Employee Stock Options (2 of 2) Incentive stock option (ISO). NO tax owed on date of grant (AMT adj). Employee tax consequences: No salary income on exercise date. Basis in stock is FMV at exercise date. Capital gain/loss on subsequent sale. Employer tax consequences No deduction ever. Subject to nondiscrimination rules.

12. 12 Employment-Related Expenses (1 of 2) Employee expenses Unreimbursed expenses are itemized deductions. Deductible to extent they exceed 2% of AGI. Combined with other misc. itemized deductions such as investment expenses.

13. 13 Employment-Related Expenses (2 of 2) Moving expenses Deduct unreimbursed expenses as a FOR AGI deduction. New job mileage and time of work requirements. Distance from old home to new job must be more than 50 miles greater than distance from old home to old job. Must work at new job 39 or 52 weeks (or 78 of 104 weeks for self-employeds) Deduct cost of moving furniture and cars, moving family (but not meals).

14. 14 Retirement Plans Basics of retirement planning Qualified plans in general Employer plans Self-employed plans: Keogh Traditional IRA Roth IRA

15. 15 Basics of Retirement Planning Main concepts to learn in this course: Qualified plans provide DEFERRAL (Roth IRA provides exemption) of tax on earnings. The compounding effect of this is BIG. Withdrawal cannot begin before age 59 ½ (w/o penalty) but must begin after 70 ½. Some exceptions for first-time home buyers and payment of higher ed. exp.

16. 16 Qualified Plans in General General rules for qualified plans Plan cannot be discriminatory; $ limits. Current earned income contributed to plan is not currently taxed. (IRA, 401K, Defined contribution plans). Employer deduction for funding plan. Plan is tax exempt, so earnings are not taxed as they accumulate. Retired person taxed on all withdrawals. Premature withdrawals 10% excise tax.

17. 17 Employer Plans Qualified plans Defined benefit Defined contribution 401(k) Nonqualified plans

18. 18 Defined Benefit Plans Benefits to be received predetermined. Employer assumes risk of ROI. Type of plan that deals with SFAS87. Annual pension limited to the lesser of 100% of avg. comp. for last 3 years, or $160,000 (in 2003). Larger deductions than DC plans if started close to retirement.

19. 19 Defined Contribution Plans Employer contributions predetermined. Employee assumes risk of ROI. Yearly contribution limited to lesser of 100% of annual compensation or $40,000 (in 2003). Larger deductions than DB plans if started with many years to retirement.

20. 20 401(k) Plans Contributory plan: employer & employee both contribute. Noncontributory plan: only employee contributes. Employee contribution limit: Lesser of 100% of salary or $12,000 in 2003.

21. 21 Nonqualified Plans Employee delays paying tax until receive money. Corporation delays deducting salary expense until pay money. Often used by top executives. Since nonqualified, these plans CAN discriminate!

22. 22 Self-Employed Plans: Keogh Contribute up to the lesser of 100% of earned income from self- employment $40,000 in 2003. Must not discriminate. If owner has employees then he/she must provide retirement benefits to them.

23. 23 Traditional IRA (1 of 2) Individuals contribute the lesser of $3,000 or 100% of compensation Each spouse may contribute $3,000 if combined earned income = $6,000. Deduction for contribution is limited: If taxpayer participates in a qualified plan Phaseout range for MFJ $60k-$70k in 2003. If spouse participates in a qualified plan Phaseout range for MFJ $150-$160k in 2003.

24. 24 Traditional IRA (2 of 2) IRA withdrawals If all contributions deductible All withdrawals ordinary income. If some contributions were nondeductible: Nontaxable withdrawal % = unrecovered investment / current yr IRA value. Early w/d subject to 10% penalty, except: $10,000 withdrawal for first-time homebuyer. Funds to pay higher education expenses.

25. 25 Roth IRA NO deduction for contributions, but NO tax on distributions. Individuals contribute the lesser of $3,000 or 100% of compensation Each spouse may contribute $3,000 if combined earned income = $6,000. No plan participation restrictions. Phased out for MFJ $150-$160k in 2003. Same w/d restrictions as Trad IRAs.

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