Most people want to aggressively fund their defined benefit plan or cash balance plan to take advantage of the tax deduction. We know this is the #1 reason people set up these plans.
But what happens if you can’t fund the minimum amount? Are there IRS penalties? What forms have to be filed?
In this article, we’re going to discuss the penalties relating to underfunding of defined benefit plans. We’ll walk through the IRS Form and do a brief sample calculation. Let’s get started.
What is the purpose of Form 5330?
The purpose of the form is to report and pay excise taxes associated with certain transactions related to employee benefit plans such as failure to meet minimum funding requirements, excess contributions, failure to distribute required minimum distributions, and other specified events outlined in the internal revenue code.
Who must file IRS Form 5330?
Form 5330 must be filed by employers who engage in transactions that trigger excise taxes under the internal revenue code related to employee benefit plans. Underfunding a defined benefit plan can have serious implications for both employees and the employer.
If a plan does not have enough assets to meet its promised benefit, it may jeopardize the financial security of retirees and active employees who are counting on these funds. Filing Form 5330 is an important step in rectifying underfunding and helping to protect the long-term interests of plan participants.
If you are unable to meet the minimum contribution amount required in your defined benefit plan, please contact Emparion so that we can review your options and assist you with filing Form 5330.
How do I file Form 5330?
Emparion will complete all the required information on the form, then send the form to the employer for signatures. Once signed, the employer will mail the form to the address indicated in the form instructions. We recommend mailing the form through a guaranteed method that allows for tracking and confirmation of delivery.
Mail your return to the following address:
Department of the Treasury
Internal Revenue Service Center
Ogden, UT 84201
How do I pay the excise tax?
Emparion will assist you with calculating the amount due at the time of filing. When you mail Form 5330, make your check or money order payable to the ‘United States Treasury’ for the full amount due. Attach the payment to your return. Write your name, plan EIN, plan number, and ‘Form 5330, Section 4971’ on your payment.
What is the deadline to file Form 5330?
Please refer to the instructions for Form 5330 for the most up-to-date information regarding due dates, as the due date can vary depending on the specific transaction or violation triggering the excise tax.
For example, the due date for failure to meet minimum funding requirements is the 15th day of the 10th month after the last day of the plan year.
The due date for making non-deductible contributions to a qualified retirement plan is the last day of the 7th month after the end of the tax year for the employer.
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Extension: You may file Form 5558 to request an extension of time to file Form 5330. If approved, you may be granted an extension of up to 6 months from the normal due date.
What is the penalty for failure to meet the required minimum contribution?
For single employer defined benefit plans, the penalty for failing to make the required minimum contribution is typically 10% of the unpaid minimum required contribution amount remaining as of the plan year end.
For example, if ABC Inc.’s required minimum contribution for its defined benefit plan in 2023 is $100,000, and they only contribute $60,000, they would be subject to a 10% penalty on the underfunded amount of $40,000 ($4,000).
Please note, additional penalties may apply such as late filing of a return and late payment of tax. In addition, the IRS is required by law to charge interest when you do not pay your liability on time.
What is the penalty for making a non-deductible contribution to a retirement plan?
The penalty for making a non-deductible contribution to a retirement plan is 10% of the excess amount.
For example, if ABC Inc’s funding range is between $75,000 to $150,000, and they deposit a total of $200,000 into a defined benefit plan, they would be subject to a 10% penalty on the excess amount of $50,000 ($5,000).
How can I avoid the penalty in the future?
Our actuaries will calculate minimum, maximum and target funding each year. This calculation is driven by annual compensation, prior plan funding and asset returns. We recommend funding the target amount to prevent the plan from being overfunded or underfunded. Be sure to also review your actuarial valuations.
Is a Cash Balance or Defined Benefit Plan Right For You?
These reports help determine the plan’s funding status and whether contributions meet the minimum requirements. Consider consulting with a financial advisor or CPA who specializes in defined benefit plans and be sure to include your defined benefit plan contribution in your financial planning. In some cases, you may request a plan amendment, subject to IRS approval and applicable fees.
Recent Developments:
Effective in 2024, Form 5558 is no longer used to apply for an extension of time to file Form 5330. Instead, use Form 8868 to apply for an extension of time to file Form 5330.
References:
Form 5330: https://www.irs.gov/pub/irs-pdf/f5330.pdf
Form 5330 Instructions: https://www.irs.gov/instructions/i5330#en_US_202212_publink100046887
IRS Tax Code: https://www.law.cornell.edu/uscode/text/26/4971
