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Profit Sharing Plan

Key Features

  • Employer shares profit with employee
  • Contributions are elective

A profit sharing plan is a plan under which an employer offers to share profits with employees by contributing a portion of them to a qualified retirement plan. The amount contributed to the plan may be determined by formula or by a Board of Directors (or similar entity) each year.

Funds contributed on behalf of an employee are allocated to his or her account and invested. As with the money purchase pension plan, the amounts accumulate tax-free until retirement, thereby affording the greatest benefit to younger employees.

Contributions to a profit sharing plan may not exceed 25% of the payroll, and the amount allocated to a participant's account is limited to $40,000 per year.

At retirement, the employee will receive the then value of his account.

Profit sharing plans and money purchase pension plans are collectively called "defined contribution" plans, because the contribution is stipulated under the terms of the plan, and the retirement benefit is not determinable until the retirement of the participant.

Age-Based and Cross-Tested Profit Sharing Plans

Key Features

  • Employer shares profit with employee
  • Favors older and highly compensated employees

A profit sharing plan may be weighted by age and compensation, so that the older employees obtain a larger share of the contributions allocated. Such plans are subject to the usual profit sharing limitations (contributions may not exceed 25% of payroll, and the amount allocated to a participant's account is limited to $40,000 per year).

Such an allocation may result in a allocation formula which better suits the needs of a company which desires to have the best of both worlds, totally flexible contributions coupled with favoring of older employees.

The amount contributed to the plan may be determined by formula or by a Board of Directors (or similar entity) each year. Funds contributed on behalf of an employee are allocated to his or her account and invested. As with the money purchase pension plan, the amounts accumulate tax-free until retirement, thereby affording the greatest benefit to younger employees.

At retirement, the employee will receive the then value of his account.

 
 
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