Spouse participation in 401(k) plan

June 1, 2006
My wife works part time outside the home, and also helps me in the office.

My wife works part time outside the home, and also helps me in the office. Can she participate in my practice’s 401(k) profit-sharing plan if she participates in a retirement plan sponsored by her employer?

Yes, provided she meets the eligibility requirements under your plan, she is eligible to participate in the practice’s plan, as well as in the other retirement plan. However, even if she participates in both plans, her maximum allowed salary deferral (total for the year) is capped at $15,000 in 2006, or $20,000 if she’s age 50 or older, according to Jason Arnold, East Coast District Manager of PenSys, Inc., a retirement plan consulting firm for dentists. He can be contacted at (888) 440-6401.

I graduated several years ago and have student loans of more than $100,000. I have been deducting my student loan interest in the past, but my CPA tells me that it is no longer a deductible item. What gives?

As a general rule, you can deduct interest on student loans in the tax year in which you make payments, with a maximum student loan interest deduction of $2,500 annually. Unfortunately, the student loan interest deduction may be reduced, or eliminated altogether, if your income exceeds certain limits. For single doctors, student loan interest deductibility is phased out beginning at $50,000, and completely eliminated when the doctor’s modified adjusted gross income (MAGI) exceeds $65,000. For married doctors, student loan interest deduction is phased out when their MAGI reaches $105,000, and is eliminated entirely when their MAGI reaches $135,000.

Recently, I purchased a practice from an incorporated doctor who sold me the assets of his corporation. He agreed to stay on and continue to provide services post-closing on a part-time basis through his corporation. If I make payments to his corporation for services rendered, must I pay payroll taxes on these amounts?

No. A corporation cannot be treated as an employee. Rather, if your practice entered into a bona fide service agreement with the selling doctor’s corporation, then the corporation is treated as an independent contractor. As such, no payroll taxes are due from your practice. However, any salary payment made from the selling doctor’s corporation to him would, of course, be subject to payroll taxes.

Maintaining the selling doctor’s corporation, and continuing to provide services through it post-closing, has several tax benefits for the selling doctor. First, the doctor can continue to pay employment-related and professional expenses through his corporation on a tax-deductible basis (e.g., auto, continuing education, travel, medical insurance, medical reimbursement, dues and subscriptions, other fringe benefits, etc.). In addition, the corporation can establish and/or maintain a separate retirement plan and make substantial tax-deductible contributions to it for the sole benefit of the selling doctor.

I sold my practice last year for cash and have begun taking withdrawals from my IRA and retirement plan accounts. I have stopped working and am now age 62 and eligible for Social Security benefits. Will my IRA and/or retirement plan withdrawals count as earned income, thereby reducing my potential Social Security benefits?

Distributions from retirement plan and IRA accounts are not considered as “earned income” and, as such, they do not result in a reduction in Social Security benefits.

In 2006, only current employment income or self-employment income exceeding $12,480 would result in a reduction in Social Security benefits, at the rate of $1 for every $2 earned in excess of that amount.

Recently, I sold Series EE savings bonds and used them to pay college tuition for my children. I read that the interest earned on these bonds are tax-free if used for educational purposes. Is this correct?

Assuming the savings bonds were issued after 1989, you can exclude all of the interest income if you meet the following criteria: you pay qualified education expenses for yourself, your spouse, or a dependent, and your modified adjusted gross income is less than $61,200 if single, or $91,850 if married and filing a joint return. Otherwise, singles with MAGI of up to $76,200 and married couples with MAGI of up to $121,850 can exclude part of the interest income from taxes. In all other cases, the Series EE interest income is fully taxable.

John K. McGill is a tax attorney, CPA, and MBA, and is the editor of The McGill Advisory, a monthly newsletter helping dentists to maximize profitability, slash taxes, and protect assets. The newsletter ($209 a year) and consulting information are available from John K. McGill and Company, 2810 Coliseum Centre Drive, Suite 360, Charlotte, NC 28217. Call (704) 424-9780 or visit the Web site at www.bmhgroup.com.

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