8.4 Qualified Plans, IRAs, and Retirement

Qualified Plans, IRAs, and Retirement

Retirement plans are tested on a single organizing distinction: qualified vs. nonqualified. A qualified plan meets IRS and ERISA requirements, so contributions are tax-deductible (pre-tax), growth is tax-deferred, and all distributions are taxable as ordinary income because they were never taxed going in. A nonqualified plan uses after-tax contributions; only the growth is taxed on distribution. Qualified plans must be nondiscriminatory and approved by the IRS.

Traditional and Roth IRAs

For 2026, the IRA contribution limit is $7,000 ($8,000 with the age-50 catch-up). A Traditional IRA offers potentially deductible contributions, tax-deferred growth, and fully taxable distributions. A Roth IRA is funded with after-tax dollars: no deduction, but qualified distributions are tax-free (account open 5 years and owner age 59½, death, disability, or first-home purchase).

Key rules and traps:

• Roth contributions phase out at higher incomes; Traditional deductibility phases out only if covered by an employer plan.
• Early distributions before 59½ generally incur a 10% penalty plus tax on the taxable portion.
• SECURE Act: Roth IRAs have no lifetime RMDs; Traditional IRA RMDs begin at age 73.

Employer plans: 401(k), SEP, and the TEFRA framework

A 401(k) is a defined-contribution cash-or-deferred plan: employees defer salary pre-tax (Roth 401(k) option available), employers may match, and the 2026 elective deferral limit is $23,500 (plus age-50 catch-up). A SEP (Simplified Employee Pension) is an employer-funded IRA for small businesses and the self-employed; the employer contributes a uniform percentage of compensation, with much higher limits than a personal IRA. A SIMPLE IRA suits employers with 100 or fewer employees.

TEFRA (Tax Equity and Fiscal Responsibility Act of 1982) is the framework that tightened qualified-plan and top-heavy rules, equalized corporate and self-employed (formerly HR-10 / Keogh) plan treatment, and shaped contribution and discrimination limits. Exam questions associate TEFRA with parity between corporate and self-employed retirement plans.

Distributions, penalties, and rollovers

The penalty structure is heavily tested:

Worked example: a 50-year-old takes a $30,000 distribution from a Traditional IRA (all pre-tax). The full $30,000 is ordinary income and the 10% early-distribution penalty adds $3,000, on top of income tax. Penalty exceptions include death, disability, and certain medical or first-home amounts. A direct rollover to another qualified plan or IRA avoids both the penalty and the 20% withholding that applies to indirect rollovers.

Defined benefit vs. defined contribution

Qualified employer plans split into two families. A defined benefit plan promises a specific retirement benefit (e.g., a formula based on salary and years of service); the employer bears the investment risk and funds whatever is actuarially required. A defined contribution plan (401(k), profit-sharing, money-purchase, SEP, SIMPLE) defines only the contribution; the employee bears the investment risk, and the ultimate benefit depends on account performance.

The exam keys on who bears risk and who guarantees the result. Defined benefit pensions are often insured by the PBGC, while defined-contribution balances are not guaranteed — a core conceptual contrast.

403(b), 457, and SIMPLE distinctions

• 403(b) / TSA (tax-sheltered annuity): for public-school and 501(c)(3) nonprofit employees; salary-reduction pre-tax contributions, similar deferral limits to a 401(k).
• 457(b): for government and certain nonprofit employees; notably, distributions are not subject to the 10% early-withdrawal penalty on separation from service — a tested exception.
• SIMPLE IRA: for employers with 100 or fewer employees; mandatory employer match or nonelective contribution; lower deferral limit than a 401(k).

All share the qualified-plan logic: pre-tax in, tax-deferred growth, fully taxable out, with Roth variants reversing the timing of taxation.

Funding, suitability, and annuities in IRAs

Producers must apply suitability when recommending annuities or life insurance to fund retirement accounts. Placing a tax-deferred annuity inside an IRA (already tax-deferred) provides no additional tax benefit, so the recommendation must rest on other features — guaranteed income, death benefits, or living-benefit riders — and must be documented.

Contribution timing also matters: IRA contributions can be made up to the tax-filing deadline for the prior year. Excess contributions draw a 6% annual excise tax until removed. Spousal IRAs let a nonworking spouse contribute based on the working spouse's income. These funding mechanics, paired with the penalty and rollover rules, form the bulk of retirement questions on the national exam.

A final tested distinction is tax-deferred vs. tax-free. Traditional/qualified money is tax-deferred — taxed later as ordinary income. Roth money is tax-free on qualified withdrawal. Municipal bonds are tax-free but are not retirement plans. Watch answer choices that swap these labels: an item describing 'tax-free growth and tax-free qualified distributions' points to a Roth, while 'deductible now, taxed at withdrawal' points to a Traditional plan. Naming the plan type from its tax timing is the fastest path through retirement questions.