Managing a medical practice today leaves little bandwidth for much beyond what is necessary to maintain quality care, achieve regulatory compliance, and remain cashflow positive. So, it’s no surprise that the old adage `If it ain’t broke, don’t fix it,’ accurately reflects the mindset of many groups when it comes to keeping up with lower-priority aspects of the business.
While understandable, this approach can be costly if the matter in question is the practice retirement plan. Groups may assume a long-established plan runs on autopilot and requires little maintenance or oversight. But the reality is that a changing regulatory landscape has significantly altered what is and is not appropriate for physician group plans.
Not only are some plan designs no longer optimal, but new government scrutiny and beefed-up enforcement have raised the stakes when it comes to compliance. As a result, many groups would do well to consider a third-party review of their retirement plan. In addition to reducing potential regulatory exposure, a thorough plan assessment can help eliminate outdated design features, decrease unnecessary costs, and improve administrative efficiency.
Updating an Obsolete Plan
In an earlier era, physician retirement plans typically were constructed in a bifurcated fashion to achieve optimal tax benefits. A profit-sharing plan, with a maximum contribution of 15% of payroll, was coupled with a money-purchase pension (MPP) plan, with a 10%-of-pay formula, to achieve 25% tax-deferred contributions. The two plan types differ in that contributions to a profit-sharing plan were and are discretionary, while those made to a money-purchase plan are mandatory. That means physician owners with MPPs are required by law to put in annually whatever amount is designated in the plan document.
Tax law changes in 2002 boosted the deduction limit for profit-sharing plans to 25% and consequently made it unnecessary for most organizations to sustain a MPP. Based on our experience, however, a surprising number of practices didn’t get the memo and continue to operate so-called paired plans.
That means they continue to incur excessive administrative costs associated with maintaining two plans simultaneously, which can often be between $2,000 and $4,000 annually. They must also file a federal 5500 tax return for each plan. In addition, the MPP’s fixed contribution requirement limits flexibility for physicians who may be having an off-year and aren’t in a position to contribute the mandated amount. The good news is that merging the MPP plan into the existing profit-sharing plan and amending the necessary documentation is a relatively simple, straight-forward process.
Another benefit design approach that is now largely outdated is linking the plan contribution formula to the Social Security wage base. The wage base represents the maximum earned gross income for which Social Security tax may be imposed, and many plans traditionally integrated contribution levels with the wage base to maximize owner contributions while controlling the cost of contributions to the plans on behalf of employees.
Today, a tiered allocation formula in most cases is a better design. This type of plan design allows shareholders to receive varying levels of contributions and therefore it offers much more flexibility than relying on a formula integrated with Social Security. In addition, the tiered allocation often results in lower required contributions for staff.
Optimizing Plan Design
Beyond eliminating outdated plan designs, ensuring optimal performance requires that groups consider new plan features that may not have been available when the plan was initially set up. For example, all physician practice retirement plans utilizing a 401(k) should include a catch-up provision. This feature allows anyone over 50 years of age to contribute an additional $6,000 annually to their retirement fund on a pre-tax basis.
Similarly, many groups may benefit from making a Roth 401(k) available as a plan option. Like a Roth individual retirement account (which most physicians aren’t eligible for due to income limitations), money is contributed to a Roth 401(k) after tax but grows tax-free and can be withdrawn without being taxed. Enabling a Roth 401(k) allows beneficiaries to diversify their income stream upon retirement and therefore provides greater flexibility for physician-owners as well as their staff.
Finally, if a practice is interested in contributing more than $60,000 annually on behalf of any individual, a cash balance plan can make a lot of sense. Cash balance plans are a hybrid type of defined benefit plan that can deliver greater flexibility than traditional approaches.
Carefully reviewing plan design is an important step toward maximizing the benefits a plan can offer. But a review is also essential to mitigate compliance risk. Retirement plans are regulated under the Employee Retirement Income Security Act of 1974 (ERISA) by the Employee Benefits Security Administration (EBSA). The U.S. Department of Labor agency has oversight responsibility for benefit plans totaling $8.7 trillion and covering about 143 million workers and their dependents.1
As the quantity and complexity of regulations surrounding plan design and sponsorship have increased in recent years, so too have EBSA enforcement actions. The Department of Labor possesses federal subpoena power, is able to levy fines, and can bring criminal charges. Last year, EBSA undertook more than 2,000 civil investigations, which typically are launched as the result of tips from retirement plan participants, referrals from the Internal Revenue Service or random plan checks.2
More than 67 percent of those cases resulted in fines or other corrective actions. In 2016, the agency recovered $777 million from companies that were non-compliant with ERISA regulations,3 with an average recovery of payment to plans and participants of $388,360.
A plan review can help groups avoid potentially costly mistakes, which typically can include failing to bring employees into a plan once they’re eligible, making inaccurate contributions and incorrectly defining compensation.
Although physician practices unquestionably have a lot on their plate these days, ignoring the potential risks associated with retirement plan design and sponsorship can have potentially severe consequences, up to and including enormous tax liabilities, civil fines and even criminal referrals. That’s why it pays to work with a qualified independent expert to make sure your plan is compliant and up-to-date.
Contact us today for assistance with a retirement plan assessment.
John Hannifan, CPA, is Director of Financial Services at Change Healthcare.
Eileen A. Shaw is an ERISA Consultant with First Western Trust in Denver, Colorado.
1 “Fact Sheet: EBSA Restores Over $1.1 Billion to Employee Benefit Plans, Participants and Beneficiaries,” U.S. Department of Labor, https://www.dol.gov/sites/default/files/ebsa/about-ebsa/our-activities/resource-center/fact-sheets/ebsa-monetary-results.pdf