Use severance pay to fund my 401(k) plan?
Dear Tax Talk,
In 2013, I was a company employee and made 401(k) contributions. I am over 55. I accepted an excellent severance package when my division was downsized. I received the generous severance payment, minus taxes, early in 2014 but was not allowed to make 2014 contributions to the company 401(k). I was told that it was because I was not an employee anymore.
Can I call the severance amount a consulting fee — I have done some consulting for them — and deposit a check from the package into my own company’s 401(k) plan to help shelter it? Otherwise the money is in a twilight zone of no shelter. What do you recommend that I read or do about this? I’d like to fund my 401(k) plan.
— Barbara
Dear Barbara,
The money that you received in 2014 that was “minus taxes” will be reported to you on a federal W-2 form as wages. This income will need to be reported on your Form 1040 on line 7 as wages, and the IRS will be looking for it there. You should not call it consulting income for your company as it is being reported by your prior employer as wages to the IRS.
When you sell property, you calculate your gain or loss by taking the sales proceeds and deducting the selling expenses. Once you have done that step, you then deduct your basis in the property to determine whether you have a gain or loss. Now here is where it gets more fun, as your basis depends on how you acquired it.
As a business owner, you can loan your company the money it needs to fund your 401(k) plan. Since you did not tell me what type of tax entity your consulting company is or the expected profits it will show for 2014, I can only refer you to IRS Publication 560 Retirement Plans for Small Business. It is a great resource for you going forward, and the good news is that the tax year has just begun and you have plenty of time to research and make the best decisions going forward. All the best to you in this venture.
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