Certified Plan Sponsor Professional (CPSP) Practice Exam

How are employer contributions treated for tax purposes in qualified retirement plans?

1. They are taxed as regular income

2. They are subject to payroll taxes

3. They allow for a current tax deduction

4. They accrue interest before being taxed

The correct answer is: They allow for a current tax deduction

Employer contributions to qualified retirement plans provide significant tax benefits. Specifically, these contributions allow employers to take a current tax deduction for the amount contributed to the retirement plan. This means that the contributions can reduce the employer's taxable income in the year the contributions are made, providing immediate tax relief. Qualified retirement plans include options such as 401(k) and profit-sharing plans, where contributions made by the employer are not taxed as income to the employee at the time of contribution. Instead, these funds grow tax-deferred within the retirement account until the employee withdraws them, typically during retirement, when they may be taxed as ordinary income. This mechanism is beneficial for both employers and employees, enabling companies to incentivize retirement savings without immediate tax implications for employees. The deductibility of contributions fosters a favorable environment for retirement savings, aligning with the goals of retirement planning and financial security.