Non-qualified plans: These underused financial tools can help physicians' fiscal fitness

January 1, 2005

Unfortunately, most physicians only use traditional qualified plans, pensions and 401(k)s that are restrictive and burdensome, whilecompletely ignoring the more flexible non-qualified variety.

As authors of two books on financial planning, including one specifically for physicians, we had the opportunity to speak with thousands of doctors of various ages over the past decade.

What we saw is that two doctors in the same specialty with similar incomes can have very different income levels in retirement.Why? Three reasons physicians may have very different qualities of life inretirement are:

Help available Fortunately, both "qualified" and "non-qualified" plans can help you address the three challenges above in significant ways.

Qualified plan basics The term "qualified" plan (QP) means that the retirement meets the definition of a retirement plan under Department of Labor and Internal Revenue service rules created under the Employee Retirement and Income Security Act (ERISA). These plans may be in the form of a defined benefit plan, profit sharing plan, money purchase plan, 401(k), or 403(b). Properly structured plans offer a variety of benefits: you can fully deduct contributions to a QP, funds within the QP grow tax-deferred, and (if non-owner employees participate) the funds within a QP enjoy superior asset protection. Despite the benefits QPs can offer, there are a host of disadvantages that physicians must understand:

Despite these numerous disadvantages, nearly all physicians in the U.S. participate in QPs. The tax deduction is such a strong lure. For some doctors, this makes sense. But for many, the cost of contributions for employees, potential liability for mismanagement of employee funds, and the ultimate tax costs on distributions to you and your family may outweigh the current tax savings offered by QPs.

Tax and business-savvy physicians may find asset protected after-tax investments more valuable and flexible to their overall wealth protection plans. This is just another area where "common sense" planning is really what we call "LCD" planning - "lowest common denominator" planning that everyone seems to do, without a sophisticated analysis of all options.

SEP-IRAs SEP-IRAs are not officially QPs - they are custodial accounts. In many ways, they are similar. You have the same tax restrictions on annual contribution amounts, penalties for early withdrawals, mandatory withdrawal rules, and taxation on distributions and plan balances at death as you have with a QP. One big difference is that a SEP-IRA may not enjoy the same level of asset protection as QP does. The protection is not "federally mandated" but rather handled on a state-by-state basis. For these reasons, a SEP-IRA is typically no better financially than a QP.