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Greetings, 620, and welcome.

<<Please tell me the difference in a qualified and a nonqualified fund. Will I pay income or capital gains on these two funds? I will have a state pension and want to add to it with one or the other and am very confused as to the differences?>>

In both, when you withdraw money you will pay ordinary income tax. One, the qualified retirement plan, can be rolled to an IRA to continue tax deferral for many more years. The other, the nonqualified retirement plan, cannot. In the latter, when you retire or leave employment you must take the money and pay taxes on that sum. The only break you might get is the ability to take the money in annual installments over a 15-year period.

Here's some further info on both:

Qualified Retirement Plan. A qualified retirement plan is one that meets the numerous requirements of the Internal Revenue Code (IRC) and the Employee Retirement Income Security Act of 1974 (ERISA). Plans meeting these requirements qualify for four important tax benefits. First, employers may deduct allowable contributions in the year they were made on behalf of plan participants. Second, plan participants may exclude contributions and all earnings thereon from their taxable income until the year they are subsequently withdrawn. Third, all earnings on the funds held by the plan trust are not taxed to that trust. And fourth, many times participants and/or beneficiaries may further delay taxation on plan benefits by transferring those amounts into another tax-deferred vehicle such as an Individual Retirement Arrangement (IRA). A qualified retirement plan falls into one of three general categories: A defined benefit plan, a defined contribution plan, or a hybrid plan. A hybrid plan is one that combines various attributes of the first two categories.

Nonqualified Retirement Plan. A nonqualified retirement plan is one that does not meet the requirements of the IRC or ERISA. These plans may be discriminatory in their application, and are typically used to provide deferred compensation to key personnel. Because these plans allow a broader flexibility to the employer, they do not receive the same favorable tax treatment as that permitted qualified plans. Employers receive no tax deduction until the employee receives proceeds from the plan. On receipt, the proceeds are taxed to employees and are ineligible for transfer to an IRA. In some situations the employee may face immediate taxation on the benefit even when the funds will not be received until much later in the future.


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