Under prior law, the annual compensation of each participant that may be taken into account for purposes of determining contributions and benefits under a plan, applying the deduction rules, and for non-discrimination testing purposes is limited to $170,000 (for 2001). The compensation limit is indexed for cost-of-living adjustments in $10,000 increments.
In general, contributions to qualified plans are based on compensation. For a self-employed individual, compensation generally means net earnings subject to self-employment taxes ("SECA taxes"). Members of certain religious faiths may elect to be exempt from SECA taxes on religious grounds. Because the net earnings of such individuals are not subject to SECA taxes, these individuals are considered to have no compensation on which to base contributions to a retirement plan.
Effective for plan years beginning after December 31, 2001, the Economic Growth and Tax Relief Reconciliation Act of 2001 increases to $200,000 the limit on compensation that may be taken into account under a plan. This amount is indexed in $5,000 increments. The definition of compensation for purposes of all qualified plans is amended to include an individual's net earnings that would be subject to SECA taxes that the individual is covered by a religious exemption.
