What is the limit on the deductibility of employer contributions to a profit-sharing plan?

The limit on the deductibility of employer contributions to a profit-sharing plan is set at 25% of covered payroll. This means that businesses can deduct contributions made to the pension plan up to this percentage when calculating their taxable income.

The rationale behind this limit is to allow businesses to provide meaningful retirement benefits to employees while also maintaining a balance so that the deductions do not excessively reduce tax revenue. The 25% threshold is designed to ensure that profit-sharing contributions are substantial enough to benefit employees without leading to potentially abusive tax avoidance strategies.

Understanding this limit is crucial for employers as they plan their contributions and seek to maximize the tax benefits associated with employee retirement plans. Additionally, knowing this detail helps ensure compliance with IRS rules, thus preventing penalties for exceeding contribution limits.