Transcript Review of General Non-Discrimination Testing 2009 ACOPA

Review of
General Non-Discrimination
Testing
2009 ACOPA
Advanced Actuarial Conference
June 8th – 9th, 2009
Michael B. Preston, MSPA, COPA, MAAA
Preston Actuarial Services, Inc.
Summary
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There are a variety of advanced plan designs
that are being used to efficiently provide
significant benefits to the business owner and
other select employees of the plan sponsor.
This session will review the rationale for using
different approaches such as a floor offset,
cash balance, profit sharing combo or a
traditional defined benefit plan combined with
a profit sharing plan.
Another view of same subject:
What drives plan design?
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Client Design Criteria
Administrative Factors
Non-Discrimination Rules
PLAN DESIGNS
Plan designs
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401(k)
Safe-harbor 401(k)
Profit Sharing (basic, new comp only)
DB-DC Combo - offset or ‘a26 special’
Classic DB / Cash Balance Plan
DB-DC Combo
Other
Plan designs
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Listed from least expensive, in terms
of employer contributions, to most
expensive, generally, given the same
budget for favored participants.
CLIENT DESIGN CRITERIA
Client Design Criteria
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Identify favored HCE’s
Determine benefit budget and expense budget
Attach benefit budget to HCE’s per client desires
Establish sustainability of contribution levels
Identify contribution risk tolerance
Benefit level tolerance/desire for other than
favored HCE’s
Identify employee relations issues
Other advisor issues
Budget is KING
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If the budget for the plan can be
satisfied with a 401(k) or 401(k) Safe
Harbor, you are done.
If the contribution risk tolerance is
low, avoid all defined benefit
arrangements
COROLLARY: If the budget for a plan
can NOT be satisfied with a DC plan,
only then consider a DB plan.
ADMINISTRATIVE
FACTORS
Administrative Factors
Do not design anything that your firm
can not properly design, document
and administer
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Who will be doing the document?
Who will be doing the day to day
administration?
Who will work on IRS submissions?
Administrative Factors - cont.
Examine your communication
capabilities before deciding what
designs to implement
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SPDs
Benefit Statements
Client questions
Participant questions
Administrative Factors - cont.
Examine your on-going continuing
education commitments before
deciding what designs to administer
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How active is the law with respect to the
plan design in question?
Stated another way: How settled is the
law with respect to the plan design in
question?
Administrative Factors - cont.
Examine your computational
capabilities before deciding what
designs to administer
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Administration software
Actuarial software
Spreadsheets
Calculator (!)
Abacus (!!)
Administrative Factors - cont.
Examine client’s reporting capabilities
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Consider avoiding an automatic
contribution arrangement when payroll is
manual (maybe even any 401(k))
Does client email capability bear on your
decision?
NON-DISCRIMINATION
RULES
Non-Discrimination Rules
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IRC §§ 401(a)(26), 410(b) and
401(a)(4) are generally thought of as
the combined non-discrimination
provisions, even though the first two
relate to coverage
Non-Discrimination Rules 
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cont.
Safe-Harbor and Design Based SafeHarbor plans are sometimes the most
cost effective
$1 provided to an NHCE in a defined
contribution plan will support more
HCE benefits than $1 provided to an
NHCE in a defined benefit plan, due to
interest rate arbitrage
Non-Discrimination Rules 
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cont.
General tested plans cost more to
administer than safe-harbor or designbased safe-harbor plans
Demographic volatility makes a
general tested plan more difficult to
handle
Non-Discrimination Rules 
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cont.
EBAR ratio (w/o compensation)
= 1.085 ^ (AGEHCE-AGENHCE)
Example: HCE age 55, NHCE age 40
=1.085 ^ (55 - 40) = 3.3997
Each $1 provided to NHCE allows for
$3.40 to be provided to HCE, per
above
Comp. differences enhance result
Non-Discrimination Rules 
cont.
Prototypes have restrictions on crosstesting groupings in DC plans
Non-Discrimination Rules -
cont.
Gateway requirements shift some cost to
NHCE’s
HCE EBAR
Percentage
<=25
NHCE Gateway
Percentage
5%
>25 <=30
6%
>30 <=35
7%
>35
7.5%
Non-Discrimination Rules 
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cont.
How to make demographics work for
you: include additional HCE's in
testing population, but
reduce/eliminate benefit to one or
more HCE’s
Look for in-laws
What are your favorite techniques?
And the winner is:
THERE
IS
NO
WINNER
Main Non-Discrimination Issues
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Budget
Demographics
Demographic Volatility
Employee Relations Issues
Contribution Commitment
Main Non-Discrimination Issues
Budget
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Limited
Medium
Significant
Maximum
Main Non-Discrimination Issues
Demographics
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Favorable (young NHCEs; older HCEs)
Neutral
Unfavorable
Main Non-Discrimination Issues
Demographic Volatility
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Significant
Little or none
Main Non-Discrimination Issues
Employee Relations Issues
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Workforce is tolerant
Workforce is intolerant
Main Non-Discrimination Issues
Contribution Commitment
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Plan sponsor can commit to long term,
significant contributions
Plan sponsor demands flexibility in funding,
year by year
Plan designs - 401(k)
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Use when no employer contribution
Use in conjunction with PS feature
Use when matching employer
contribution not necessary to sustain
deferrals of favored group
Main Non-Discrimination Issues
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Budget (all)
Demographics (all)
Demographic Volatility (all)
Employee Relations Issues (all)
Contribution Commitment (all)
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401(k)
Plan designs - SH 401(k)
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Use when employer contribution
necessary to sustain deferrals of
favored group
Use in conjunction with PS feature
Main Non-Discrimination Issues
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Budget (all but lowest)
Demographics (all)
Demographic Volatility (all)
Employee Relations Issues (all)
Contribution Commitment (can
commit only)
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SH 401(k)
Plan designs - PS Basic
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Use when client budget exceeds
401(k) capability
Use when cross-testing not
advantageous
Use as add on such as combo plan
Main Non-Discrimination Issues
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Budget (medium)
Demographics (all)
Demographic Volatility (all)
Employee Relations Issues (all)
Contribution Commitment (all)
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PS Basic
Plan designs - PS New Comp
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Use when client budget exceeds
401(k) capability
Use when cross-testing advantageous
Use as add on such as combo plan
Main Non-Discrimination Issues
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Budget (medium)
Demographics (all)
Demographic Volatility (all)
Employee Relations Issues (all)
Contribution Commitment (all)
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PS New Comp
Plan designs - DB-DC Combo offset or ‘401a26 special’
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DB should not be cash balance
Offset may be less expensive if combo
plan satisfies safe harbor
Main Non-Discrimination Issues
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Budget (significant or higher)
Demographics (favorable)
Demographic Volatility (depends on
Employee Relations issues)
Employee Relations Issues (Depends
on Demographic Volatility)
Contribution Commitment (can
DB-DC Combo - offset or ‘401a26 special’
commit)
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Plan designs - Classic DB alone
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Use when budget exceeds
401(k)/Profit Sharing but not sufficient
for DB DC Combo and offset not
appropriate
Main Non-Discrimination Issues
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Budget (significant or higher)
Demographics (favorable)
Demographic Volatility (depends on
Employee Relations issues)
Employee Relations Issues (Depends
on Demographic Volatility)
Contribution Commitment (can
commit)
Classic DB alone
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Plan designs - Cash balance
alone
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Use when budget exceeds
401(k)/Profit Sharing but not sufficient
for DB DC Combo and offset not
appropriate
Use when client is not opposed to
individually designed plan
Use when lump sum variability is a
problem
Main Non-Discrimination Issues
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Budget (significant or higher)
Demographics (favorable)
Demographic Volatility (depends on
Employee Relations issues)
Employee Relations Issues (Depends
on Demographic Volatility)
Contribution Commitment (can
commit)
Cash balance alone
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Plan designs - DB - DC Combo
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If DB not tiered nor offset nor ‘401a26
special’, this is the most expensive
design.
Main Non-Discrimination Issues
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Budget (maximum)
Demographics (favorable)
Demographic Volatility (depends on
Employee Relations issues)
Employee Relations Issues (Depends
on Demographic Volatility)
Contribution Commitment (can
commit)
DB DC Combo
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Plan designs - Other
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401(k) layering applicable in many
cases
Questions?