Transcript IRS Compliance Programs (History)

Welcome!
Understanding &
Using Plan Design
Charles Lockwood
ERISA Workshop 2008
September 12, 2008
Charles Lockwood
ASC Institute, LLC
Highlands Ranch, CO
Importance of Plan Design

All qualified plans must be restated to
comply with current laws
 All
pre-approved plans must be restated by
April 30, 2010

Baby boomers are getting closer to
retirement and looking for plan design
options to help save more for retirement

Some ERs are trying to minimize fiduciary
risk by eliminating investment risk on EEs

DB plans and hybrid plans (e.g., cash
balance plans and new DB/k plans) will
become more popular options
ASCi
Plan Design – Traditional vs. Unique

Each client has specific objectives in
implementing and maintaining a retirement
program
Who is the plan for?
 Do HCEs want to maximize benefits?
 What are employee demographics?
 Does ER want to provide a guaranteed benefit?
 How much does employer want to spend?


Identify objectives and match them to plan
design

Unique plan designs may fit unique needs
ASCi
Plan Design Case Study

Rott ‘n Gumm Dentistry has
a 401(k) plan with a 50%
match on deferrals up to 6%
of comp. The plan has failed
the ADP test and Rott ‘n
Gumm has had to make corrective
distributions in each of the last 3 years
 Dr. Rott, Dr. Gumm, and Dr. DeKay would
like to maximize their contributions
 Drs. Rott, Gumm and DeKay do not want to
receive any more corrective distributions
 Drs. Rott, Gumm and DeKay are happy with
their current service providers
ASCi
Improving ADP Results

Improve participation

Matching contributions = discretionary or
fixed

Plan design
Loans
 Hardships
 Participant-direction


Better communication

Employee meetings

Avoid ADP testing altogether = safe harbor
401(k) plan

Automatic enrollment
ASCi
Safe Harbor Match


Basic matching contribution formula

100% of deferrals up to 3% of compensation

50% of deferrals between 3% and 5% of
compensation
Enhanced matching contribution
formula

aggregate match which equals basic match at
each level of compensation

e.g., 100% of deferrals up to 4% of comp
ASCi
Safe Harbor Employer

3% of compensation

Satisfies top heavy minimum
requirements

May have other contributions (e.g.,
cross-tested formula)
ASCi
Participant Notice

Required every year

30 - 90 days prior to beginning of plan
year

New employees -- date of eligibility

New plan -- first day of plan year

May provide “maybe” notice with
respect to 3% nonelective safe harbor
contribution
ASCi
Safe Harbor 401(k) Plans
EE
Comp.
Deferrals
Safe Harbor
Match
Dr. Rott
$230,000
$15,500
$9,200
Dr. Gumm
$230,000
$15,500
$9,200
Dr. DeKay
$230,000
$15,500
$9,200
NHCE 1
$80,000
$4,000
$3,200
NHCE 2
$65,000
$0
$0
NHCE 3
$47,000
$2,000
$1,880
NHCE 4
$42,000
$0
$0
NHCE 5
$42,000
$0
$0
NHCE 6
$39,000
$0
$0
NHCE 7
$30,000
$0
$0
NHCE 8
$25,000
$0
$0
Totals
$1,060,000
$52,500
$32,680
* Safe harbor match = 100% of deferrals up to 4% of comp =
must be 100% vested and cannot be subject to last day/
ASCi
1,000 HOS allocation condition
Safe Harbor 401(k) Plans
EE
Comp.
Deferrals
Safe Harbor
Match
Dr. Rott
$230,000
$15,500
$9,200
$24,700
Dr. Gumm
$230,000
$15,500
$9,200
$24,700
Dr. DeKay
$230,000
$15,500
$9,200
$24,700
NHCE 1
$80,000
$4,000
$3,200
$7,200
NHCE 2
$65,000
$0
$0
$0
NHCE 3
$47,000
$2,000
$1,880
$3,880
NHCE 4
$42,000
$0
$0
$0
NHCE 5
$42,000
$0
$0
$0
NHCE 6
$39,000
$0
$0
$0
NHCE 7
$30,000
$0
$0
$0
NHCE 8
$25,000
$0
$0
$0
Totals
$1,060,000
$52,500
$32,680
$85,180
Total
Could Rott n’ Gumm make an additional matching contribution
without subjecting the plan to ADP/ACP testing?
ASCi
Safe Harbor 401(k) Plans
EE
Comp.
Deferrals
Safe Harbor
Match
Discret.
Match
Dr. Rott
$230,000
$15,500
$9,200
$9,200
Dr. Gumm
$230,000
$15,500
$9,200
$9,200
Dr. DeKay
$230,000
$15,500
$9,200
$9,200
NHCE 1
$80,000
$4,000
$3,200
NHCE 2
$65,000
$0
$0
NHCE 3
$47,000
$2,000
$1,880
NHCE 4
$42,000
$0
$0
NHCE 5
$42,000
$0
$0
NHCE 6
$39,000
$0
$0
NHCE 7
$30,000
$0
$0
NHCE 8
$25,000
$0
$0
Totals
$1,060,000
$52,500
$32,680
* Plan provides for safe harbor match with additional
discretionary matching contribution on deferrals up to 6%
of compensation not to exceed 4% of compensation
ASCi
Safe Harbor 401(k) Plans
EE
Comp.
Deferrals
Safe Harbor
Match
Discret.
Match
Dr. Rott
$230,000
$15,500
$9,200
$9,200
Dr. Gumm
$230,000
$15,500
$9,200
$9,200
Dr. DeKay
$230,000
$15,500
$9,200
$9,200
NHCE 1
$80,000
$4,000
$3,200
$2,667
NHCE 2
$65,000
$0
$0
$0
NHCE 3
$47,000
$2,000
$1,880
$1,333
NHCE 4
$42,000
$0
$0
$0
NHCE 5
$42,000
$0
$0
$0
NHCE 6
$39,000
$0
$0
$0
NHCE 7
$30,000
$0
$0
$0
NHCE 8
$25,000
$0
$0
$0
Totals
$1,060,000
$52,500
$32,680
$30,600
* The employer makes a 66.67% match on deferrals up to
6% of compensation ($9,200 / $13,800) not to exceed
4% of compensation
ASCi
Safe Harbor 401(k) Plans

Is plan subject to ACP test?


May plan impose vesting schedule on
additional matching contributions?


Yes!
May plan impose allocation conditions
on additional match?


No!
No!
Must plan provide top-heavy minimum
contribution?

No! SH plan is exempt from top-heavy if ONLY
ASCi
contributions are SH contributions
Safe Harbor 401(k) Plans
EE
Comp.
Deferral
SH
Match
Discret.
Match
Fixed
Match
Total
Dr. Rott
$230,000
$15,500
$9,200
$7,500
$13,800
$46,000
Dr. Gumm
$230,000
$15,500
$9,200
$7,500
$13,800
$46,000
Dr. DeKay
$230,000
$15,500
$9,200
$7,500
$13,800
$46,000
NHCE 1
$80,000
$4,000
$3,200
$2,174
$4,000
$13,374
NHCE 2
$65,000
$0
$0
$0
$0
$0
NHCE 3
$47,000
$2,000
$1,880
$1,087
$2,000
$6,967
NHCE 4
$42,000
$0
$0
$0
$0
$0
NHCE 5
$42,000
$0
$0
$0
$0
$0
NHCE 6
$39,000
$0
$0
$0
$0
$0
NHCE 7
$30,000
$0
$0
$0
$0
$0
NHCE 8
$25,000
$0
$0
$0
$0
$0
Totals
$1,060,000
$52,500
$32,680
$25,761
$47,400
$158,341
* Plan provides for 100% fixed match on deferrals up to 6% of comp.
To maximize contributions, ER makes a 54.35% discretionary
match on deferrals up to 6% of comp ($7,500 / $13,800)
ASCi
Scary News

Only 43% of private sector workers are
covered by a retirement plan

Only 60% of workers over age 40 who are
eligible for 401(k) plans actually participate

Average A/B of EEs in plans age 60 and
above is $141,000 (which will provide
annuity of $12,203 for male and $11,172
for female commencing at age 65)

Only 44% of families nearing retirement
have IRAs with average balance of $60,000
ASCi
Automatic Enrollment

Congress/IRS are encouraging 401(k) plans
to add automatic enrollment features
90
86
80
80
75
70
60
Without auto
enrollment
With auto
enrollment
50
40
35
30
19
20
13
10
0
Females
Hispanics
Under $20K
Actual results from employees between 3 and 15 months tenure. Study by
Professor Brigitte Madrian, University of Pennsylvania’s Wharton School
and Dennis Shea, United Health Group
ASCi
Automatic Enrollment Rules

DOL estimates that automatic enrollment
rules will have following effect:

Increase participation = DOL estimates 1/3 of
eligible workers do not participate in their 401(k)
plans and automatic enrollment could reduce nonparticipation rates to less than 10%

Increase investment levels = DOL estimates
automatic enrollment provisions and QDIA rules
will result in between $70 billion and $134 billion
in additional retirement savings by 2034
ASCi
What About Roth Deferrals?

Beginning in 2006 – ERs were permitted to
add Roth features to 401(k) plans

Advantages of Roth Deferrals



Must pay taxes currently but can take qualified
distribution without taxation (including earnings)
Must leave Roth Deferrals in plan for at least 5
years and must take distribution as qualified
distribution (e.g., death, disability, age 59½)
Response has been fairly lukewarm


Difficult to explain to NHCEs and administrative
problems
May be renewed interest in Roth contributions ASCi
Conversion to Roth IRA

Under PPA – beginning in 2008, EEs can roll
from 401(k) plan to Roth IRA

Must pay income tax at time of rollover

AGI restrictions still apply (i.e., must have AGI
below $100,000)
Post-2008 rollover may be accomplished by direct
rollover or 60-day rollover
Plan Administrator of distributing plan is not
responsible for ensuring that EE is eligible to
make a rollover to a Roth IRA
No mandatory 20% withholding and early
withdrawal penalty tax does not apply



ASCi
Conversion to Roth IRA

PPA allows conversion beginning in 2010
for all taxpayers

AGI limits no longer apply =
HCEs can convert existing
IRAs to Roth IRAs

Income taxes due on
conversion can be spread
over 2 years (e.g., 2011
and 2012)

Conversions in subsequent
years are included in income
during tax year in which conversion is completed
ASCi
Conversion to Roth IRA

May want to begin taking action to
maximize Roth conversion opportunity (and
reduced taxation) in 2010




If possible = open up Roth IRA now to begin 5year clock
If available = make contributions to traditional
IRA to prepare for conversion
If cannot make deductible contributions = make
after-tax contributions to traditional IRA and
convert in 2010
Rollover from qualified plan to traditional IRA and
then convert = amend plan to allow for inservice distribution
ASCi
New Comparability Plan

Have become very popular = based on
concept of “cross-testing”

Permits substantial disparity in
contribution for older employees

Must be tested for discrimination using
general nondiscrimination test

IRS has issued regulations requiring a
minimum 5% contribution for NHCEs in
a “cross-tested” plan
ASCi
New Comparability Plan
EE
Age
Comp
Dr. Rott
60
$230,000
Dr. Gumm
50
$230,000
Dr. DeKay
44
$230,000
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
$1,060,000
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
EE
Age
Comp.
Allocation
Alloc.
%
Dr. Rott
60
$230,000
Dr. Gumm
50
$230,000
Dr. DeKay
44
$230,000
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
(6)
Conv.
Factor1
(7)
Annuity
at Age
65
(4)*(6)
(8)
EBR
(7)/(3)
$1,060,000
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
EE
Age
Comp.
Allocation
Alloc.
%
Dr. Rott
60
$230,000
$46,000
20%
Dr. Gumm
50
$230,000
$46,000
20%
Dr. DeKay
44
$230,000
$46,000
20%
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
(6)
Conv.
Factor1
(7)
Annuity
at Age
65
(4)*(6)
(8)
EBR
(7)/(3)
$1,060,000
ASCi
Conversion Factor
 Factor
used to convert contribution to
equivalent benefit rate (EBR) at NRA
 Conversion
factor:

Project contribution to NRA at applicable interest
rate (e.g., 8.5%) = Contribution * 1.085^N
where N is years to NRA

Convert projected benefit to life annuity at age 65
based on applicable interest rate and mortality
table (e.g., 8.5% and UP 1984 table) = 7.9486
annuity factor

Example = Dr. Rott (age 45) has a conversion
factor of 0.643138 (1.085^20 / 7.9486)
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
(6)
Conv.
Factor1
EE
Age
Comp.
Allocation
Alloc.
%
Dr. Rott
60
$230,000
$46,000
20%
0.213327
Dr. Gumm
50
$230,000
$46,000
20%
0.427716
Dr. DeKay
44
$230,000
$46,000
20%
0.697805
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
(7)
Annuity
at Age
65
(4)*(6)
(8)
EBR
(7)/(3)
$1,060,000
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
(6)
Conv.
Factor1
(7)
Annuity
at Age
65
(4)*(6)
EE
Age
Comp.
Allocation
Alloc.
%
Dr. Rott
60
$230,000
$46,000
20%
0.213327
$9,813
Dr. Gumm
50
$230,000
$46,000
20%
0.427716
$19,675
Dr. DeKay
44
$230,000
$46,000
20%
0.697805
$32,099
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
(8)
EBR
(7)/(3)
$1,060,000
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
(6)
Conv.
Factor1
(7)
Annuity
at Age
65
(4)*(6)
(8)
EBR
(7)/(3)
EE
Age
Comp.
Allocation
Alloc.
%
Dr. Rott
60
$230,000
$46,000
20%
0.213327
$9,813
4.27%
Dr. Gumm
50
$230,000
$46,000
20%
0.427716
$19,675
8.55%
Dr. DeKay
44
$230,000
$46,000
20%
0.697805
$32,099
13.96%
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
$1,060,000
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
(6)
Conv.
Factor1
(7)
Annuity
at Age
65
(4)*(6)
(8)
EBR
(7)/(3)
EE
Age
Comp.
Allocation
Alloc.
%
Dr. Rott
60
$230,000
$46,000
20%
0.213327
$9,813
4.27%
Dr. Gumm
50
$230,000
$46,000
20%
0.427716
$19,675
8.55%
Dr. DeKay
44
$230,000
$46,000
20%
0.697805
$32,099
13.96%
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
$1,060,000
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
(6)
Conv.
Factor1
(7)
Annuity
at Age
65
(4)*(6)
(8)
EBR
(7)/(3)
EE
Age
Comp.
Allocation
Alloc.
%
Dr. Rott
60
$230,000
$46,000
20%
0.213327
$9,813
4.27%
Dr. Gumm
50
$230,000
$46,000
20%
0.427716
$19,675
8.55%
Dr. DeKay
44
$230,000
$46,000
20%
0.697805
$32,099
13.96%
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
$978
3.91%
3.567210
3,489
13.96%
$1,060,000
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
(6)
Conv.
Factor1
(7)
Annuity
at Age
65
(4)*(6)
(8)
EBR
(7)/(3)
EE
Age
Comp.
Allocation
Alloc.
%
Dr. Rott
60
$230,000
$46,000
20%
0.213327
$9,813
4.27%
Dr. Gumm
50
$230,000
$46,000
20%
0.427716
$19,675
8.55%
Dr. DeKay
44
$230,000
$46,000
20%
0.697805
$32,099
13.96%
NHCE 1
41
$80,000
$3,128
3.91%
0.891298
2,788
3.49%
NHCE 2
38
$65,000
$2,542
3.91%
1.138446
2,894
4.45%
NHCE 3
35
$47,000
$1,838
3.91%
1.454124
2,673
5.67%
NHCE 4
35
$42,000
$1,642
3.91%
1.454124
2,388
5.67%
NHCE 5
28
$42,000
$1,642
3.91%
2.574007
4,227
10.06%
NHCE 6
38
$39,000
$1,525
3.91%
1.138446
1,736
4.45%
NHCE 7
27
$30,000
$1,173
3.91%
2.792797
3,276
10.92%
NHCE 8
24
$25,000
$978
3.91%
3.567210
3,489
13.96%
$1,060,000
$148,473
ASCi
Minimum Gateway Requirements
 Gateway
test = to use “cross-testing” for
discrimination testing, plan must satisfy one
of “gateway” tests:


All benefiting NHCEs must receive at least 5%
allocation (based on §415(c) compensation) OR
Lowest allocation to any NHCE must be at least
1/3 of highest allocation to any HCE (based on
any definition of §414(s) compensation)
 Example.
If highest HCE rate is 12%, lowest
NHC rate must be 4%. If highest HCE rate is
18%, lowest NHC rate must be 5%.
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
(6)
Conv.
Factor1
(7)
Annuity
at Age
65
(4)*(6)
(8)
EBR
(7)/(3)
EE
Age
Comp.
Allocation
Alloc.
%
Dr. Rott
60
$230,000
$46,000
20%
0.213327
$9,813
4.27%
Dr. Gumm
50
$230,000
$46,000
20%
0.427716
$19,675
8.55%
Dr. DeKay
44
$230,000
$46,000
20%
0.697805
$32,099
13.96%
NHCE 1
41
$80,000
$4,000
5%
0.891298
$3,565
4.46%
NHCE 2
38
$65,000
$3,250
5%
1.138446
$3,700
5.69%
NHCE 3
35
$47,000
$2,350
5%
1.454124
$3,417
7.27%
NHCE 4
35
$42,000
$2,100
5%
1.454124
$3,054
7.27%
NHCE 5
28
$42,000
$2,100
5%
2.574007
$5,405
12.87%
NHCE 6
38
$39,000
$1,950
5%
1.138446
$2,220
5.69%
NHCE 7
27
$30,000
$1,500
5%
2.792797
$4,189
13.96%
NHCE 8
24
$25,000
$1,250
5%
3.567210
$4,459
17.84%
$1,060,000
$156,500
ASCi
New Comparability Plan
(1)
(2)
(3)
(4)
(5)
EE
Age
Comp.
Allocation
Alloc. %
Dr. Rott
60
$230,000
$46,000
20%
Dr. Gumm
50
$230,000
$46,000
20%
Dr. DeKay
44
$230,000
$46,000
20%
NHCE 1
41
$80,000
$4,000
5%
NHCE 2
38
$65,000
$3,250
5%
NHCE 3
35
$47,000
$2,350
5%
NHCE 4
33
$42,000
$2,100
5%
NHCE 5
28
$42,000
$2,100
5%
NHCE 6
38
$39,000
$1,950
5%
NHCE 7
27
$30,000
$1,500
5%
NHCE 8
24
$25,000
$1,250
5%
$1,060,000
$156,500
Drs. receive 88.185 % ($138,000/$156,500) of total contribution
ASCi
New Comp / SH 401(k) Plan
EE
Age
Comp.
Dr. Rott
60
$230,000
Dr. Gumm
50
$230,000
Dr. DeKay
44
$230,000
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
Defer
SH ER
Contrib
ER
Contrib
Total
ER
Contrib
Alloc.
%
EBR
$1,060,000
ASCi
New Comp / SH 401(k) Plan
EE
Age
Comp.
Defer
Dr. Rott
60
$230,000
$15,500
Dr. Gumm
50
$230,000
$15,500
Dr. DeKay
44
$230,000
$15,500
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
SH ER
Contrib
ER
Contrib
Total
ER
Contrib
Alloc.
%
EBR
$1,060,000
ASCi
New Comp / SH 401(k) Plan
EE
Age
Comp.
Defer
SH ER
Contrib
ER
Contrib
Total
ER
Contrib
Alloc.
%
Dr. Rott
60
$230,000
$15,500
$6,900
$23,600
$30,500
13.26%
Dr. Gumm
50
$230,000
$15,500
$6,900
$23,600
$30,500
13.26%
Dr. DeKay
44
$230,000
$15,500
$6,900
$23,600
$30,500
13.26%
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
EBR
$1,060,000
ASCi
New Comp / SH 401(k) Plan
EE
Age
Comp.
Defer
SH ER
Contrib
ER
Contrib
Total
ER
Contrib
Alloc.
%
EBR
Dr. Rott
60
$230,000
$15,500
$6,900
$23,600
$30,500
13.26%
2.80%
Dr. Gumm
50
$230,000
$15,500
$6,900
$23,600
$30,500
13.26%
5.61%
Dr. DeKay
44
$230,000
$15,500
$6,900
$23,600
$30,500
13.26%
9.15%
NHCE 1
41
$80,000
NHCE 2
38
$65,000
NHCE 3
35
$47,000
NHCE 4
35
$42,000
NHCE 5
28
$42,000
NHCE 6
38
$39,000
NHCE 7
27
$30,000
NHCE 8
24
$25,000
$1,060,000
ASCi
New Comp / SH 401(k) Plan
EE
Age
Comp.
Defer
SH ER
Contrib
ER
Contrib
Total ER
Contrib
Alloc.
%
EBR
Dr. Rott
60
$230,000
$15,500
$6,900
$23,600
$30,500
13.26%
2.80%
Dr. Gumm
50
$230,000
$15,500
$6,900
$23,600
$30,500
13.26%
5.61%
Dr. DeKay
44
$230,000
$15,500
$6,900
$23,600
$30,500
13.26%
9.15%
NHCE 1
41
$80,000
$1,000
$2,400
$1,136
$3,536
4.42%
3.89%
NHCE 2
38
$65,000
$0
$1,950
$923
$2,873
4.42%
4.98%
NHCE 3
35
$47,000
$0
$1,410
$667
$2,077
4.42%
6.35%
NHCE 4
35
$42,000
$0
$1,260
$596
$1,856
4.42%
6.35%
NHCE 5
28
$42,000
$0
$1,260
$596
$1,856
4.42%
11.25%
NHCE 6
38
$39,000
$0
$1,170
$554
$1,724
4.42%
4.98%
NHCE 7
27
$30,000
$0
$900
$426
$1,326
4.42%
12.20%
NHCE 8
24
$25,000
$0
$750
$355
$1,105
4.42%
15.60%
$1,060,000
$47,500
$31,800
$76,053
$107,853
ASCi
New Comp / SH 401(k) Plan
EE
Age
Comp.
Defer
Total ER
Contrib
Alloc. %
Dr. Rott
60
$230,000
$15,500
$30,500
13.26%
Dr. Gumm
50
$230,000
$15,500
$30,500
13.26%
Dr. DeKay
44
$230,000
$15,500
$30,500
13.26%
NHCE 1
41
$80,000
$1,000
$3,536
4.42%
NHCE 2
38
$65,000
$0
$2,873
4.42%
NHCE 3
35
$47,000
$0
$2,077
4.42%
NHCE 4
35
$42,000
$0
$1,856
4.42%
NHCE 5
28
$42,000
$0
$1,856
4.42%
NHCE 6
38
$39,000
$0
$1,724
4.42%
NHCE 7
27
$30,000
$0
$1,326
4.42%
NHCE 8
24
$25,000
$0
$1,105
4.42%
$1,060,000
$47,500
$107,853
Drs. receive 84.84% ($91,500/$107,853) of total contribution
plus deferrals
ASCi
Potential Issues

Plan document issues = more limited
under prototype plans

Turnover / hiring practices

Excluding family members

Failure of average benefits test =
automatic enrollment

Not enough time to accumulate
sufficient retirement savings
ASCi
When to Recommend DB/DC
Combo & Cash Balance Plans
Charles Lockwood
Why Do DB Plans Make Sense?

Can provide substantially greater
benefit to older employees (generally
over 40 years old)

Especially useful for sole proprietors
(or employers with very few EEs)

Benefit is guaranteed at retirement =
employer bears investment risk

Entire normal cost is deductible = no
limit unless combine with defined
contribution plan
ASCi
Benefit Accruals Under a DB Plan
Maximum
benefit accrual
for first year of
plan assuming
normal
retirement age
of 65, 6%
interest
assumption
and ’94 GAR
mortality table
Age
Maximum Accrual
Age
Maximum Accrual
37
$35,073
51
$79298
38
$37,178
52
$84,056
39
$39,409
53
$89,099
40
$41,773
54
$94,445
41
$44,279
55
$100,112
42
$46,936
56
$106,118
43
$49,752
57
$112,485
44
$52,738
58
$119,235
45
$55,902
59
$126,389
46
$59,256
60
$133,972
47
$62,811
61
$142,010
48
$66,580
62
$150,531
49
$70,575
63
$159,563
50
$74,809
64
$169,136
ASCi
Code 415 Limits

Code §415 limits how much an EE may
receive under a qualified plan

DC plan limit = lesser of $45,000 or
100% of compensation

DB plan limit = based on maximum
annual benefit that can be provided at
retirement

Under EGTRRA = DB limit is the lesser
of 100% of 3 year high average
compensation or $185,000
ASCi
Sample Defined Benefit Plan
EE
Age
Comp.
Accrual
Dr. Rott
60
$230,000
$133,972
Dr. Gumm
50
$230,000
$72,472
Dr. DeKay
40
$230,000
$41,728
NHCE 1
50
$80,000
$28,498
NHCE 2
48
$65,000
$20,608
NHCE 3
40
$47,000
$9,349
NHCE 4
39
$42,000
$7,881
NHCE 5
35
$42,000
$6,042
NHCE 6
35
$39,000
$5,791
NHCE 7
27
$30,000
$2,863
NHCE 8
24
$25,000
$2,003
$1,060,000
$331,207
Plan formula = 8.09% x YOP (up to 5) -- age
65 NRA, 6% interest, 94 GAR mortality table
ASCi
DB Carve-Out

Cover enough EEs in both plans to pass
coverage and Code §401(a)(26)


Can be maintained separately without combined
testing
No cross-participation allows plan to
avoid 25% combined deduction limit
DB plan can always deduct “normal cost” and DC
plan can deduct up to 25% of total comp
 If have cross-participation = no deduction in DC
plan to DB/DC contribution exceeds 25% of
compensation
 New rules allow plan to deduct up to 6% of
ASCi
compensation in DC plan

DB/DC Combination
EE
Age
Comp.
DC Contribution
DB Accrual
Dr. Rott
60
$230,000
$0
$133,972
Dr. Gumm
50
$230,000
$0
$72,472
Dr. DeKay
40
$230,000
$46,000
$0
NHCE 1
50
$80,000
$4,891
$0
NHCE 2
48
$65,000
$3,974
$0
NHCE 3
40
$47,000
$0
$9,349
NHCE 4
39
$42,000
$0
$7,881
NHCE 5
35
$42,000
$0
$6,042
NHCE 6
35
$39,000
$0
$5,791
NHCE 7
27
$30,000
$1,834
$0
NHCE 8
24
$25,000
$1,529
$0
$1,060,000
$57,228
$235,507
• Both plans satisfy coverage / nondiscrimination
• DB plan satisfies 401(a)(26)
• No deduction problem = no cross participation
ASCi
Problems with DB Plans

Different contributions for EEs based on
age

Hard to communicate to employees =
younger employees don’t appreciate life
annuity at age 65

Plans can become underfunded or
overfunded
 Can
limit possibility by using appropriate
investment vehicle

Must have enrolled actuary to determine
funding and to sign Schedule B of Form
5500
ASCi
Cash Balance Plans

Defined benefit plan that looks and acts
like a defined contribution plan

DB characteristics
 Contribution
is based on actuarial funding
concepts = employer bears risk of gain or loss
 DB
415 limits apply = permits greater
contributions than DC plan
 Subject
 Must
to PBGC coverage
file a Schedule B with Form 5500
 Subject
to QJSA rules
ASCi
Cash Balance Plans

DC characteristics
 Benefit
balance
expressed as a hypothetical account
 Benefit
and interest credited to the account each
year = must be defined in plan document


Plan looks like DC plan because benefit is
determined like a “contribution” to a DC plan
Plan is a DB-plan because benefit is determined
based on value at NRA using an assumed interest
credit
ASCi
Cash Balance Plans

Advantages
 Participants
receive a DC-type statement showing
value of hypothetical account

Participants do not have the ability to direct
investment of their “account”
 Distribution

option generally will be a lump sum
Need clarification from Congress/IRS on whipsaw
issue which forces plan to use lower that desired
interest credits
 Allows
HCEs
a more equitable sharing of costs among
ASCi
Candidate for Cash Balance Plan

Business has stable income to meet
continuing funding obligation

Targeted group (e.g., owner) is age 50
or older with compensation > $230,000

Owners want to maximize contribution
at a level above what is available in DC
plan

ER has existing new comparability plan
with “room” under the maximum
deduction limit
ASCi
New Comp / SH 401(k) Plan
EE
Age
Comp.
Defer
Total ER
Contrib
Alloc. %
Dr. Rott
60
$230,000
$15,500
$30,500
13.26%
2.80%
Dr. Gumm
50
$230,000
$15,500
$30,500
13.26%
5.61%
Dr. DeKay
44
$230,000
$15,500
$30,500
13.26%
9.15%
NHCE 1
41
$80,000
$4,800
$3,536
4.42%
3.89%
NHCE 2
38
$65,000
$4,000
$2,873
4.42%
4.98%
NHCE 3
35
$47,000
$0
$2,077
4.42%
6.35%
NHCE 4
35
$42,000
$2,000
$1,856
4.42%
6.35%
NHCE 5
28
$42,000
$0
$1,856
4.42%
11.25%
NHCE 6
38
$39,000
$0
$1,724
4.42%
4.98%
NHCE 7
27
$30,000
$1,000
$1,326
4.42%
12.20%
NHCE 8
24
$25,000
$2,500
$1,105
4.42%
15.60%
$1,060,000
$60,800
$107,853
EBR
ASCi
New Comp / SH 401(k) Plan
EE
Age
Comp.
Defer
Total ER
Contrib
Alloc.
%
EBR
Dr. Rott
60
$230,000
$15,500
$30,500
13.26%
2.80%
Dr. Gumm
50
$230,000
$15,500
$30,500
13.26%
5.61%
Dr. DeKay
44
$230,000
$15,500
$30,500
13.26%
9.15%
NHCE 1
41
$80,000
$4,800
$3,536
4.42%
3.89%
NHCE 2
38
$65,000
$4,000
$2,873
4.42%
4.98%
NHCE 3
35
$47,000
$0
$2,077
4.42%
6.35%
NHCE 4
35
$42,000
$2,000
$1,856
4.42%
6.35%
NHCE 5
28
$42,000
$0
$1,856
4.42%
11.25%
NHCE 6
38
$39,000
$0
$1,724
4.42%
4.98%
NHCE 7
27
$30,000
$1,000
$1,326
4.42%
12.20%
NHCE 8
24
$25,000
$2,500
$1,105
4.42%
15.60%
$1,060,000
$60,800
$107,853
Deductible limit = 25% * $1,060,000 = $265,000
Total deductible contrib. = $107,853 (deferrals always deductible)
Remaining deductible amount = $157,147
ASCi
New Comp / SH 401(k) Plan
EE
Age
Comp.
Defer
Total ER
Contrib
Alloc.
%
EBR
Additional
Benefit
Dr. Rott
60
$230,000
$15,500
$30,500
13.26%
2.80%
$40,000
Dr. Gumm
50
$230,000
$15,500
$30,500
13.26%
5.61%
$40,000
Dr. DeKay
44
$230,000
$15,500
$30,500
13.26%
9.15%
$40,000
NHCE 1
41
$80,000
$4,800
$3,536
4.42%
3.89%
NHCE 2
38
$65,000
$4,000
$2,873
4.42%
4.98%
NHCE 3
35
$47,000
$0
$2,077
4.42%
6.35%
NHCE 4
35
$42,000
$2,000
$1,856
4.42%
6.35%
NHCE 5
28
$42,000
$0
$1,856
4.42%
11.25%
NHCE 6
38
$39,000
$0
$1,724
4.42%
4.98%
NHCE 7
27
$30,000
$1,000
$1,326
4.42%
12.20%
NHCE 8
24
$25,000
$2,500
$1,105
4.42%
15.60%
$1,060,000
$60,800
$107,853
Deductible limit = 25% * $1,060,000 = $265,000
Total deductible contrib. = $107,853 (deferrals always deductible)
Remaining deductible amount = $157,147
ASCi
Combined DC/Cash Balance Plan

Cash balance plan is DB plan
 Subject

Combined plans must satisfy minimum
gateway requirement
 7.5%

to DB 415 limit and funding rules
gateway applies to DC/DB plans
Cash balance plan must satisfy Code
§401(a)(26)
 Must
provide at least 40% of employees with at
least 0.5% NAR

Combined plans are subject to 25%
deduction limit
ASCi
Gateway for DB/DC Plans
To satisfy the minimum gateway for DB/DC
combination plans, each NHCE must have an
aggregate normal allocation rate (ANAR) that
meets following requirements:
Highest HCE ANAR
ANAR for NHCEs
Less than 15%
At least 1/3 of the HCE rate
15% to 25%
5%
25% - 30%
6%
30-35%
7%
Above 35%
7½%
ASCi
Combined DC/Cash Balance Plan

Cash balance plan is DB plan
 Subject

Combined plans must satisfy minimum
gateway requirement
 7.5%

to DB 415 limit and funding rules
gateway applies to DC/DB plans
Cash balance plan must satisfy Code
§401(a)(26)
 Must
provide at least 40% of employees with at
least 0.5% NAR

Combined plans are subject to 25%
deduction limit
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
NHCE 1
41
$80,000
$4,800
$6,000
NHCE 2
38
$65,000
$4,000
$4,875
NHCE 3
35
$47,000
$0
$3,525
NHCE 4
35
$42,000
$2,000
$3,150
NHCE 5
28
$42,000
$0
$3,150
NHCE 6
38
$39,000
$0
$2,925
NHCE 7
27
$30,000
$1,000
$2,250
NHCE 8
24
$25,000
$2,500
$1,875
$1,060,000
$60,800
$119,250
Hypoth
Alloc.
CB
NAR
* Plan satisfies minimum gateway = NHCEs receive 7.5%
allocation in DC plan
EBR +
NAR
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
NHCE 3
35
$47,000
$0
$3,525
10.91%
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
NHCE 5
28
$42,000
$0
$3,150
19.31%
NHCE 6
38
$39,000
$0
$2,925
8.54%
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$1,060,000
$60,800
$119,250
Hypoth
Alloc.
CB
NAR
EBR +
NAR
* Convert DC allocation to EBRs using applicable interest rate
(8.5%) and applicable mortality table (UP-1984)
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
NHCE 3
35
$47,000
$0
$3,525
10.91%
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
NHCE 5
28
$42,000
$0
$3,150
19.31%
NHCE 6
38
$39,000
$0
$2,925
8.54%
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$1,060,000
$60,800
$119,250
CB
NAR
EBR +
NAR
* Drs. receive “hypothetical” allocation of $40,000
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
CB
NAR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
2.21%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
3.60%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
4.83%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
NHCE 3
35
$47,000
$0
$3,525
10.91%
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
NHCE 5
28
$42,000
$0
$3,150
19.31%
NHCE 6
38
$39,000
$0
$2,925
8.54%
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$1,060,000
$60,800
$119,250
EBR +
NAR
* Hypothetical allocation is converted to Normal Accrual Rate
(NAR) using plan’s assumptions = 5% interest rate and ’94
GAR mortality table
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
CB
NAR
EBR +
NAR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
2.21%
5.01%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
3.60%
9.21%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
4.83%
13.98%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
NHCE 3
35
$47,000
$0
$3,525
10.91%
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
NHCE 5
28
$42,000
$0
$3,150
19.31%
NHCE 6
38
$39,000
$0
$2,925
8.54%
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$1,060,000
$60,800
$119,250
* DC EBR and CB NAR are added together to get benefit rate
subject to rate group test
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
CB
NAR
EBR +
NAR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
2.21%
5.01%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
3.60%
9.21%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
4.83%
13.98%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
$0
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
$0
NHCE 3
35
$47,000
$0
$3,525
10.91%
$0
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
$0
NHCE 5
28
$42,000
$0
$3,150
19.31%
$0
NHCE 6
38
$39,000
$0
$2,925
8.54%
$0
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
$0
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$0
$1,060,000
$60,800
$119,250
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
CB
NAR
EBR +
NAR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
2.21%
5.01%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
3.60%
9.21%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
4.83%
13.98%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
$0
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
$0
NHCE 3
35
$47,000
$0
$3,525
10.91%
$0
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
$0
NHCE 5
28
$42,000
$0
$3,150
19.31%
$0
NHCE 6
38
$39,000
$0
$2,925
8.54%
$0
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
$0
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$0
$1,060,000
$60,800
$119,250
Plan fails 401(a)(26) = must have at least 40% of employees
receiving “meaningful benefit” which IRS has defined as .5%
ASCi
accrual
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
CB
NAR
EBR +
NAR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
2.21%
5.01%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
3.60%
9.21%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
4.83%
13.98%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
$300
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
$300
NHCE 3
35
$47,000
$0
$3,525
10.91%
$300
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
$300
NHCE 5
28
$42,000
$0
$3,150
19.31%
$300
NHCE 6
38
$39,000
$0
$2,925
8.54%
$300
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
$300
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$300
$1,060,000
$60,800
$119,250
$122,400
*NHCEs receive hypothetical allocation of $300
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
CB
NAR
EBR +
NAR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
2.21%
5.01%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
3.60%
9.21%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
4.83%
13.98%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
$300
0.10%
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
$300
0.28%
NHCE 3
35
$47,000
$0
$3,525
10.91%
$300
0.15%
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
$300
0.15%
NHCE 5
28
$42,000
$0
$3,150
19.31%
$300
0.22%
NHCE 6
38
$39,000
$0
$2,925
8.54%
$300
0.28%
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
$300
0.54%
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$300
0.75%
$1,060,000
$60,800
$119,250
$122,400
*Cash balance plan satisfies Code §401(a)(26) = 5/11 (45%)
of EEs receive meaningful benefits
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
CB
NAR
EBR +
NAR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
2.21%
5.01%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
3.60%
9.21%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
4.83%
13.98%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
$300
0.10%
6.79%
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
$300
0.28%
8.86%
NHCE 3
35
$47,000
$0
$3,525
10.91%
$300
0.15%
11.06%
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
$300
0.15%
11.06%
NHCE 5
28
$42,000
$0
$3,150
19.31%
$300
0.22%
19.53%
NHCE 6
38
$39,000
$0
$2,925
8.54%
$300
0.28%
8.82%
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
$300
0.54%
21.49%
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$300
0.75%
27.50%
$1,060,000
$60,800
$119,250
$122,400
* Plan satisfies nondiscrimination on basis of combined DC
EBRs and CB NARs
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
CB
NAR
EBR +
NAR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
2.21%
5.01%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
3.60%
9.21%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
4.83%
13.98%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
$300
0.10%
6.79%
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
$300
0.28%
8.86%
NHCE 3
35
$47,000
$0
$3,525
10.91%
$300
0.15%
11.06%
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
$300
0.15%
11.06%
NHCE 5
28
$42,000
$0
$3,150
19.31%
$300
0.22%
19.53%
NHCE 6
38
$39,000
$0
$2,925
8.54%
$300
0.28%
8.82%
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
$300
0.54%
21.49%
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$300
0.75%
27.50%
$1,060,000
$60,800
$119,250
$122,400
* Meets deduction limit = $1,060,000 * 25% = $265,000;
Total employer contribution = $241,650; Deferrals are
always deductible!
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
DC
EBR
Hypoth
Alloc.
CB
NAR
EBR +
NAR
Dr. Rott
60
$230,000
$15,500
$30,500
2.80%
$40,000
2.21%
5.01%
Dr. Gumm
50
$230,000
$15,500
$30,500
5.61%
$40,000
3.60%
9.21%
Dr. Kay
44
$230,000
$15,500
$30,500
9.15%
$40,000
4.83%
13.98%
NHCE 1
41
$80,000
$4,800
$6,000
6.69%
$300
0.10%
6.79%
NHCE 2
38
$65,000
$4,000
$4,875
8.54%
$300
0.28%
8.86%
NHCE 3
35
$47,000
$0
$3,525
10.91%
$300
0.15%
11.06%
NHCE 4
35
$42,000
$2,000
$3,150
10.91%
$300
0.15%
11.06%
NHCE 5
28
$42,000
$0
$3,150
19.31%
$300
0.22%
19.53%
NHCE 6
38
$39,000
$0
$2,925
8.54%
$300
0.28%
8.82%
NHCE 7
27
$30,000
$1,000
$2,250
20.95%
$300
0.54%
21.49%
NHCE 8
24
$25,000
$2,500
$1,875
26.75%
$300
0.75%
27.50%
$1,060,000
$60,800
$119,250
$122,400
* Beginning in 2007 – deductible amount increases to $328,600;
$1,060,000 * 25% = $265,000 + $63,600 (6% of comp)
ASCi
Combined DC/Cash Balance Plan
EE
Age
Comp.
Defer
DC
Alloc
Hypoth
Alloc.
Dr. Rott
60
$230,000
$15,500
$30,500
$40,000
Dr. Gumm
50
$230,000
$15,500
$30,500
$40,000
Dr. Kay
44
$230,000
$15,500
$30,500
$40,000
NHCE 1
41
$80,000
$4,800
$6,000
$300
NHCE 2
38
$65,000
$4,000
$4,875
$300
NHCE 3
35
$47,000
$0
$3,525
$300
NHCE 4
35
$42,000
$2,000
$3,150
$300
NHCE 5
28
$42,000
$0
$3,150
$300
NHCE 6
38
$39,000
$0
$2,925
$300
NHCE 7
27
$30,000
$1,000
$2,250
$300
NHCE 8
24
$25,000
$2,500
$1,875
$300
$1,060,000
$60,800
$119,250
$122,400
* Drs. receive 87.52% of ER contribution + deferrals
ASCi
Pension Protection Act

No age discrimination if benefit is equal
to or greater than that of any similarly
situated, younger participant

May provide interest credits not greater
than a market rate of return

Can provide lump sum distribution equal
to hypothetical account balance
 Eliminates

“whipsaw” problem
Must provide 100% vesting after 3 YOS
ASCi
Understanding the Need for
Plan Corrections (VCP)
Charles Lockwood
Consequences of Disqualification

If plan is disqualified, substantial tax
consequences may apply for “open”
years

Tax consequences include:





Taxation to participants
Taxation of trust
Loss of deduction
Loss of rollover opportunity for participants
Special rule applies if plan fails coverage
or nondiscrimination
ASCi
IRS Voluntary Correction Program

Employee Plans Correction Resolution
Program (EPCRS) = Rev. Proc. 2006-27

Now have 3 programs:
 SCP
(Self-Correction Program) = no submission
to IRS
 VCP (Voluntary Correction Program) =
submission to IRS before being caught
 Audit CAP (Audit Closing Agreement Program) =
caught by IRS


Generally too late for EPCRS
IRS has issued list of top mistakes
 www.irs.gov/pub/irs-tege/401k_mistakes.pdf
ASCi
Most Common Qualification Failures

Failure to timely amend plan

Failure to use correct compensation

Failure to properly include/exclude EEs

Late deposit of 401(k) deferrals

Failure to satisfy hardship rules

Improper calculation of match

Failure to correct ADP/ACP failures

Failure to include all EEs in ADP/ACP test

Failure to provide top-heavy minimum

Code §415 and §402(g) violations
ASCi
EPCRS Program

4 types of disqualifying defects
 Plan
document failures (e.g., failure to make good
faith or interim amendments)

Must use VCP to correct failure
 Operational
of the plan

failures = failure to follow the terms
May use SCP or VCP to correct failure
 Demographic
failure (e.g., coverage/
nondiscrimination)

Must use VCP to correct failure
 Employer

eligibility failure
Must use VCP to correct failure
ASCi
SCP

Established practices and procedures

Operational problem

General correction principles used

Change administrative procedures

Significant failure – two years
 Special
rule for mergers/acquisitions

Insignificant failure – no limit

Maintain adequate records

No fee
ASCi
VCP

Plan sponsor submits VCP paperwork

Plan sponsor identifies failures

Plan sponsor proposes correction

Plan sponsor pays user fee

IRS issues a compliance statement

Plan sponsor corrects within 150 days
of compliance statement

Plan not examined
ASCi
VCP Fees
Number of participants
VCP fee
20 or fewer
21-50
$750
$1,000
51-100
$2,500
101-500
$5,000
501-1,000
$8,000
1,001-5,000
$15,000
5,001-10,000
Over 10,000
$20,000
$25,000
ASCi
Audit CAP

Plan sponsor is under examination

Plan sponsor enters closing agreement

Plan sponsor makes correction

Plan sponsor pays sanction
 Negotiated
% of maximum payment amount
(MPA) for open years



Tax on trust
Income tax due to loss of employer deductions
Income tax due to inclusion of income for
participants
ASCi
Most Common Qualification Failures

Failure to timely amend plan

Failure to use correct compensation

Failure to properly include/exclude EEs

Late deposit of 401(k) deferrals

Failure to satisfy hardship rules

Improper calculation of match

Failure to correct ADP/ACP failures

Failure to include all EEs in ADP/ACP test

Failure to provide top-heavy minimum

Code §415 and §402(g) violations
ASCi
Nonamenders

Plan Sponsor X for Plan ABC, a calendar
year 401(k) plan with 40 participants,
discovers it has missed the deadline for
adopting good-faith EGTRRA
amendments. X has a favorable GUST
determination letter.

Reasonable correction
Amend plan for all laws
 Confirm operation was consistent with
amendment

ASCi
Nonamenders
 SCP
– not available
 VCP
– available

Normally $1,000 fee

If “good faith amendments” or interim
amendments only, fee is $375
 Audit
CAP – Amend plan, pay negotiated
% of MPA
ASCi
Compensation Definitions

Code §415 = gross

Top-heavy = gross

Highly compensated employees = gross

Deductions = gross

Allocations or benefits = Plan
Compensation (as defined in AA §5-2)

Testing compensation = any Code
§414(s) definition of compensation
ASCi
Post-Severance Compensation

Post-severance compensation = may
include payments made after severance
of employment if:
 Compensation
is regular compensation or
payment for unused sick, vacation or other leave
 Payment
is made by the later of 2½ months after
severance from employment or the last day of
the limitation year in which the severance occurs,
and
 The
amounts would have been paid and included
in 415 compensation if EE had not terminated
employment
ASCi
Post-Severance Compensation

Severance pay is not included as 415
compensation
 May

Plan may exclude post-severance
compensation
 Plan

not defer on severance payments
would be subject to 414(s) testing
Raises issues regarding application of
ADP/ACP test
ASCi
Plan Amendment

415 amendment = required (interim)



As interim amendment = RAP expires as of due
date for filing tax return for tax year beginning
after 7/1/07
Amendment date for calendar year ER = 9/15/09
(if file for corporate extension)
Concern is possible cut-back if apply
compensation definition retroactively to
1/1/08

Amend plan before anyone accrues benefit for
2008
ASCi
Most Common Qualification Failures

Failure to timely amend plan

Failure to use correct compensation

Failure to properly include/exclude EEs

Late deposit of 401(k) deferrals

Failure to satisfy hardship rules

Improper calculation of match

Failure to correct ADP/ACP failures

Failure to include all EEs in ADP/ACP test

Failure to provide top-heavy minimum

Code §415 and §402(g) violations
ASCi
Exclusion of Eligible Employee

401(k) plan with 8 participants

Employee Y (a former participant) was
rehired on March 1, 2008

Employee Y was not permitted to make
deferrals until January 1, 2009

Employee Y was an NHCE with
compensation of $75,000

The NHCE ADP for 2008 was 8% and the
HCE ADP was 10%
ASCi
Exclusion of Eligible Employee

Reasonable correction
 Make
QNEC to compensate for missed deferral
opportunity
 QNEC = 50% of employee’s missed deferral
 Missed deferral = ADP of employee’s group for
plan year of exclusion by employee’s
compensation for that year
 Make up any matching contributions based on
actual amount of missed deferral (not 50%)
 8% x $75,000 x 50% x 10/12 = $2,500 plus
earnings

What if ER fails to follow EE’s election?
 Rev.
Proc. 2008-50 = 50% of amount elected
ASCi
Most Common Qualification Failures

Failure to timely amend plan

Failure to use correct compensation

Failure to properly include/exclude EEs

Late deposit of 401(k) deferrals

Failure to satisfy hardship rules

Improper calculation of match

Failure to correct ADP/ACP failures

Failure to include all EEs in ADP/ACP test

Failure to provide top-heavy minimum

Code §415 and §402(g) violations
ASCi
Top-10 DOL Violations

Failure to timely deposit deferrals

Failure to make required contributions

Improper valuation of plan assets

Improper distributions

Orphaned plans

Adverse actions against EEs trying to
enforce plan rights

Failure to put assets in plan's name

Prohibited transactions

Failure to have established procedures

Improper allocation of expenses
ASCi
Timely Deposit of Deferrals

401(k) deferrals become plan assets on
earlier of:
 15th
business day of month following date
withheld from paycheck
 As soon as can be reasonably segregated from
employer’s general assets
 DOL position = 3 - 5 business days

Failure to deposit deferrals trust
 Prohibited
transaction
 Fiduciary breach

Form 5500 requires verification of
timeliness of deposits
ASCi
DOL Proposed Regulations

Creates safe harbor for timely deposit of
401(k) deferrals
 Deemed
timely if deposited within 7 business
days following date amounts are withheld from
paycheck
 Only
available if plan has fewer than 100
participants at beginning of plan year
 For
larger plans – timing of deferrals may be
sooner than 7 days = DOL may add SH for larger
plans in final regulations
 SH
rule also applies to deposit of loan repayments
ASCi
DOL Proposed Regulations

Compliance with safe harbor rule is not
mandatory = will allow ERs to ensure
satisfying plan asset rules

Small ER that remits later than 7-day limit
may wish to review its systems and plan
remittance procedures

Gives providers another reason to
encourage ERs to remit deferrals on a
timely basis

Effective when final regs are issued = DOL
will apply rule until finalized
ASCi
FAB 2008-01

Plan trustees are responsible for
monitoring and collecting delinquent plan
contributions and generally may not
contract around that duty

FAB applies obligation on trustees to collect
delinquent contributions


Plan or service contracts should identify
responsible parties
Steps necessary to collect delinquent
contributions = facts of each case

Value of assets involved, the likelihood of
successful recovery, and expenses
ASCi
FAB 2008-01

Expected that new guidance will begin
new round of DOL audits focusing on
trustee misconduct

Concern that DOL will begin/continue targeting
service providers (including TPAs) to determine
whether ERs are making timely contributions

Already starting to see some specific DOL action
against trustees
ASCi
Correction Steps

Repay deferrals

Calculate and pay lost earnings

Will have to calculate lost earnings on
each late payment

Can use DOL calculator to determine
amount of lost earnings

Great improvement over prior rules = generally,
had to use actual rate of return that would have
been earned by each EE under plan or highest
rate of return
ASCi
DOL Calculator




Can use calculator
rates = regardless
of interest actually
earned by plan
Based on IRS
underpayment
penalty rate under
Code §6621
 Currently 6%
Interest rate is
never negative
dol.gov/ebsa/
calculator/main.html
Correction Period
Interest Rate
4/1/2000 - 3/31/2001
9%
4/1/2001 - 6/30/2001
8%
7/1/2001 - 12/31/2001
7%
1/1/2002 - 12/31/2002
6%
1/1/2003 - 9/30/2003
5%
10/1/2003 - 3/31/2004
4%
4/1/2004 - 6/30/2004
5%
7/1/2004 - 9/30/2004
4%
10/1/2004 - 3/31/2005
5%
4/1/2005 - 9/30/2005
6%
10/1/2005 - 6/30/2006
7%
7/1/2006 - 12/31/2007
8%
1/1/2008 - 3/31/2008
7%
ASCi
How Should ER Answer 5500?

Form 5500 specifically asks if are a late
depositor

Must answer under penalties of perjury

Recent court case = imposed $153,000
in penalties and fines and a one-year
term of federal probation for false 5500




Hid fact that ER was using funds for own purpose
Had repaid the amounts back to the plan
“Lied” about existence of prohibited transaction
Second criminal case in last few months
for false filing of Form 5500
ASCi
Most Common Qualification Failures

Failure to timely amend plan

Failure to use correct compensation

Failure to properly include/exclude EEs

Late deposit of 401(k) deferrals

Failure to satisfy hardship rules

Improper calculation of match

Failure to correct ADP/ACP failures

Failure to include all EEs in ADP/ACP test

Failure to provide top-heavy minimum

Code §415 and §402(g) violations
ASCi
Hardship Distributions

Plan does not allow for hardship
distribution
 Retroactive
amendment to permit hardship
 Repayment to the plan

Plan must exhaust all available
distributions (including loans) prior to
taking hardship distribution
ASCi
Improper Matching Contribution

Plan provides for 100% match on deferrals
up to 6% of compensation

ER matches each payroll period

Jane earns $50,000 and defers 10%
through July 1 when she stops deferring

Jane has deferred $2,500 (10% x $25,000)
and received a match of $1,500 (6% x
$25,000)

Is Jane entitled to an additional “true-up”
contribution?
ASCi
Most Common Qualification Failures

Failure to timely amend plan

Failure to use correct compensation

Failure to properly include/exclude EEs

Late deposit of 401(k) deferrals

Failure to satisfy hardship rules

Improper calculation of match

Failure to correct ADP/ACP failures

Failure to include all EEs in ADP/ACP test

Failure to provide top-heavy minimum

Code §415 and §402(g) violations
ASCi
Failure to File Form 5500

DOL penalties can be as high as $1,100
per day per late form
 Generally
run in the range of $50 to $300 per day
= common to see penalties in 5 – 6 figures

IRS penalties are $25 per day up to
$15,000 per late form

Reasonable correction
 Correction
is not available through EPCRS
 May use DOL’s Delinquent Filer Voluntary
Correction Program
 If Form 5500-EZ, file with IRS and include
reasonable cause statement requesting
ASCi
DFVC Program
 Penalty
is reduced to $10/day
 For
small filer = maximum penalty is $750
 For large filer = maximum penalty is $2,000
 For
multiple years
 Small
plans = $1,500
 Large plans = $4,000
 IRS
will also waive its late filing
penalties if file under DFVC
 DFVC
not available if have received a
late filing notice from DOL (not IRS)
ASCi
Opportunities in the
403(b) Market
Charles Lockwood
403(b) Regulations

IRS issued final regs on July 23, 2007
 Very
surprising – expected final regs by 7/1
 Not effective until 2009 taxable years
 Not too many changes from proposed regs

403(b) plans are available for:
 Public
schools
 Tax-exempt ERs under 501(c)(3) and
 Churches

Must be funded by:
 Annuity
contracts issued by insurance co.
 Custodial accounts invested in mutual fund
 Retirement income accounts
ASCi
Changing World

ERs now responsible for administration
of plan document
 Individual
participants no longer the target
market
 ERs will generally be more involved in selection of
investments
 ER must monitor contribution limits, in-service
withdrawals and loan limits
 ER must enter into information sharing
agreements with providers = will result in
significant consolidation of providers

ERs will be required to file full Form 5500
ASCi
403(b) Plan Document

Plan document requirement
 Applies
to all 403(b) plans = even those exempt
from ERISA (e.g., government plans)
 Plan document must be in place by first day of
2009 taxable year
 Must satisfy requirements of 403(b) regs in form
and operation
 Must allocate responsibilities among ER and third
party providers


Must identify responsible party for complying with
requirements that require aggregation of contracts
such as loans and hardships
Cannot impose responsibility on EEs
ASCi
403(b) Plan Document

Plan document requirement
 May
incorporate other documents by reference,
such as annuity contract or custodial account

Must not be any conflict of interest
 IRS
will issue model language for public school
plans
 May
lead to IRS determination letter or preapproved 403(b) program
 May
have to file full Form 5500
ASCi
Non-ERISA 403(b) Plans

Field Assistance Bulletin 2007-02 = SH
allowing 403(b) plan funded only with EE
contributions to avoid Title I of ERISA
 Participation
of EEs must be completely voluntary
 All rights are enforceable solely by EE
 Involvement of ER is limited to certain optional
specified activities
 ER receives no direct or indirect compensation
(other than reasonable reimbursement to cover
expenses)
ASCi
Non-ERISA 403(b) Plans

Allowable activities include:
 requesting
information concerning proposed
providers and compiling such information to
facilitate review and analysis by EEs
 entering into salary reduction agreements and
collecting/remitting amounts to providers
 limiting funding media or products available to EE
to a number and selection designed to afford EEs
reasonable choice

Other acts may subject ER to ERISA
 Handling
plan transfers, processing distributions,
making hardship or QDRO determinations, or
administering loans
ASCi
ERISA 403(b) Plans

Why does it matter = increased
fiduciary liability
 403(b)
plans will be subject to full Form 5500
filings = including audit for large plans
 Subject to DOL fiduciary/prohibited transaction
rules including new fee disclosure requirements
 ER will have obligation to monitor investments
and providers = subject to prudence rule
 ERs will have to oversee financial institutions to
make sure plan is being administered properly
 ER will have to provide financial institutions with
adequate information to administer loans,
hardship and other distributions
ASCi
403(b) Regulations

Restriction on 90-24 transfers
 Rev.
Rul. 90-24 permitted EEs to transfer from
one contract to another contract as long as
similar distribution restrictions
 Final
regulations allow transfers if similar
distribution restrictions and ER enters into
agreement with provider to share employment
information (e.g., term date), hardship and loan
information
 Effective
for exchanges occurring after
September 24, 2007 = prior transfers are
grandfathered (as long as no later transfer)
ASCi
403(b) Regulations

Rev. Proc. 2007-71 = model language
 Post-2004
orphan contracts (both pre- and post9/24/07) will not fail §403(b) if:



ER makes reasonable, good faith effort to contact
issuer and notify them of contact information for
person in charge of administering the ER’s plan or
Issuer makes reasonable, good faith effort to
contact ER before making any distribution or loan
to participant
For former EEs, issuer must make reasonable effort
before making loan to determine if loan limits are
met (e.g., other outstanding loans)
 Post
9/24/07 transfers can be re-exchanged prior
to July 1, 2009
ASCi
403(b) Regulations

Special rules regarding 415 excesses
 If
415 excess, excess amount treated as
nonqualified = remaining portion retains
qualified status
 Any 415 excess must be held in separate
account for year of excess and following year

Clarifies that 403(b) plans are subject
to QDRO rules

Life insurance prohibited
ASCi
403(b) Regulations

Tax-exempt ERs subject to same
discrimination rules as qualified plans
 Eliminates
“good-faith” standard under Notice 89-
23
 Church and governmental plans generally exempt
from nondiscrimination rules


Are subject to compensation limit under 401(a)(17)
and universal availability
Catch-up contributions permitted under
403(b) plan
 Only
applies after EE makes special $3,000 catchup for “qualified EEs” of “qualified organizations”
ASCi
403(b) Regulations

Universal availability
 Replaces
ADP test
 Eliminates ability to exclude certain EEs permitted
under Notice 89-23




EEs covered by collective bargaining agreement;
EEs who make one-time election to participate in
governmental plan instead of 403(b) program;
certain visiting professors; and
EEs of religious order who have taken a vow of
poverty
 Can
continue to exclude until 2010 TY
ASCi
403(b) Regulations

Ability to terminate 403(b) plans and
convert to 401(k) plans

Can distribute from terminating 403(b) only if no
contributions made to another 403(b) plan during
12-month period following final distribution of plan
assets

Terminations can occur between July 27, 2007 and
effective date of regulations

Can 403(b) plans terminate if there are orphan
accounts for which ER has no information?
ASCi
403(b) Regulations

Is switching from 403(b) to 401(k) a good
idea?
If plan is a non-ERISA plan = switching would
require Form 5500 reporting, SPD/SMMs,
additional testing
 Universal availability avoids need for ADP test =
ER may be able to utilize SH plan design
 403(b) plans may permit greater catch-up
contributions
 ER may be able to offer more investments and
services at lower cost in a 401(k) plan
 EEs will have ability to take a distribution from the
plan upon termination

ASCi
403(b) Opportunities

In 2007 = estimated that 403(b) plans
accounted for $735 billion in assets (roughly
17% of total DC plan market)

403(b) plans will need solutions to:
Implement 403(b) plan document prior to 1/1/09
 Address fiduciary concerns
 Ease potential administrative burdens


In a recent survey of 403(b) sponsors =
90% cited assistance with new regulatory
compliance as a key need
ASCi
403(b) Opportunities

Plan design and plan administration
opportunities
403(b) plans subject to same nondiscrimination
rules as 401(k) plans
 ERs will need assistance in ensuring 403(b) plan is
in compliance with regulations = no longer can
shift responsibility to EEs


Potential fiduciary liability will increase
need for employee education

Participants with orphan accounts may
need help consolidating their accounts
ASCi
403(b) Opportunities

ERs will need help reviewing prospectuses,
fees, investment performance and
surrender charges

Excessive fees in 403(b) plans recognized as
significant problem

Focus changes from participant-managed
investments to employer-managed
investments

IRS expected to substantially increase
403(b) audit activity
ASCi
Q&A
Charles Lockwood