Loan & Distribution Specialist AimPoint Pension
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Compass
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Regional Vice President of Sales The Retirement Plan Company
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Bates & Company, Inc.
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AimPoint Pension
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Defined Benefit Combo Cash Balance Compliance Consultant Loren D. Stark Company (LDSCO)
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Guest Article
(From the November 17, 2008 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.)
Beyond the obvious effects on funding, there are other potential consequences to declining asset values for defined benefit pension plans and their sponsors. Single-employer defined benefit plans that fail to reach specified funding attainment levels will trip increasingly severe benefit restrictions (e.g., prohibitions against plan amendments, against payment of amounts in excess of single life annuity payments, and eventually against benefit accruals). At-risk defined benefit plans will also restrict the ability of publicly-traded corporations to set aside amounts for the purpose of paying deferred compensation to the executive officers.
IRC §436 -- Funding-Based Benefit Restrictions
In the case of a single employer defined benefit plan (and a multiple employer defined benefit plan, applying the rules separately to each employer under the plan), if the adjusted funding target attainment percentage (AFTAP) is below 80 percent for the plan year, various restrictions will apply. If the AFTAP is less than 100 percent and the plan sponsor becomes a debtor in bankruptcy under Chapter 11, restrictions will apply. These restrictions are identified and summarized briefly below.
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See IRC §436, Proposed Treasury Regulations §1.436-1 (at 72 FR 50544 (August 31, 2007), as corrected), and Notice 2008-21.
IRC Section 409A -- Deferred Compensation Income Tax and Penalties
If the employer is a publicly-traded corporation and its defined benefit plan -- or any single-employer defined benefit plan within the controlled group -- is insufficiently funded, IRC §409A restricts the ability of the controlled group members to set aside funds for payment of deferred compensation to the executive officers and directors (i.e., the chief executive officer and other four highest compensated officers required to be reported to shareholders under the Securities and Exchange Act of 1934, and any individual subject to the requirements of §16(a) of the Securities Exchange Act of 1934).
Specifically, IRC §409A(b)(3) imposes punitive tax treatment on assets that are "set aside" for the payment of deferred compensation to the identified individuals during a "restricted period." It targets:
assets [which] are set aside or reserved (directly or indirectly) in a trust (or other arrangement as determined by the Secretary) or transferred to a trust or other arrangement for the purpose of paying deferred compensation of an applicable covered employee under a nonqualified deferred compensation plan. |
The restriction applies to transfers to a trust, and to less direct "set asides," the scope of which remains unclear.
A "restricted period" is any period in which a single-employer defined benefit plan of the plan sponsor (or member of a controlled group which includes the plan sponsor) is "at risk" as defined under IRC §430(i). It also includes the 12-month period that begins 6 months before such a defined benefit plan's termination date if the plan is not sufficiently funded for a standard termination under ERISA §4022. Lastly, a "restricted period" includes any period the plan sponsor is a debtor in bankruptcy under Chapter 11.
If funds are "set aside" during a "restricted period," the funds are treated as property transferred in connection with the performance of services under IRC §83, and are taxable to the employee when they are no longer subject to a substantial risk of forfeiture. In addition to income tax, the amounts are also subject to a 20 percent penalty tax, and to interest at the underpayment rate plus 1 percent on the underpayments that would have occurred had the amounts been includible in the gross income of the employee in the year first deferred or, if later, in the year the amounts are no longer subject to a substantial risk of forfeiture.
In the event the employer "grosses up" the employee for such taxes, the gross up is considered part of the deferred compensation and is itself subject to the 20 percent tax and to the interest assessment. The employer is denied a deduction for the gross up amount.
A defined benefit plan is "at risk" for a plan year if:
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In the case of plan years beginning in 2008, 2009 and 2010, the "80 percent" standard is replaced with 65 percent for 2008, 70 percent for 2009, and 75 percent for 2010. The actuarial assumptions under IRC §430(i)(1)(B) require that:
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See IRC §§409A(b) and 430(i), and Proposed Treasury Regulations §1.430(i)-1 (at 72 Federal Register 74215 (12/31/07)).
The information in this Washington Bulletin is general in nature only and not intended to provide advice or guidance for specific situations.
If you have any questions or need additional information about articles appearing in this or previous versions of Washington Bulletin, please contact: Robert Davis 202.879.3094, Elizabeth Drigotas 202.879.4985, Mary Jones 202.378.5067, Stephen LaGarde 202.879-5608, Erinn Madden 202.572.7677, Bart Massey 202.220.2104, Mark Neilio 202.378.5046, Tom Pevarnik 202.879.5314, Sandra Rolitsky 202.220.2025, Tom Veal 312.946.2595, Deborah Walker 202.879.4955. Copyright 2008, Deloitte. |
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