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an accounting client of my firm came to us to help solve a dilemma. Their current service provider updated their document for GUST. In doing so and with discussions with clients management, they changed the allocation formula from a cross-tested comparability plan to an integrated one. Not sure why it was done, the client mumbled something about divorce proceedings with owner. Anyways...plan year is over and it's time to calculate the contribution amount. However, they want to use the comparability test to do so.....

Since it's after the end of the year are we locked into the integrated formula? or can we file a VCP filing and provide documentation that it was intended to be a cross tested comparability plan. Client would be actually increasing the amount provided to participants under comparability plan.

If we can change it, any ideas on the best way to do so?

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Guest Gregory

Since you've had 39 views and nobody has the moxy to answer, I'll propose one.

Assuming a 12/31 PYE...it's too late! The employer made an informed decision and knowingly amended the plan.

It's great that they want to increase benefits, but I've not seen this casue the IRS to change its rules. For example, how is this any different from an employer who could have established a plan, put away 25% for all plan participants, but didn't establish it by the deadline?

Last I looked, "coulda and shoulda" provisions don't have code sections.

On the other hand, it never hurts to try. After all, it's only the cost of a VCR filing that's lost if denied. I'd go the VCR route because of portential funding violations, especially if you are going to fund before obtaining a ruling. :D

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If the due date for the filing of the tax return (including extensions) has not been reached, you might try amending the plan and filing for a determination letter, using the provisions of 401(b) as the basis for the legality of the amendment. I have amended a number of plans after the end of the plan year but before the tax return deadline and then submitted them to the IRS. I received a favorable determination letter in every case. However, I haven't tried this for a while so I can't tell you whther it will work or not. You will probably need to document that the allocation to each participant is greater under the amended formula than under the existing one. You might also make a special allocation formula for the prior year only that provides an allocation equal to the greater of the allocation under the existing formula or the amended formula.

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Guest Gregory

Lame Duck makes two great suggestions!!!

It seems as though, since GUST, they are wising up to 401(b) requests that aren't correcting qualification issues.

Assuming either an FDL or VCR, have you thought about which formula will you actually fund? Assuming a 12/31 PYE, it's going to be real close to the funding deadline even if you file today.

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What kind of a plan is this? Are the contributions discretionary to be decided on an annual basis? If the employer has no obligaton to make a contribution for any year and only makes a contribution for a plan year by the dute date for filing a tax return under Rev. rul 76-28 by claiming a deduction there is no benefit accrual until the contribution is made. Amending the plan to provide a specific formula doesnt create a benefit accrual if the employer has no obligation to make a contribution for any year. The cutback rule only prevent a plan amendment which reduces the participant's accrued benefit which in a DC plan is the account balance held under a plan. Reg. 1.411-7(a)(2).

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It's a 4/30 YE so we do have time to get it right. We are leaning towards creating a seperate account and funding that account with the comparability figure, but then splitting into individual accounts the smaller integrated formula figure. Then we can proceed with the VCR. Depending on it's outcome we will either split the rest or hold for following years allocation.

Ok, just read MBozeks post. And I could be twisting words around to fit my needs but...If it's a discretionary contribution and thus no obiligation to fund then we can make a retroactive amendment changing the formula without it resulting any cutback so long as the contribution has not been deposited? Thus making this whole issue moot? or was that wishful thinking?

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Your facts are exactly that contained in TAM 9735001. Do a search on that on the Boards. In that TAM the IRS said that you could not change the allocation formula.

I don't think 401(b) gets you there. As Gregory points out 401(b) only applies to disqualifying provisions which are:

(b) Disqualifying provisions. For purposes of this section, with

respect to a plan described in paragraph (a) of this section, the term

``disqualifying provision'' means:

(1) A provision of a new plan, the absence of a provision from a new

plan, or an amendment to an existing plan, which causes such plan to

fail to satisfy the requirements of the Code applicable to qualification

of such plan as of the date such plan or amendment is first made

effective.

(2) A plan provision which results in the failure of the plan to

satisfy the qualification requirements of the Code by reason of a change

in such requirements--

Given that provision of the Code, I am not sure how much reliance you could really have on the determ letter based on a 401(b) argument.

BTW--The IRS was asked if they were "backing down" on the TAM mentioned above at the 2002 JCEB conference. Below is their response:

20. §411(d)(6) – Anti-cutback rule

Assume a discretionary profit sharing plan (or a §401(k) plan) does not have a 1,000 hour or last day of the plan year requirement. Is there an anti-cutback problem if the plan is amended midyear to:

•increase the annual compensation limit to $200,000 (contribution allocated on a pro ratabasis)

•change the vesting schedule to provide for faster vesting for matching contributions (thereby reducing the amount of forfeitures to be allocated for the year)

•increase the annual compensation limit to $200,000 in a §401(k) plan resulting in the plan passing the ADP test.

Assume a discretionary profit sharing plan has a last day of the plan year requirement but the requirement does not apply to participants who retire, die or become disabled during the plan year. The plan is amended mid year to increase the compensation limit to $200,000. Is there an anti-cutback issue with respect to the participant who retires, dies or becomes disabled prior to the adoption of the amendment?

Proposed response: In a discretionary profit sharing plan there is no anti-cutback issue regardless of whether there is a last day of the plan year requirement. A participant does not accrue a protected benefit until the contribution is actually made to the plan and the participant has met any other requirements imposed by the plan (such as an hour requirement).

In TAM 9735001 a discretionary profit sharing plan’s allocation formula was retroactively amended after the end of the plan year and after a contribution had been made to the plan but before the due date of the employer tax return. The IRS concluded that the retroactive amendment of the formula violated §411(d)(6). The facts presented in the TAM are different from the facts outlined above where the plan is being amended mid year (or in any event by the last day of the plan year) and therefore a similar conclusion should not be applied to the above

facts. Moreover it is our understanding that:

•this TAM is currently under reconsideration;

•the IRS has orally agreed not to challenge anti-cutback issues regarding changes in a discretionary profit sharing plan formula prior to the reconsideration being complete and the IRS issuing something in writing;

•the IRS will not challenge the §411(d)(6) cutback issue regarding EGTRRA amendments for 2002 and that no amendments (with respect to the compensation limit increase or the faster vesting for matching contributions) needed to be in place by the end of 2001 to be effectivefor the 2002 plan year.

IRS response: The IRS agrees with the portion of proposed response that it will not challenge the §411(d)(6) cutback issue regarding EGTRRA amendments for 2002 and that no amendments (with respect to the compensation limit increase or the faster vesting for matching contributions) needed to be in place by the end of 2001 to be effective for the 2002 plan year. Rev. Proc. 2001-42 establishes an amendment procedure for plan amendments, but mandatory and discretionary

amendments, allowing plan sponsors until the end of the 2002 plan year to adopt good faith amendments. Specific §411(d)(6) relief is provided for top heavy plans in that procedure[/color]. The IRS disagrees with the portion of proposed response that the TAM is under reconsideration or that it has orally agreed not challenge anything.

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Of course you could always try those words the IRS loves to hear: scrivener's error.

There might be some validity to the idea of keeping your old allocation formula, deciding not to fund it, and add a new allocation formula. This would seem to be form over substance. But, when you think about it the TAM is pretty stupid to begin with because of the point made by MBOZEK.

However, I believe that the IRS has acknowledged that if you have this kind of problem there is nothing to prevent you from establishing a new plan and not funding the allocation formula of the old plan. But, this would really only work in a situation where you had a 500 hour requirement or something similar for an allocation because you would need to get the new plan up before the end of the year.

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Except that it's after the 4/30 PYE and thus too late for a new plan. An amendment to the old plan is the only alternative. So, now I'm thinking amend the old plan and add the comparability formula with the same eligibility provisions while leaving in the orginall formula. Which leads us back to the original VCP filing with a slight difference. Correct?

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Funny you mention that because Scrivener's Error kind of does apply in that the owner of the company had no idea that the formula had changed because he's not the trustee of the plan. So, although the trustee signed off on the plan document, the plan is clearly not as the settlor of the plan intends it to be. This argument of course would be invalid if the owner were also a trustee, but he's not. But that's up to the IRS to decide...

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In the tam the employer wanted to change the allocation after a contribution had been made to the plan but before the due date for filing the return (e.g., after the contribution had been allocated to participant's accounts). WSP said no contribution has been made so there has been no allocation to the particpants' accounts. Even if a contribution has been made to a plan there is no cut back, if under the terms of the plan, the formula is amended before the contribution is allocated to participants' accounts because the change in the allocation formula did not reduce the participants account balance. Izzarelli v. Rexene Products, 24 F2d 1506.

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Guest Gregory

Let understand this...ONLY the Trustee signed the amendment. Well then, there's your out! Legally, you do not have a valid amendment unless the plan permits ONLY the trustee to execute amendments.

This isn't up the IRS to decide - you decide if it was validly signed. In fact, you never sent out an updated SPD, what evidence do you have to support the company ever consented to it!!!

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Guest Gregory

Follow up thought...if you do determine the trustee unilaterally signed the amendment, I suggest you fire the trustee to support the company's dissatisfaction.

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In fact, you never sent out an updated SPD, what evidence do you have to support the company ever consented to it!!!

What about an IRS submission?

Follow up thought...if you do determine the trustee unilaterally signed the amendment, I suggest you fire the trustee to support the company's dissatisfaction.

Please. We all know that the client will sign what is put in front on him in all but the very large plan world and the very few clients that actually read what they are signing. In no way should the trustee be blamed for not trudging through 100 pages of nonsensical drivel. (That description of the plan document is what anyone not in this business would think.) Anyway, in this case, the first post said it was discussed with the client's management.

Mbozek, I think the IRS' stance has been consistent that an amendment is not available in this situation. I am not familar with the case quoted, and not being a lawyer, I am unsure of it's impact on other clients.

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Last time I looked Ct decisions applied to all taxpayers except the person who received a PLR. Also the IRS can only issue a ruling on a matter of law, not on the facts which involves examining when the contribution is allocated to participants accounts' under the terms of the plan. The IRS cannot deem amounts determined under a formula to be allocated to participants accounts before the amounts are contributed to the plan because the amounts are not included in the participants' accrued benefit under the reg. In the TAM the employer wanted to change the allocation after it was contributed to the plan which is not the case here.

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Trustee is one of three executives and she said it was discussed. In conversations today, she did say that she's not sure if owner was ever made aware of the change. Didn't say yes or no, just not sure. She went further to say that she wasn't sure why it was changed and that in conversations with the administrator, their representative couldn't state for sure why it would have been changed either...so notes on the issue are sketchy. Keep in mind the Owner is not a trustee. Owner in a separate conversation is saying he was not aware that the formula had changed until after pye when draft allocation was supplied to him for his approval. Neither the owner or the other officer were aware that I was having conversations with each other as I was looking for truthful responses rather than what "should be said".

As for IRS submission, it's doubtful there would have been an IRS submission as the timing of the new document coincided with GUST and EGTERRA restatements. Which leads me to think that's why the document was changed as the administrator says in an email that was copied to me that changing the formula would alter their prototype and require submission. So it's a guess that they talked her into it so that they wouldn't need to submit to IRS for approval for GUST. Either cause it was post deadline or some other reason such as they never got approval for a comparability test prototype document.

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The position the IRS takes in 9735001 is that benefits are protected once the accrual requirements have been met. The IRS position does not appear to focus on the timing the contribution is actually made, but again on when accrual requirements are met.

TAM's apply only to the specific set of facts before the IRS, but they do give insight to their position on certain issues.

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In the TAM the contribution was made on January 6th but the IRS determined that any contribuiton made for the prior year--no matter when it was made-- must be allocated based on the formula in existence on December 31.

In the TAM the employer actually argued that the particpiant did not accure a benefit until the contribuiton was actually made. After first noting the inapplicability of the argument because the 1/6 contribuiton had indeed been made prior to the 3/15 amendment, the IRS went on to reject the argument that the timing of the contribution has anything to do with accruing the benefit or preserving the allocation formula.

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TAMs are not precedent and cannot be cited. Fed. Appeals ct decisons are precedent as well as the IRS reg that defines accrued benefit in a DC plan as the the participants account balance. Second the facts are different in that in the TAM employer made the contribution before changing the formula. IRS statement in TAM regarding when allocation accrued is a finding of fact which is outside the parameters of IRS rulings procedures. (In Izzarelli the Appeals ct reversed a lower ct finding of fact that allocation occured automatically when the contribution was made to the plan.)

A taxpayer on the advice of counsel could take an audit positon that no cutback occured because a contribution had not been made to the plan and Izzarelli is subtantial authority for delaying an accrual until the allocation actually occurs in the participant's accounts.

Finally there is no need to worry about a cutback because of a change in formula since WSP states that the contributions will increase because of the change.

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In Izzarelli the Appeals ct reversed a lower ct finding of fact that allocation occured automatically when the contribution was made to the plan.

So I guess both the TAM and Izzarelli are in agreement that whether the contribution has been made is irrelevant to the accrued benefit analysis.

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So, I have two choices....

Make the amendment to delete the other contribution, based on the premise that the contribution has not been made and therefore not accrued. Thus, no cut-back making it ok to replace the formula. Formula added will be added retroactive to prior plan year.

or

Make an amendment adding on an additional formula making it retroactive to prior plan year. No cutback in this method either, simply not funding original contribution.

With both scenarios do I have to have a VCP filing? or does the second scenario only require a determination letter filing since we are adding the comparability test and not removing a benefit?

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the owner of the company had no idea that the formula had changed

but he signed the document anyway...

You may make a case for a scrivener's error, but I would definitively not use that if they already filed for an FDL.

See what Reish Luftman has to say about these...

http://www.reish.com/practice_areas/Techni...s/IRStip117.cfm

Reish Luftman Technical Tip #117

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WSP- you have both options- I dont see the need to make any IRS filing since the participant's account balance is not being reduced. If you file an admendment to add an aditional contribution there is no reduction in the original contribution formula.

JQ- most incidents of scrivner's error are corrected by substituting the correct version of the document which the client intended to adopt for the incorrect document which was signed without adoption of a retroactive plan admendment. In these days of computerized documents it is very easy to make undetectible changes in the document.

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