Vesting Schedule and anti Cutback rules

[Alex Daisy]

A 401(k) Plan was amended and restated on 1/1/2007. The previous vesting schedule was 5 year graded, and the new vesting scheule is a 6 year graded.

Am I correct to say that any employee hired before 1/1/07 must use the 5 year graded vesting schedule and any employee hired after 1/1/07 must use the 6 year graded vesting schedule?

Does this have something to do with the anti cutback rules?

Any thought would be greatly appreciated.

ALEX

[david rigby]

The rule(s) applicable to change in vesting schedule are not part of the "anti-cutback" rule(s), but they are related, in a general sense.

Anti-cutback: IRC 411(d)(6)

Change in vesting schedule: IRC 411(a)(10). If the plan is amended to change the vesting schedule, any participant who has at least 3 years of (vesting) service must be permitted to elect which vesting schedule to be covered under. In practice, I've never seen the election; rather, the amendment provides the "greater of" for any affected participant with 3 or more years of service.

[Guest Sieve]

If the amendment does not provide for the "greater of" language mentioned by david, then those individuals (3+ years) must be given the election to continue under the old vesting schedule. Moreover, no vested percentage (of any participant) can be reduced below its pre-amendment percentage.

Also, I believe there is (or was it revoked?) a proposed reg along the lines of the Heinz case, where the old (greater) vesting schedule must apply to all account balances as of the date of the vesting schedule change.

[Alex Daisy]

If the amendment does not provide for the "greater of" language mentioned by david, then those individuals (3+ years) must be given the election to continue under the old vesting schedule. Moreover, no vested percentage (of any participant) can be reduced below its pre-amendment percentage.

Also, I believe there is (or was it revoked?) a proposed reg along the lines of the Heinz case, where the old (greater) vesting schedule must apply to all account balances as of the date of the vesting schedule change.

So, anyone with 3 years or less of service needs to follow the new longer vesting vesting schedule?

[Laura Harrington]

Sort of.

Let's take someone who had 2 vesting years of service at the time of the change in the vesting schedule. Under the 5 yr schedule he was 40% vested.

Because he had less than 3 years of service at the time of the change, the employer does not have to give him the option to stay on the 5-yr schedule. But that does not mean he automatically switches to using the 6-yr schedule.

As Sieve said, no vested percentage can be reduced below it's pre-amendment percentage. Under the 6-yr graded schedule he would only be 20% vested at 2 years. So, when the change occurs, he has to stay at 40% vested until his vesting percentage would increase under the new 6-yr schedule (which would be when he has 4 vesting years of service).

[Laura Harrington]

Also, the regulations that Sieve referred to were finalized in August 2006: 1.411(d)-3(a)(3) and (4), and 1.411(d)-3(b)(4).

Basically what the regulations say is that the rules I stated in my prior post apply only to benefits accrued after the change in vesting schedules.

For the benefits accrued before the change, the participant has a protected right to remain on the 5-year schedule.

[Guest Sieve]

Thanks for finding the reference, Laura. (I guess I was inadvertently correct when I said the proposed regs might have been revoked--they were, in favor of final regs!!)

By the way, the other vesting rules with regard to amendment of a vesting schedule are in IRC Section 411(a)(10) & Treas. Reg. Sections 1.411(a)-8 & -8T.

[Alex Daisy]

Sort of.

Let's take someone who had 2 vesting years of service at the time of the change in the vesting schedule. Under the 5 yr schedule he was 40% vested.

Because he had less than 3 years of service at the time of the change, the employer does not have to give him the option to stay on the 5-yr schedule. But that does not mean he automatically switches to using the 6-yr schedule.

As Sieve said, no vested percentage can be reduced below it's pre-amendment percentage. Under the 6-yr graded schedule he would only be 20% vested at 2 years. So, when the change occurs, he has to stay at 40% vested until his vesting percentage would increase under the new 6-yr schedule (which would be when he has 4 vesting years of service).

Laura:

I understand and follow your logic 100% up until the part when you say "So, when the change occurs, he has to stay at 40% vested until his vesting percentage would increase under the new 6-yr schedule (which would be when he has 4 vesting years of service)."

I do not follow the part about staying at 40% vested until his vesting % would increase under the new 6yr schedule.

[ERISAnut]

I do not follow the part about staying at 40% vested until his vesting % would increase under the new 6yr schedule.

Laura we merely quoting the rule that a person with 2 years of service under the 5 year graded schedule is 40% vested. Next year, he would be normally be 60% vested, but the plan is amended to a 6 year graded schedule, 0,20,40,60,80,100.

Even though the participant with 2 years of service is entitled on only 20% vesting under the NEW schedule, he remains at 40% vesting because it is protected.

So for him, his vesting is 20 after year 1; 40 after year 2, 40 after year 3, 60 after year 4, 80 after year 5, and 100 after year 6. Notice how 40 gets double years.

[BG5150]

I always thought: old money stays on the old schedule and new money goes on the new schedule for the newer ee's, and people w/ three or more years get to pick which vesting sked to stay in.

[ERISAnut]

I always thought: old money stays on the old schedule and new money goes on the new schedule for the newer ee's, and people w/ three or more years get to pick which vesting sked to stay in.

You are correct in many instances. Sometimes when the law changes to impose a more liberal vesting schedule, it typically applies to 1) only those employees who perform service on or after a certain date and 2) only those employer contributions made on or after that date. Everything else, (i.e. applying vesting schedule to all employer contribution balances and all employees) is up to the discretion of the employer whether to amend their plan to provide it.

Sometimes, however, vesting changes affect everything that is currently there, in addition to contributions going forward. However, they do typically apply to only those employees performing an hour of service after a certain date.

So, you are right. It will always depend on the specific circumstances as to what is required, and what flexibilities are allowed to the employer.

[david rigby]

BTW, don't forget that a plan that goes in and out of Top Heavy status is considered to have a change of vesting schedule (assuming the plan defines two different vesting schedules for this purpose).

[ERISAnut]

BTW, don't forget that a plan that goes in and out of Top Heavy status is considered to have a change of vesting schedule (assuming the plan defines two different vesting schedules for this purpose).

Very important observation. It would be a good idea to draft the plan to state that once the plan becomes top heavy, it will remain on the top-heavy schedule and not automatically revert back. If it automatically reverts back, many employers (i.e. prototype adopters) will likely miss the rule where employees with 3 years of vesting service may elect to remain on the top-heavy schedule.

Fortunately, this will not be a huge problem for DC plans going forward. I would hate to imagine the non-compliance on this single issue over the past years.

[401 Chaos]

I would be appreciative for any thoughts on the following situation: For years, Plan provided for immediate 100% vesting of employer match. Plan recently switched to 100% vesting after 2 years to be applied to all employees hired on or after January 1, 2008. Previously terminated employee that was 100% vested at the time he left is rehired now after more than 5 years break in service. Does the employee get benefit of his previous 100% vested status? Would the answer change if the individual was eligible to participate in the 401(k) plan when it provided for 100% immediate match but did not do so and so has never been a 100% vested 401(k) plan participant?

[GMK]

For what it's worth, I'm used to seeing that although service after a 5 year break does not count toward vesting before the break, service before the break does counts towards vesting after the break.

Perhaps the Plan Document has a section that specifies how to deal with vesting after a 5 year break, even though it was written when 100% vesting was immediate.

I don't know if there is a general "once 100%, always 100%" rule, but maybe someone will post the answer.

[401 Chaos]

GMK, Thanks for your note. I had the sense that the rules (or at least informal IRS guidance before the final rules) led you to a "once 100% always 100%" outcome but I'm not sure that is necessarily correct under the final regulations, particularly with a rehire that was never a participant in the Plan before. Would welcome any thoughts along those lines.