401(a)(26) for cpb for owners only under audit

[frizzyguy]

Audit fun........

We have a plan right not that got flagged for audit. It is a cash balance plan that is cross tested with a profit sharing plan that has 5 employees. 2 of the employees are the owners and the other 3 are NHCE staff. The cash balance plan was written to exclude the 3 staff members. The plan passes 401(a) and 410(b) based on it being aggregated with the profit sharing plan.

The auditor and legal analyst is saying that it does not pass 401(a)(26) because "the facts and circumstances in this case show that the plan exists primarily to perserve accrued benefits for a small group of employees for the employer. The groups referred to above are the shareholders, since that is the only group that is allowed to participant/accrue a benefit under the cash balance plan."

He specifically cites a line from 1.401(a)(26)-3(2) which states "A plan does not satisfy this paragraph © if it exists primarily to preserve accrued benefits for a small group of employees and thereby functions more as an individual plan for the small group of employees of for the employer." I think it all comes down to the qualatative word 'small'.

In the past we have used this structure before and been granted d letters upon submission. We still believe because 40% employees recieve a meaningful benefit, the plan passes 401(a)(26). I have been asking local actuaries from my area and they all share this belief and I have seen several posts on benefits link that agree as well.

Has anyone seen this response from an auditor before? What happened? Can we ask for a second opinion?

One more twist, we filed for a d letter pending for this same plan and, coincidently or not, the same legal analyst is performing that review. He stated in a letter to the auditor that because it was too late to correct in accordance with the regulation that our client will have to be dealt with through the auditors closing. Isn't the whole reason for filing for a d letter to allow us to correct these types of infractions?

Any help or opinions would be greatly appreciated.

[ETA Consulting LLC]

You are right, but he auditor is right as well. You see, the IRS has stated "INFORMALLY" (I hate when they do that) on several occassions that they interpret 401(a)(26) to mean that you must benefit 40% of NHCEs, not 40% of all employees. That appears to be the substance of the debate you are having, and you both make valid arguments. If I were designing the plan, I would've at least written a small formula into the Cash Balance plan (equating to a significant benefit at NRA) for the NHCEs to avoid the entire argument.

Good Luck on this one!

[SoCalActuary]

Sad that the IRS is doing their traditional mission-creep to tell us to do more than the law requires.

This plan is not designed to preserve. It has ongoing accruals. Further, it provides meaningful benefits in combination with the DC plan.

You need to fight this one.

[david rigby]

You need to fight this one.

The rest of the world needs/wants you to fight this, but your ERISA attorney will advise on what you need to do.

[frizzyguy]

You need to fight this one.

The rest of the world needs/wants you to fight this, but your ERISA attorney will advise on what you need to do.

If money wasn't important, fighting this would be the route to go. We'll wait to see what happens from here for how we proceed. With a five person plan, it just might not be worth it.

I think we're to the point where we want a second opinion before this issue is closed. I'll keep everyone updated on how it goes.

Also, the 40% of NHCE's vs 40% of employees is not the discussion point. It is the fact that 0% of NHCE's are covered. Just want to be clear.

[Effen]

Are you an ASPPA member? Even if you are not I suggest you contact Brian Graff or someone in the government affairs committee at ACOPA about this issue. They may help you in your fight.

I think the IRS is clearly overstepping here, but then again I believe the overstepped when they defined "meaningful" to be a .5% accrual. They often "legislate" knowing that they can't legally back up their demands, but also knowing it isn't worth your client’s money to fight them.

[ETA Consulting LLC]

Also, the 40% of NHCE's vs 40% of employees is not the discussion point. It is the fact that 0% of NHCE's are covered. Just want to be clear.

You referenced 401(a)(26) in your initial post; that is exactly what it is about.

If you argue zero NHCEs are covered, then that would be 410(b) or 401(a)(4). Just the way I see it; not necessarily the way it ought to be

[Tom Poje]

what other situations would this 401(a)(26) reg cite apply?

for example the nondiscrim regs say you can group accrual rates within a 5% range. So I've seen people put the HCE at the 'hi' end and bring all the NHCEs they can up to the midpoint. but that is in clear vioaltion of the further regs which says your grouping can't significantly favor the HCEs. so then why even have a 5% range if you can't use it? one way it was explianed to me is that you put the HCE at th midpoint. by grouping the rates you bring some NHCEs down to the midpoint and you bring some NHCEs up to the midpoint. ultimately a fact and circumstances situation.

this sounds somewhat similar to me. the 401(a)(26) reg is in there for purpose. again, if not for a case like this, then in what situation does it pertain to? (the babblings of a non-DB idiot)

[Effen]

so then why even have a 5% range if you can't use it?

Because it is for testing results, not for plan design.

[frizzyguy]

Hi Effen, I have been tempted to contact them. One worry I have is, what about other plans that do this. When we met the auditor for the first time, he told us this was his first DB Audit. He looked at the doc, got upset and said, "they told me I wouldn't get any cash balance plans, I haven't been trained". That was almost a year ago. I would hate for him to be the reason this is such a big deal.

ERISAtoolkit, 410b and 401a are satisfied by aggregating with a dc plan. 401a26 is a DB plan stand alone rule that says 40% of employees need to be in the plan and recieving a meaningful benefit. It clearly states employees and no where in the reg (or code, which I'd love to follow here) does it reference NHCE's or HCE's.

The plan passes 410b and 401a, we just didn't have any NHCE's in the cash balance plan. It is a fairly common practice, I have seen this design multiple time on takeovers and spoke with others who use this design.

I would go out on a limb and say some of the people commenting in this forum have designed a plan with this before.

[SoCalActuary]

what other situations would this 401(a)(26) reg cite apply?

for example the nondiscrim regs say you can group accrual rates within a 5% range. So I've seen people put the HCE at the 'hi' end and bring all the NHCEs they can up to the midpoint. but that is in clear vioaltion of the further regs which says your grouping can't significantly favor the HCEs. so then why even have a 5% range if you can't use it? one way it was explianed to me is that you put the HCE at th midpoint. by grouping the rates you bring some NHCEs down to the midpoint and you bring some NHCEs up to the midpoint. ultimately a fact and circumstances situation.

this sounds somewhat similar to me. the 401(a)(26) reg is in there for purpose. again, if not for a case like this, then in what situation does it pertain to? (the babblings of a non-DB idiot)

Tom, the 401(a)(26) issue has no reference to NHCE. The explanation given for this code section is that it avoids the situation where the owner only cares about their own plan while neglecting other participants' plans. This is not the case here. This rule eliminated the old practice during the 1980's when each principal in a firm had their own DB plan.

[Effen]

I would be highly suspect if a poorly trained auditor pulled out 1.401(a)(26)-3(2) as a challange. The auditors generally don't go beyond their check list, which is why this smells of IRS attempted mission creep.

I agree, there should be nothing wrong with the design from a 401(a)(26) perspective. If you can't get the auditor to back off, ask to speak to his/her manager. Then you will find out if it is just him/her, or if it is something deeper.

[frizzyguy]

I would be highly suspect if a poorly trained auditor pulled out 1.401(a)(26)-3(2) as a challange. The auditors generally don't go beyond their check list, which is why this smells of IRS attempted mission creep.

I agree, there should be nothing wrong with the design from a 401(a)(26) perspective. If you can't get the auditor to back off, ask to speak to his/her manager. Then you will find out if it is just him/her, or if it is something deeper.

The auditor has stated on many occasions that his manager was the one who brought it up. I have been told in the past that being a manager with the IRS doesn't mean they necessarily know what they are doing either but are instead good at managing. I would rather move up the totem on the legal analyst side. Just a thought though.

[frizzyguy]

UPDATE:

This is still very much unresolved. The actuary, legal analyst, auditor and auditor's manager have been meeting periodically to discuss this and still nothing has happened.

They did ask if there was language in the plan offsetting the benefit is the cash balance plan in a profit sharing plan. I know what you're thinking, did 4 audit professionals from the IRS, after 15 months of audit just ask if this cash balance plan was an offset plan? Yes they did.

<SIGH>

I just needed to get that off my chest, now to another question. Apparently the manager has issue that the assets, which are over 250k, are all at one bank and FDIC insurance only covers 250k. She said there is a "diveristy of funds issue". I have never heard of this before, have any of you? I looked quite extensively. I even researched the FDIC website and found this page:

http://www.fdic.gov/deposit/deposits/insur...html#retirement

I don't think DB plans are even covered. I sent it to the auditor and got a response that didn't even address this page. Has anyone ever seen an audit like this before? It's getting really out of control. I was also told that they were most likely going to recommend a DOL audit because of the "diversity of funds issue".

Any help would be very much appreciated.

[frizzyguy]

Apparently the reason for the extremely long and drawn out audit was because the legal analyst and the actuary couldn't come to a conclusion.

It finally ended and in our client's favor. Way to go field actuary I guess. They came with three "cautionary tales" though that we should be aware of:

1. If another employee is hired, the number of employees that recieve a meaningful benefit will need to be increased to pass 401(a)(26). (DUH!)

2. They stated that if the bank where the money was help ever defaulted that only 250,000 would be backed by FDIC. (It's one of the largest banks in the country, if they go under, our country as a whole needs to worry. Even the client laughed hysterically at that point.)

3. They stated that the AFTAP in the actuarial report should match the SB. (It's an end of year valuation, if you tell me how to factor in their current year deposit into the val, we'll make it happen. AKA, give us EOY guidance.)

It was long, painful and drawn out but it's over. We stated that code trumped regs and we also stated that we wanted the offical position of the IRS on this issue. Whether it helped or not, I don't know. If this issue comes up for anyone else, personal message me and I'd be more than happy to share trade secrets.

In another funny point, I got a call from the auditors manager to get a review of the auditor. I was nice and professional but boy I didn't want to be!