AndyH

If an underfunded plan is frozen, and 5 years later the sponsor wishes to provide an unscheduled COLA (flat % for example) to retirees only, is this permissable? The assumption is that the plan continues to be frozen (not terminated). [This message has been edited by AndyH (edited 06-08-2000).]

I've tried several times to access the freeerisa.com site without any success. Has the link changed? It's been the subject of a few posts, so if anyone is aware of it's demise or relocation, please advise.

Any comments? Personally, I thought the study materials were inadequate. Quite a bit was inaccurate and ambiguous. A large part of the required reading was not covered by the exam. I'd like to hear other opinions.

I've seen a few (takeover) DB plans recently with sex distinct act equiv. Mostly decent size plans (couple hundred participants). In each case the document was done by a law firm, and there were FDL's from a few years ago. I think we've typically ignored the setback for payouts.

Jarel, could you provide a cite for your unrelated business income comment?

Just a head's up. I don't have a complete explanation right now, but I have been told that there is a problem with this. Apparently there is an issue with respect to the QJSA rules which (it is argued) prevents someone who previously was offered a lump sum, declined and selected an annuity form, from subsequently changing that election to a lump sum after payments have started. I think it has to do with the QJSA waiver period. Richard, this seems like an odd situation. First, it is a DB, correct?. Second, was there an annuity election made (versus installments or minimum distributions) I'll see if I can get a more complete explanation for the interpretation summarized above.

The answer to your question is "probably yes". It depends upon how much the invested money will earn and how long the person lives. When the lump sum was determined, (and if it was done this year), it should have been computed using certain standard "tables" assuming an an average life expectancy (amongst health people but mixed 50% male/ 50% female). It was probably computed assuming that the invested funds would earn around 6%-6.25%. The lump sum is supposed to equal exactly the amount withdrawn monthly and paid for an average lifetime with the principal balance earning the assumed "discount rate", which as indicated above should be around 6%-6.25%. As a result, if the person lives a normal lifetime, and the invested funds earn 6%+ each year, there will be a $0 or positive balance when the person dies. If the funds earn 8%, there will be $ left. If the money is invested in a money market, it will run out. The same holds true for life expectancy. If the person lives to be 100, the money may run out. If not, it should be enough. Please note that since the table was probably "blended" male/female, if the person is female, the earnings may need to exceed 6% due to the longer average life expectancy. The above also assumes the distribution qualifies for rollover treatment and a rollover is done. With regard to the 10% penalty, if the distribution qualifies for rollover treatment, withdrawal (from the IRA rollover) prior to 59 1/2 results in a 10% penalty except in certain situations. One of the exceptions is for distribution in substantially equal payments over the person's lifetime. To compute this, you may have to obtain IRS' tables, which should not be difficult. My experience is that most people keep it in the IRA till past 59 1/2. Hope this helps. If I've overlooked something, perhaps the "Board" can supplement my comments. [This message has been edited by AndyH (edited 04-22-2000).]

To Lorraine: Agreed. Thank you for the clarification. To John A: Clearly, different firms have different approaches. We try to insert "failsafe" language which is intended to be permanent, which increases individual dollar allocations if necessary (starting with the youngest) sufficient to elevate NHCE's enough to pass the a(4) test. This avoids many headaches, and the correction is usually inexpensive. The IRS is inconsistent in it's acceptance or rejection of this, but we usually get it through. If this correction is needed more than one year in a row, we consider structural redesign if it does not project to pass in the future. [This message has been edited by AndyH (edited 04-13-2000).]

I would do it differently, by backing into the accrued benefit initially paid, i.e. the actual lump sum divided by the correct pv factor. Therefore, the person may have been paid 5/7 of his accrued benefit. Then, apply the lump sum factors in effect at the time of the final payment, based upon the 2/7 remaining accrued benefit, current age, etc. This seems to me to be the best way of assuring that you've satisfied 417.

Yes, service based designs such as you've stated are fairly common. This approach is what the IRS seems to be pointing to as acceptable go-forward. Other common groupings are done by job classification. Also "Senior management", "Executive management", and the like are common. You can also name people either through the plan document or a separate resolution. These types of groupings, however, are what the IRS seems to be attacking. If you can do it on service alone, that might be the best hope of continuing it after the current scrutiny is resolved.

I'm very surprised to read the response that the correction method need not be in the document. Clearly the testing methodology does not need to be in the document, but I wonder how excessive "employer discretion" is avoided in the correction process. Is there no requirement that allocations be definitely determinable? I'm not saying I disagree, just that I find this very surprising and contrary to what I thought I'd heard at conferences, and contrary to the position our legal department takes (which may or may not be needlessly conservative.) I thought a corrective amendment would be needed by the following 10/15. Any elaboration on how a correction method can be changed from year to year without it being documented through a plan provision or amendment?

Yes.

John A: Seems you (and I) received a pretty specific and thorough answer, thanks to the respondents. Good question.

Also, I'd suggest requesting references for similarly sized clients, preferably in the same business type (manufacturing, non-profit, etc), and geographic location. Ask whether they have E&O insurance (you'd be surprised how many do not). Kind of a joke to me, but many RFP's ask what "disaster recovery" plans are in place-(before Y2K became a (non)issue.) But, this might be helpful if you want to keep them on their toes.

To Lorraine and Jarrel: Thanks for the comments. I want to make sure I understand. I have two clients right now (if not more) that would like to continue accruals (permanently if possible) for current participants, but not allow new participants (some of whom may become HCEs). Assume for a moment that each plan has a one year service requirement. Are you saying the plan(s) can be amended to exclude, for example, anyone hired after 12/31/99? Have you done this for an ongoing plan and received an FDL subsequent to such an amendment? (I stress ongoing because I wonder if the review standard is the same for a terminating or frozen plan, where this is often done.) One plan has about 50 participants and the other about 250. Both could satisfy the ratio percentage test (and 401(a)(26)) for at least a few years with the hire date exclusion. I've had some very bright and very experienced people research this, and we can't find anything definitive either way. We lean (strongly) toward this being a violation of the statutory service requirement, and don't see any basis for considering hire date a "reasonable classification". Are you saying you've done this on more than one occasion and received IRS approval? Any elaboration on the justification for this exclusion? Thanks. [This message has been edited by AndyH (edited 03-27-2000).]

I've been asked this question many times by clients. I have seen it in one case, but the plan sponsor did not have a FDL since the change, and we doubt it's legitimacy. My take is that is a violation of the statutory maximum service requirement, to the extent that the future employees are not excluded by a reasonable classification. One way to get around this is to include them but give them a lesser benefit, which I'm not especially comfortable with but I think it can be done, provided it can pass the general test. You will eventually will have a 410(B) and possibly 401(a) (26) problem since only a portion of non-excludable participants are benefitting. If anyone has done this sucessfully, I'd like to hear about it.

Thanks for the info. Very helpful. One thing stands out, though, "plans already in place". Lots of people are still selling these, presenting them as possibly one year deals only. Is there any scoop on the IRS' ultimate position on new plans?

Although I've been at this for quite a while, I've had little exposure to the restrictions until recently due to the low (but thankfully increasing) CL rates, combined with the RPA mortality. I now have some clients faced with this problem, often takeover plans with previously imprudent funding. I'd be interested in hearing any favorable experiences with bonding or letters of credit. Does this work, and are there reputable financial institutions capable of and experienced with dealing with this within reasonable terms? I wonder in particular about how such an arrangement could be structured without a time limit. How or why would a Bank, for example, agree to an open-ended time limit, other than for a very wealthy HCE with substantial additional invested assets? Any favorable experiences, other than monthly payments, or simply waiting till the ratios improve , which in some cases may take many years? P.S. When will we get spell check on Benefits Boards? [This message has been edited by AndyH (edited 03-24-2000).]

Note: The above assumes that the plan year and the company's tax year are the same, which is not always true. The actual due date for the deposit is 8 1/2 months after the end of the plan year, not the company's tax year. For tax deduction purposes, in the case where the two years are not the same, it may be advisable to deposit it earlier, but the deadline is always 8 1/2 months following the plan year.

Thank you, Richard, this information is invaluable. Hopefully, we'll be able to return the favor in the future.

Thank you very much for the response. Can I ask a couple of followup questions? 1. You indicated that it must be general tested each year. Is there some difference between this and other general tested plans that would invalidate the three year testing cycle, or do you say this just because it would be prudent? 2. Are there any other unusual testing issues? You've implied complications in the general test. The situation I'm dealing with is a fairly large plan. Are there any "tricks" typically used in the testing, or common quirks? The executives that it would be geared for are around 60-63 with long service. The existing formula is a non integrated safe harbor. 3. Is the enhanced benefit formula typically done by class, or is there some other approach which might make it more palatable in terms of employee relations? Again, thank you very much for the information.

The context is a non profit DB with participants above the comp limit. A non qualified has been discussed but the 457 taxation rules are a problem. Now someone is proposing a "QSERP". Any ideas on how that might help?

I know there is controversy over this, and some may take issue with it, but Jim Holland said at ASPA 10/99 in response to a Q&A that the IRS "has the authority to interpret" NRA as something other than what is in the plan document based upon actual retirement patterns, so I think that if they decided to challenge it the deductions may be at risk. We don't use NRAs of 55 due to the potential liability.

Jim Holland said at the 1999 ASPA session that the IRS view's the plans NRD as irrelevant in cases where there is a clear pattern of retirement at later ages. There was a Q&A which I don't have in front of me which was the context for the comment. It had to do with an early NRA. Proceed with caution.

I agree with Mwyatt's commments. The IRS arguments make too much sense to simply go away. The line of reasoning regarding benefits, rights, & features makes a lot of sense to me and does not seem difficult to implement. If a K plan has different match formulas, for example, which must be tested as benefits, rights, & features, why wouldn't different contribution rates be similarly tested. This would make the majority of designs I've seen fail, and probably for good reason. I'd be interested in arguments against the logic in the notice, but I'm not sure what they'd be. [This message has been edited by AndyH (edited 02-26-2000).]