Lorraine Dorsa

Thank you all for your opinions on DB and DC plans. ------------------

I have a client with a floor offset plan who wants to terminate the DB portion of the plan and let the MP portion continue. His issue is that only 2 participants now have a benefit under the DB portion of the plan, the rest are fully offset. These 2 participants are low paid new hires (this is a takeover, I have no idea why the plan was designed this way, but that's how it is, total DB plan assets are less than $12,000). The client really doesn't want to make distributions to these 2 participants since it will cause him PR problems with all his other employees (all of whom are long service). Question: If accruals are ceased under the DB portion of the plan but the plan is not terminated, are the DB benefits offset by the MP balance as of the date of the cease, or by the MP balance at the date of distribution? If the benefits can be offset by the then current balances of the MP plan, it is likely that the benefits of all particpants will be fully offset by their MP balances within 2 or 3 years. The client would terminate the DB plan at that time (assets will be about $10,000 or so since he will pay administrative expenses from the plan assets for the next 2 -3 years), transfer 25% of the potential reversion to the MP plan and then pay the 20% reversion tax and ordinary income tax on the remainder. What do you think? I haven't found anything to say one way or the other what a cease of accruals means in a floor offset plan. ------------------

Are you thinking of a fully insured plan, also called a 412(i) plan? ------------------

There is no relief re the IRC 404(a)(7) limit on deductions when a company sponsors both a DB and DC plans, so you are right that you cannot simply add the DB on top of the existing DC plan without thinking. [For those who are not familiar with 404(a)(7), it limits the maximum deduction in the case where an employer sponsors both a DB and a DC plan and there is overlapping participation to the greater of the amount needed to fund the DB plan or 25% of aggregate compensation. As a result, if the DB cost is greater than 25% there is no room for a DC contribution, or if there is a DC contribution there is only room for a DB contribution of 25% of aggregate compensation less the DC contribution.] I do a lot of plan design for small companies, which means I do a lot of DB and cross-tested plans, so this is something that I face all the time. [i've also written an article for the Fall Issue of the Journal of Pension Benefits (which should be out in the next couple of weeks) discussing the impact of the repeal of IRC 415(e) which also addresses these issues.] What I find is that for very small plans with older owners, the DB benefit/contribution is so much greater (often $75/80/90 and up) that the thing to do is to terminate the DC and replace it with a DB. In slightly larger companies, or situations where it is important to have a 401k plan for the employees, it may be necessary to keep the 401k. In these cases, I suggest the only contributions to the 401k/PS be salary deferrals by the employees and the match (if any) and the remainder of the 25% maximum deduction be used for the DB plan. Sometimes the demographics are such that the DB benefit/cost, while large for the older owner, is a fairly low percentage of aggregate compensation so there is room for both plans. Conclusion--there is real opportunity in the repeal of 415(e), but not without careful analysis. I've seen a dramatic increase in the number of DB plan in the last few years since 415(e) repeal was passed (plans being established in anticipation of the repeal, mostly to allow a full 10 years of participation by the owner so he will be eligible for the full 415(B) benefit when repeal becomes effective) and I expect to see a flood of DB plans next year. ------------------

You are correct (assuming the DB plan is integrated to the maximum). 401(l) limits the maximum permitted disparity in any one year to 1 times the maximum disparity. Theoretically, if the DB is not integrated to the maximum, the unused portion of the maximum disparity could be used in the crosstested plan. ------------------

I use the same software (QT and Ptbs) and I don't know of any automatic way to aggregate across systems or across plan types. What we have done in our office is to separately run the plans to compute the EBARs and then to bring the numbers together in Excel. ------------------

As I have done for the past several semesters, I will be offering a 2 day review class for the C2DB exam in Jacksonville, Florida. Class will be held from 8:30 am - 4:30 pm on Saturday November 6 & Sunday November 7. Cost per student is $400. Contact me at ldorsa@lda-fcpa.com or 904 249-9171 for more info. ------------------

No, I've never had the IRS object when I've submitted a plan with a changed benefit formula for a determination letter(but then again I've never had one with changes each year). Since the definitely determinable issue is there, it seems worth it to get the letter. ------------------

The PBGC regs are quite specific and list a number of professions you might not consider. If in doubt, you can get a determination from the PBGC with regard to whether your plan is covered. ------------------

Another issue to consider is the basic qualification requirement that benefits be "definitely determinable." While there is no specific ruling which says how often a benefit formula can be amended without causing the benefit not to be "definitely determinable," the IRS could make a very good case that it is not if the formula is amended each year. I tell my clients that the formula can be amended only every 2 or 3 years. I also make them get a new determination letter if the plan formula has been amended more than once since the last determination letter. ------------------

I don't know of any Phoenix group, but here are some options: I will be holding a 2 day review course in Jacksonville, FL in mid-November. I'll post the exact dates on this message board next week when I finalize them or you can call me at 904 249-9171. ASPA will be holding a 2 day review course in Denver, also in November sometime, as well as a virtual study group. Contact ASPA at www.aspa.org or 703 516-9300 for details.

"In-service" distributions are permitted in profit sharing plans, but not pension plans. Defined benefit plans may permit distribution of benefits at NRD so this may accomplish what you are trying to do. ------------------

Qualified plans are subject to ERISA which is federal law, so state law issues do not apply to the plan (although I think they do apply to the trust). A basic provision of ERISA/IRC is that in order to be qualified, a plan must operate in accordance with its terms. Thus, if a participant's benefit is X under the terms of the plan, he must be paid X in order to remain qualified. I think the plan has an obligation to do its best to correctly calculate benefits and if it is later discovered (or brought to its attention) that an error was made, to correct that error. (Depending on the number or pattern of errors, it may be appropriate to correct under one of the EPCRS programs, but that should probably be discussed in another message.) On a practical basis, you have to have sufficient data to be able to recompute and correct. If a participant comes to you 20 years later and says my benefit should have been $50/month and I'm only getting $45/month, you may not have the data to recompute and determine the correct benefit, so you'll have to make some decision re what to do. ------------------

I've never been in this situation, but it sounds like a reversion to me. Issue is that reversions are subject to 50% excise tax and ordinary income tax, but this doesn't seem fair (not that fair and IRS rules necessarily have anything to do with each other) since the client made a large "extra" contribution in the year of termination (which may or may not have been deductible in that year, depending on size of plan and relationship of Current Liability to actual payout). I know very little about corporate taxes, but it would be worth talking to the CPA and seeing if the contribution in the year of termination and the refund could somehow be netted out to avoid the excise tax kicking in.

See the PBGC regulations re waivers by owners. Under current PBGC regs, only waivers by "majority owners" (=owners of 50% or more of business) are recognized by the PBGC for purposes of determining if the plan is sufficent to terminate under a standard termination. For plans not covered by the PBGC, I don't know of any cites re owner waivers. At various ASPA and EA meetings over the years, IRS representatives have said that there is no such thing as a waiver of benefits, just a waiver of RECEIPT of benefits. On a practical level, I've submitted a number of plans to the IRS in which owners have waived benefits and have gotten approvals on all of them. ------------------

By "whole" I assume you mean the portion of the benefit by formula not permitted in the qualified plan due to the 401(a)(17) limit. I think the answer depends on the size of the company (small companies often have designed the plan around the principals and have taken this into account in determining compensation) and the individual arrangements the company has made with each highly paid employee. Re the limit increasing next year--the cost of living data so far this year points at an increase to $170,000, but we'll need to see where cost of living is at the end of the year to know for sure. (This ignores possible changes pending in the various pension bills currently in various states of passage in Congress/Executive. My policy is not to count my chickens before they are hatched.) ------------------

For what purpose are you looking at this group re its status as a controlled group? If you are looking at it for purposes of pension plans, the controlled group ownership threshold is 50%, not 80%. Therefore, based on your example, since one individual owns more than 50% of both businesses, they are a controlled group for pension purposes and thus considered a single employer for coverage, non-discrimination testing, etc.

"Overfunded" has several different meanings: Overfunded on a termination basis means that the plan has more than enough $ to pay benefits if the plan terminated today. If the plan is to be terminated today or in the near future, this is relevant. If is not going to be terminated, this fact is somewhat irrelevant. (Theoretical funded status on a termination basis is used in the determination of current liability which is used in certain calculations with regard to full funding and PBGC premiums so it's not totally irrelevant.) Plans which are at the full funding limitation (current contributions are limited because the plan assets are high in relation to the plan benefits) are often called overfunded, but this is often a temporary situation and contributions will be required in future years to pay the benefits that will ultimately be payable. From a participant's point of view, having your plan well or overfunded is like having a security blanket--you know there are plenty of assets to pay benefits. A plan sponsor may think that if his plan is overfunded he has put too much money in the plan and wishes he could have spent the $ elsewhere. In most cases, overfunding is a result of actual experience not matching actuarial assumptions. If, as has been not uncommon in the last few years, if the actuary assumed the plan asset would grow at 7% and they actually grew at 15%, it is possible the plan could become overfunded. Or if the actuary assumed than x% of the participants would terminate employment in a given year and 3 times x% actually terminated, the plan could become overfunded. For an ongoing plan, being overfunded on a termination basis is not an issue--future employer contributions will be smaller and the relation of the plan benefits and assets will tend to move back into synch. If the plan is being terminated, excess assets can either be reallocated to the plan participants, thus increasing their benefits, or reverted to the employer (but are subject to excise taxes and income taxes). In the prior answer, it was assumed that the plan was overfunded on an ongoing basis and that the employer wanted to use some of these assets to provide other benefits (retireee health benefits may be funded through a DB plan), rather than have future contributions be reduced or reduced as dramatically. This is probably a much more complex answer than you expected, but there are different answers depending on what you mean by overfunded. ------------------

If the DB plan is overfunded, it can be terminated and the overfunded amount reverted to the employer. The reversion is subject to an excise tax of 50% (can be reduced to 20% if some of the excess is used to increase DB plan benefits or is transferred to a replacement DC plan) and to ordinary income taxes. The remaining amount is available for the employer to use as it sees fit. So the answer is yes, excess DB assets can be used for corporate purposes, but the cost is very high. ------------------

Classifications can be anything you want, as long as they are "definitely determinable." I have done classifications based on office/subsidiary/division, professional status (physicians, RNs, etc), date of hire, job category, etc. so I see no reason, as long as clearly defined in your document, not to use office location (100 Main Street, 2 Elm Street or Smithtown, Jonesville, etc). Be careful that the language works in your document--just typing in a phrase or two in a prototype, while killing the prototype status, may not clearly define the group or the method of allocating contributions between the groups such that the allocation is definitely determinable. ------------------

A 401(k) plan is a profit sharing plan, so the same rules will apply if the plan is amended to remove the offending features or is terminated and replaced by a new plan.

I've used this de minimis provision in a number of small plans to provide a significant (relative to compensation) benefit for owners, spouses and others with minimal compensation. It works well in plans which only have a very limited number of employees. Be wary of adding this provision to a plan which may have employees other than the owners since employee costs can be unexpectedly high if this de minimis applies to them. ------------------

You can elect to aggregate the MP and PS plans for testing purposes, or to test them separately. (Aggregating means treating them as if they were one plan such that the contributions used in the testing are the sum of the contributions in both plans [although the 401k and 401m contributions are required to be separated (called mandatory disaggregation)]). Sometimes aggregating the 2 plans produces better results than testing the plans separately--you have to try it both ways and see which works better.

Larry - excellent reply! And it applies to all of pension law, not just the specific code sections mentioned. Are you a pension historian by any chance? ------------------

My firm does a lot of work with small closely held companies and our website has information/examples of plans for these types of entities. Look us up at lda-fcpa.com. ------------------