Target Benefit Funding Amount?

[Jed Macy]

In 2002 the §415© percentage limit will increase to 100%, but the §404 deduction limit for target benefit plans will remain 25%.

Assume a target benefit plan where there are several participants who have been limited to 25% due to §415©; but without the application of the §415© percentage limit, their normal cost could be much higher (even higher than 100%).

In 2002, if the normal cost is allowed to go up to 100%, and as a result the total cost exceeds the §404 25% deduction limit, what do you do? Or should I ask what should you have done?

Does the existing plan language limiting total cost to that which is deductible prevent the nondeductible contribution? If yes, how should the document allocate this limitation amongst participants?

Can you leave the §415© percentage limit at 25% even though the law allows it to be 100%? (Or is it required to be raised?)

Can you raise the §415© percentage limit to 100% but specifically limit each participant's normal cost to 25%? If you do so but the only participants who are limited to 25% are Non-HCEs does the plan violate §401(a)(4)?

[AndyH]

Good questions. I'd think you'd have to fund the 412 amount without regard to the deduction limit and pay a penalty on the difference if need be. I don't see any way of limiting any NHCE to 25% without violating the safe harbor rules.

So, this becomes a critical consideration of plan design.

P.S. I'm not sure this would be any different with an age based ps plan, except that in that case the contribution can be limited to the 404 limit.

[Richard Anderson]

Doesn't 1.401(a)(4)-2(B)(4)(iv) allow for a plan to limit a participant's allocation to a plan specified dollar amount or percentage of compensation without violating the safe harbor.

I don't see why a plan couldn't have an allocation limit of 25% of comp. What am I missing?

[AndyH]

Yes, Richard, you're right. Thanks for the cite. I didn't realize the percent of pay limit was there.

[Jed Macy]

While I like the result that literally comes from Treas. Reg. §1.401(a)(4)-2(B)(4)(iv) about allowing a plan to limit a participant's allocation to a percent of compensation without violating the safe harbor, it nevertheless does not seem consistent with the basic idea of a target benefit plan (i.e., to fund enough to get every one to a targeted amount of retirement income).

When the limit is imposed by statute (i.e., §415©), you have to comply with it. But the above regulation was issued before the §415© percentage limit was raised to 100% and it seems that a plan sponsor imposed limit which only limits Non-HCEs might not get the same "safe harbor" status in these regulations if issued in 2002.

[Richard Anderson]

A limit on only NHCEs will not be a safe harbor.

[Jed Macy]

I did not mean that the plan would say the limit applied only to Non-HCEs. It would apply to all participants, but the result could be that it applies only to Non-HCEs because the HCEs' normal cost is under the plan sponsor imposed percentage limit.

For example, HCE's normal cost is 24% of pay, Non-HCE's normal cost is 40% of pay and plan document says limit is 25% (after law has raised the §415 % limit to 100%) for all participants.

Would this comply with the safe harbor? Literally, it appears to do so, but it seems to violate the spirit of the safe harbor regulation for a target benefit plan. I would like to read that you disagree.

[Guest sdolce]

I'm late to this thread so maybe I've missed something along the way. If so I apologize, but here goes:

1.WRT the deductibility question,can you look to 404(a)(1)(A)(i)? A target benefit plan is a pension plan subject to 412.so why can't you deduct the required contribution?The section makes no reference to 25% of comp as a limit.The onlyplave I see mentioning the 25% limit is 404(a)(7) dealing with DB/DC combinations.The only other limit appears to come from 404(j),which says you can't get a deduction for contributions in excess of the 415 limit.

2.WRT the testing issue,if the plan restricts the allocation to some stated amount,it does appear that this qualifies as a safe harbor,so the general test doesn't come into play.Even if it doesn't meet the safe harbor,it would seem that you should be able to cross-test on equivalent benefits using the limited contribution?If you have a target benefit plan I would assume that the plan population is such that cross-testing is viable?

[AndyH]

I wonder if this percentage limit discussion has exposed another benefit to a target plan versus an age based ps plan.

A percentage limit is ok for a safe harbor, I agree, but I wonder whether a percentage limit in an age based profit sharing plan would put the plan outside the gateway rules.

If so, a client with old participants might be better off with a target if an age based allocation would exceed 25%, since it would appear that they could limit the contribution in the target to a certain percentage of pay.