Age weighted vs New Comparability(before 01/01/02

[Moe Howard]

What are the current differences between an Age Weighted DC plan --and-- a New Comparability DC plan ?

I realize that new comparability plans will be subject to new rules in year 2002 ... but that's not my concern at the moment.

I thought that for years prior to 2002, an age weighted plan and a new comparability plan were exactly the same thing. But a year 2001 adoption agreement (which I just saw) gives a choice of either an age-weighted allocation OR a new comparability allocation.

Please don't laugh at my ignorance (I'm just confused ... very confused!)

THANKS

[pmacduff]

Moe - I'll give my answer and then wait for the wolves! An age weighted plan, even prior to 2002, uses the same "rate" to compute the contribution allocation for all employees based on a future estimated annuity amount, however in conjunction with age, so older employees receive a higher allocation. The theory is that they have fewer years to retirement, less years to fund. We used this many times for our small clients where the owner was, say, over 55 or 60, but his employees were all much younger. This gave him the "lion's share" of the allocation. So, although an age-weighted formula uses the same annuity purchase rate for all employees, the allocations are skewed in favor of older employees. In a new comparability plan, there are many different annuity benefit rates, based on class, points, etc. for example. The testing is then comparing all rates and classes for HC and NHC. So it is my opinion that these plans are, and always have been, different. Also, a new comparability formula, although also influenced by age, considers other factors by nature of its formula. This can benefit many of our employers where the owner may not yet be older, or has a staff closer to his or her age group, an age-weighted would not work.

[Tom Poje]

certainly....

an age weighted plan was the original new comparability, everything else was simply more creative.

beginning in 2002 you may see plans switch back to age weighted.

reason: the 5% minimum gateway would not be required in an age weighted plan...it has smoothly increasing rate bands.

consider a profit sharing plan, no 401k feature.

owner, 200,000 in comp wants a 40,000 contribution.

in a class plan this would require a 5% contribution to the rank and file. In an age weigthed plan.....well, you would have to run the numbers to know. However, the following is the mathematics:

if plan was age weighted, owner receives a 20% contribution.

To receive a 5% contribution, what is the age difference?

20%/5% = 4

so 1.085^?? = 4

??=17, so anyone with more than 17 years different will receive less than 5% and one with less than 17 years different will receive more than 5%.

so, where does the rank and file population fall. That would be the deciding factor.

[Moe Howard]

Tom - Where did the 1.085 come from ?

[Tom Poje]

The maximum interest rate you can use is 8.5%

in other words

ee age 65, 20% contribution

ee age 48, 5% contribution

ee age 65 is at retirement, so his contribution stays at 20%

ee age 48 has 17 years to retirement so his 5% will grow to

5% * 1.085^17 = 20.01%

[mwyatt]

A few points to consider about age-weighted plans v. "new comparability":

1) Disparity in contribution percentages among rank and file employees due to age. A few clients of ours have been concerned that rank and file employees are all getting different contribution amounts (and gets known as his staff all compares benefit statements after distribution). A "new comparability" class-based approach eliminates this problem as everyone in comparable employment classes will (usually) get same percentage of compensation.

2) Disparity in ages between favored HCEs. Again, new comparability can handle this situation better (although problem of that one pesky HCE of young age - hello owner's son - is still unsolved; in fact, you'll need to create a third class to handle the young HCE issue).

3) Older rank and file staff and new 2002 IRC 415 limits: In a perfect world, your owner is old and all staff is young. But what about those few exceptions (the bookkeeper who has been there forever?). Prior to 2002, you may have had this person getting an inordinately large contribution under an Age-Based plan (limited to 25% of compensation with excess being reallocated). But remember, in 11 days this is going up to 100% of compensation so contribution may be brutal (this applies as well to Target Benefit plans by the way). New comparability designs can handle these "exception" employees much better.

You do avoid the 5% threshold test using an age-based design so this is a point in their favor. However, you will probably want to look at results for 2002 both ways to determine the real cost of this threshold before making your decision (probably would be a good idea for all of us to project 2002 results using the 2001 data, especially with the expansion of 415© and higher salary limits, to determine client's best approach for next year).

Just my two cents. As someone previously said, age-based plans were basically the Version 1.0 design after the release of the original 401(a)(4) proposed regs back in 1990.