414(k) Account

[mming]

There's a DB plan whose only employees and participants are the two owners. They have identical salary and service histories. Their PVVABs are even identical as their DOBs are just a few weeks of each other. The combined PVs exceeded the total plan assets when their 414k elections became effective. Must they each sign an election to waive a portion of their benefits to make their PVs equal to the value of the assets even though there are no other participants, or is this not allowed? I vaguely remember hearing some time ago that owners cannot waive benefits.

Also, the 414k elections became effective two and a half months into the plan year (plan has EOY val date). Would it be acceptable to not establish formal PVs as of the effective date of the elections and just split the assets down the middle at the EOY? FMVs for the assets as of the elections' date would be hard to come by, but it's obvious that contributions would have not been required at any time during the year. All help is appreciated.

[Mike Preston]

I think you need to get to ERISA counsel.

414(k) elections, to the extent they are valid at all, must, IIRC, under the 414(l) regs be a complete transfer of benefits. How do you do that in an underfunded plan? Maybe their is a way, but I haven't discovered it to this day. I hope your counsel has better luck.

If there is a transfer, it is a speciric dollar amount so the trust must be valued if 100% of the monies are being transferred. Why is this hard?

Keep in mind that 414(k) elections are frowned upon by the IRS so dotting the i's and crossing the t's is especially important.

Now, to the practical side of things. Why a 414(k) in this circumstance? They are most attractive when there is a good reason not to terminate a plan, but excess asset accumulations during the period before the plan actually terminates might create a problem. In this economic environment it hardly seems worth the effort.

Just terminate and pay out to the extent funded, since the plan isn't covered by PBGC.

What am I missing?

[mming]

The majority of the plan assets are trust deeds, so rolling over the distribution to an IRA would be difficult. I've heard of some firms that offer IRAs which would accept such investments but they go out of business by the time I need them (are there any goods ones out there?). Because they are trust deeds, however, the assets in the plan have been steadily increasing over the last three years, contrary to the market.

I may be a little rusty on this - it's been awhile since I've had to deal with a 414k account - but the impression I have is that the goal is to establish it before one's PV exceeds the lump sum 415 limit. The benefits are underfunded, but if the assets exceeded the PVs a reversion would exist as there wouldn't be any other participants to soak up the excess. How does one segregate the value of 100% of the total benefits once the assets grow to the right amount in this situation?

As for the transfer of the assets, I remember seeing it done in the past as just a "paper" transaction, i.e., the 414k account remained part of the DB (in this case it would be 100% of the DB) without any new investment accounts being opened or any existing ones being renamed. The trust stays intact and a Schedule B gets filed every year with lots of zeroes and a footnote that says the applicable assets are now utilizing the provisions of IRC 414k. Have I been running with the wrong crowd?

[Mike Preston]

It is definitely a very thin window opening that you must fit through. You need somebody to review the transaction from top to bottom.

[David MacLennan]

I have some experience with this situation.

Mike Preston is right that IRS doesn't take well to the 414k account idea. I think it may have started with some comments from IRS spokepeople at the LA benefits conference a year or 2 ago about how 414k accounts had to be transferred out of the plan and back again to be valid. However, the ERISA attorneys I have spoken to think that what the IRS spokespeople said was untenable and they would lose badly if it ever went to Tax Court. Also, it would contradict a long history of favorable determination letters given for 414k account procedures (lots of DB documents have 414k provisions).

I would check to see that the plan document effective at the time of the "paper transfer" has the 414k language and that it was followed. If so, and you have a determination letter, you are probably OK since you have reliance. In addition, make sure the GUST document does have 414k language and get a det letter (my approved GUST prototypes all have liberal 414k language). Also, if only the GUST doc has the language and letter, that's better than nothing. There's prob lots of money at stake here, right?

I would also submit a 5310. I have done this for several plans with "paper" 414k accounts and received favorable letters.

I'm not sure about the waiver issue. Mike Preston is right that it is questionable. Waivers cannot be recognized for funding purposes, but the issue is muddled here by the 414k transfer. I think the more important issue is whether the 414k is legit as opposed to any funding deficiency.

Be sure to inform the client about the risks and that you can't guarantee anything.

Good luck.

Here's some Q&A from 2001 EA Conference:

QUESTION 25

Section 415: Effect of Transfer of DB Benefit to 414(k) Account

Does the transfer of an accrued benefit under a defined benefit plan into the plan’s 414(k) account at the time of a distributable event have the effect of converting that accrued benefit into a defined contribution account which is no longer subject to the 415 limit applicable to a defined benefit plan?

IRS RESPONSE

Transfer rules under 411(d)(6) regulations (see Reg. 1.411(d)-4, Q&A 3) do not allow defined benefit characteristics to be given up with a transfer within a single plan. One would need to roll the money out of the plan (could then be rolled back in). The accrued benefit under the defined benefit portion of the plan needs to be restricted to the applicable 415(B) limitations at the time of rollover.

[Guest dsyrett]

To the original question. I would want to check the plan language but wouldn't a 414k conversion in an underfunded plan mean that the lump sum value of the benefits was converted to a 414k balance, underfunded as compared to assets, to then grow at the same rate as the underlying assets?

On this basis, funding would have to continue to make up the shortfall.