Short Plan Year - Prorating NC

[Guest guppy]

If the first year of a new plan is a short plan year, say 2/1/04 - 12/31/04, should you prorate the normal cost for that year?

The DB answer book indicates that for a short plan year, the charges and credits (in this case, the NC only) are adjusted, similar to a terminating plan.

However, a full year's benefit accruals will be earned for 2004 (1,000 hour rule). If you prorate the NC you will get a year-end expected liability less than the actual liability if all assumptions are realized. This will create a loss and I do not believe this is a reasonable funding method.

Thoughts?

[Blinky the 3-eyed Fish]

An interesting question.

I agree the short plan year NC prorating concept is akin to Rev. Rul 79-237. Where you can have additional questions is when a person is also at the 401(a)(17) limit and the compensation period is the plan year. In that instance you have to prorate the compensation and seemingly prorate the NC, which has the effect of double proration, a nonsensical result. This is a case where I would not prorate the compensation limit, but keep the NC proration.

But back to your question - I would chalk up the loss that would generate by the pop up in liabilities in a similar manner to a final average pay formula situation where the compensation increased. You could classify it as a plan year length increase or whatever. The point is that I don't think it throws off the reasonableness of the funding method.

[david rigby]

Can you make the plan effective 1/1/2004 and have this Q go away?

[Guest guppy]

Unfortunately, I'm stuck with the 11 month plan year.

Blinky, as always, thanks for the input, but I'm not following your argument. TUC is my funding method and I don't think the increase in liability can be catagorized as anything other than experience (it's not a plan amendment, assumption, etc). One basic pricipal for a reasonable funding method is that there can be no experience gain or loss if all assumptions are realized. I want to get to your conclusion, but I don't see a way there yet.

Right now, I'm leaning toward not prorating the NC - anybody else?

[Blinky the 3-eyed Fish]

I am not sure what the T in TUC stands for.

Let's say you have an EOY valuation date and a final average pay formula with projected unit credit. The person's benefit for the first year of the plan is:

$50,000 * .02 * 1 = $1,000

Next year his compensation increases to $60,000 which makes his BOY benefit under the funding method:

$60,000 * .02 * 1 = $1,200

See how his benefit changed from the end of the prior year to the beginning of the current year? I chalk your situation up to that result rather than just deciding not to prorate.

[Mike Preston]

T = Traditional, so as to draw a distinction from P = Projected.

I vote for pro-rate (as per what I believe the requirement is under 412). Then do whatever you need to do to make the balance equation work as of the beginning of the next valuation period.

I don't think the requirement to avoid gain/loss is necessarily in play when dealing with an initial short plan year where full year results are pro-rated. It may be possible to make it all work, but if not, I wouldn't think the reasonable funding method rules would be violated.