DB/DC Combined Deductible Limit

[LIBOR]

little rusty on the DC side ; currently an employer with a K plan that only allows deferrals can also have a DB with a required contribution that exceeds 25% of gross compensation.

Question : since this implies that the employer can take a deduction for the deferrals, does he in fact take it as a pension deduction or is it as a business expense in the payroll category for example ??

[WDIK]

The employer pays wages to the employee. This is their expense. The participant elects to defer an amount reducing their personal income tax.

[four01kman]

The employer would probably take the deductions as contributions to pension plans. From an employee perspective, the deferrals are never received as income.

[david rigby]

... except for SS taxable income. And Pennsylvania.

See, there are exceptions.

[LIBOR]

So a DB contribution that exceeds 25% of comp plus the deferrals could all be deducted ?

[david rigby]

Careful. IRC 404(a)(7) refers to the minimum required contribution for the DB plan.

[LIBOR]

thanks Pax ; the minimum required can be an important subtlety !!

thanks all for your time !!

[Blinky the 3-eyed Fish]

But in this situation when the DC plan has only 401(k) deferrals 404(a)(7) doesn't apply, so you could fund the maximum contribution.

[ERISA1]

I've got an existing 401(k) profit sharing plan and want to add a DB plan. I intend to amend the DC plan to prohibit allocations of forfeitures, or employer profit sharing or match amounts to those employees who will become DB plan participants.

Will I be able to deduct the full DB cost and the profit sharing contribution for those employees who do not participate in the DB plan?

I think the answer should be yes. However, I'm concerned that the regulations under Code section 404(a)(7) speak in terms of no one being a "beneficiary" under both plans. My DB plan participants will be beneficiaries under the DC plan because they will have 'frozen' profit sharing balances.

Reg section 1.404(a)-13(a) seem to go further by providing an exception if an employee is not "covered" under both plans. I'm not sure what the term "cover" means. Can I read it to mean the same as "benefitting"? If that's the case, I'm all set.

Do you think I'm ok? Any guidance will be greatly appreciated.

[Belgarath]

I had to consider a very similar question just a couple of weeks ago. FWIW, here's an excerpt from a much longer case-specific writeup - with thanks to Sal Tripodi's ERISA Outline book, which was a succinct source for much of the following:

1. In the absence of specific regulation, one could take the aproach that 1.410(b)-3 is controlling. To be considered as "benefitting" under a DC plan in this specific situation, the participant would have to receive an allocation. Since they are not, then there would be no overlapping participation.

2. The IRS, in PLR 8743096, took the opposite conclusion. Note that this PLR predates the 410(b) regulation referenced above. To further complicate matters, in July of 2003, IRS representatives in a panel discussion indicated that the "benefitting" concept should apply. Then at the ASPA conference in October of 2003, they took the opposite view and stated that PLR 8743096 still represented their position. Given that the ASPA conference question was "pre-submitted" it is likely to be more representative of the current position, since they had an opportunity to consider their position in advance. Also, if relying on IRS statements from the podium (which do not have the force of law) this is the more recent statement.

[Blinky the 3-eyed Fish]

404(a)(7)©(ii)

"If, in connection with 1 or more defined contribution plans and 1 or more defined benefit plans, no amounts (other than elective deferrals (as defined in section 402(g)(3))) are contributed to any of the defined contribution plans for the taxable year, then subparagraph (A) shall not apply with respect to any of such defined contribution plans and defined benefit plans."

This cite spells out that your arrangement is not okay. You are making a nonelective contribution to the DC plan. Note that the cite doesn't state that 404(a)(7) is not triggered if the DC contribution only goes to the non-DB participants. Because your DB participants are deferring and because they have account balances (as cited in the PLR by Belgarath) making that nonelective contribution is what triggers 404(a)(7).

Seemingly you would need an additional 401(k) plan to accomplish what you want. Transfer the balances from the existing DC for the DB participants and allow the DB participants to defer into the new 401(k) plan. It sounds silly that you can accomplish what you want by just starting a new plan, but there are plenty of other examples where a new plan is what is needed to work around the rules.

[ERISA1]

I don't think that the problem is solved by creating a new plan for the DB participants and letting them defer into that plan. 404(a)(7)©(ii) requires that:

"no amounts (other than elective deferrals) are contributed to ANY of the defined contribution plans..."

Since there will be some employees accruing profit sharing contributions under a DC plan, it seems that, to avoid the 25% deduction limit, you need to both:

1. Remove the benefits of the DB participants from the actively funded DC plan; and

2. Not allow the DB participants to make 401k contributions under any plan.

In fact, I'm starting to think that the DC account balances of the DB participants must be distributed entirely - not just rolled to a frozen DC plan. This, of course, is impossible with a 401k account balance.

Does anyone think the following is possible without being subject to the 25% limit under 404(a)(7)?: Company sponsors a 401k psp in which all participants made deferrals. Company now wants to add a DB plan covering some former DC plan participants. Other DC plan participants will continue to accrue profit sharing contribtuions.