Quarterly penalties

[FAPInJax]

This is another end of the year valuation question.

Part of the quarterly penalty calculation involves determining the minimum funding requirement at the beginning of the year.

The actuary has decided to change interest rate from 5% to 7% at the 12/31/2003 valuation.

The credit balance is brought forward with 5% to 12/31/2003.

However, when the minimum funding requirement is determined (using the 7% interest rate) WHICH interest rate is used to bring it back to the beginning of the year??

A 5%

B 7%

The IRS appears to say that everything that happens prior to 12/31/2003 is at 5% and that the change does not occur until then.

Thanks to any responses in advance.

[david rigby]

What do you mean "...appears to say..."?

[SoCalActuary]

I disagree with the math.

For an end of year valuation, the interest rate chosen is used for all purposes for the plan year, in my opinion.

Thus the credit balance is brought forward at the valuation interest rate.

The reconciliation account is brought forward at the valuation interest rate.

The plan cost is determined at the end of the year using the valuation interest rate.

The cost is discounted back to the beginning of year at the valuation interest rate.

The determination of quarterly penalty is used by comparing the valuation interest rate to the 175% mid-term rate.

The amortization of bases is made using the valuation interest rate, based on the balances computed at the beginning of year, brought forward with interest to the end of year with the valuation interest rate.

The payment period is not changed, so the payment is re-amortized using the valuation interest rate.

Can you give a cite from the IRS position to say that all these activities above are based on the prior interest rate?

[David MacLennan]

If it's an immediate gain method you use last year's interest rate to determine the gain/loss, so that's one known exception. It seems the general answer for interest on charges and credits depends on when the change of interest rate is effective, beg of year or end of year (which would be at the actuary's discretion?). Or, is there an IRS promulgation that addresses this?

[FAPInJax]

Well, I may be looking at the exceptions (for example the calculation of the gain/loss) BUT the amortization bases are also referred to 1.404(a)-14(h)(3) which states that the 'interest rate from the valuation date in the prior plan year....'.

It was just questioning, when performing a valuation at the EOY, which interest rate brings the minimum funding requirement back to the beginning of the year (because of these exceptions - is this another one???)

[Blinky the 3-eyed Fish]

I am of an opinion the opposite of SoCal. I believe the valuation interest rate is used from the valuation date to the next valuation date, not retroactively based on the plan year. So for 412(m) for an EOY valuation, I have applied the old pre-retirement interest rate in bringing back the current year's minimum funding to the BOY.

[SoCalActuary]

I've done the math both ways. Either is defendable, changing the rate at the beginning of the year for the whole year, or changing the rate at the end of the year.

However..... commercial pension software cannot handle it at the end of the year..

There are no convenient mechanisms in neither Relius, ASC nor Datair to make the change at the end of the year only. Each used the valuation interest rate for preretirement funding to perform all the functions I described.

For gain loss purposes, I run the val with old and then new assumptions to get the amount of gain/loss in the accrued liability when using an immediate gain method.

So until my tools allow the other approach, I stand on my position.

[Blinky the 3-eyed Fish]

I agree that mathematically it will work both ways. Conceptually though, I have trouble justifying a retroactive assumption change made as of the valuation date. But that is just my opinion as I am sure you will find multiple actuaries that do it either way.

Now if you are basing your decision on convenience due to the limitations of your software, well then I would say get better software or embrace inconvenience.

[SoCalActuary]

My position is not difficult to accept. The valuation rate is applied for the plan year, even though the decision is made at the end or after the end of the year. This is not an illogical point of view, in my opinion.