Unlinking a Wrap Plan from 401(k)

[Guest gaham]

I originally posted this in the 401(k) Forum but thought it may also be appropriate here:

I have a question regarding the handling of a nonqualified wrap plan linked to a 401(k) plan. The current design calls for irrevocable deferrals into the nonqualified plan with a "pour over" at the end of the year into the 401(k) of the maximum amount possible. Because of the screwy 409A guidance that limits the amounts deferred under the nonqualified plan to the 402(g) limits, we want to "delink" the plans. Basically the thought would be to prohibit anyone who defers into the nonqualified plan for a year from making any change in his deferral election under the 401(k). However, I am concerned about the rule in the new 401(k) regs. that says that participants must have an effective opportunity to make (or change) an election at least once during each plan year. See Reg. Sec. 1.401(k)-1(e)(2)(ii). I think an argument can be made that those who elect to defer under the nonqualified plan voluntarily waive their right to make any change to the 401(k) deferral election for the upcoming year and this is not a violation of that rule. In effect, it is a voluntary choice made by the participant. Does anyone know whether the IRS has any viewpoint on this? Or does anyone have a better idea?

[Randy Watson]

I don't believe that there is a need to delink your wrap plan as the 409A regulations do not cap amounts deferred under the nonqualified plan in the type of pour over arrangement you are talking about. In this type of arrangement, the amounts are first contributed to the nonqualified plan and then poured out to the qualified plan. As long as your nonqualifed and qualifed elections are made prior to the taxable year for which services will be performed your only concern under the 409A regulations (with respect to linked plans) would be the anti-acceleration rules since you will be transfering assets out of the nonqualified plan. Those rules provide that you do not have an acceleration under the nonqualified plan as long as the action or inaction of the service provider does not result in a decrease in the amounts in the nonqualifed plan in excess of the 402(g) limit.

[Guest gaham]

Randy,

One thing I failed to mention in my facts is that the NQ plan contains a match contribution at the same rate as the qualified plan without regard, of course, to the qualified plan limits. I understand that the regs provide that if a midyear deferral election change in the 401(k) does not increase or decrease the amount deferred under the NQ plan by more than the 402(g) limit then I'm within the rules and do not have to delink. But it seems to me that a midyear deferral election change in the 401(k) could cause an increase or decrease in the amount deferred by more than the 402(g) limit if you include the match amount under the NQ plan. It looks to me like the 402(g) limit is a single limit that applies to the increase or decrease attributable to elective deferrals and match together. Is that your view?

[E as in ERISA]

It is not a combined limit -- you get it once for the deferral and once for the match (under the NQ plan).

[Guest mjb]

gaham: It is difficult to understand what you are talking about. Could you please provide an example of the contributions that are being made to the linked plans. As I understand the rule, an employee can defer any amount into the NQ plan but the NQ plan cannot transfer more than the lesser the 402(g) limit or the plan limit to the 401k plan. A reasonable application of the rule would be to allow the transfer up to the amount deferred by the employee in the NQ plan without the match (although the example does not preclude contributing the match).

[Guest gaham]

E, I like your answer but I don't see where it clearly says that in the regs. Is that the IRS interpretation?

[Randy Watson]

I agree that it's not clear. 1.409A-3(g)(h)(3)(iii) and (iv) (on anti-acceleration)

[Kirk Maldonado]

Given that the regulations are expected in July, wouldn't it make sense to wait to see what they say? It might make for poor client relations if they take a course of conduct now that is less beneficial to them than as allowed by the final regulations.

[Guest gaham]

It would be nice to wait and see what these July regulations (final?) say but what do you do in the meantime? You must operationally comply with the statute in 2005 and 2006, and seems to me it would be advisable to comply with the prop. regs. now if we could figure out what they're saying. What is everybody else doing about this operationally?

[Guest Harry O]

I know folks have been wringing their hands about the once-a-year requirement in the final 401(k) regs. However, the consensus (for what it is worth) is that employees get this opportunity each year during open enrollment for the NQ plan. I have not heard the IRS's view on this but I think the consensus position makes sense.

Why do you feel the need to change your pour over plan? Under what circumstances would a change in the 401(k) election cause the NQ plan deferrals to move more than the 402(g) limits? I would think most pour over designs do pretty well under the proposed regulations (as opposed to spillover plans where NQ deferrals start once the qualified plan limits are reached).