Notice 2007-28

[Penman2006]

Regarding Q&A 8 of Notice 2007-28, from what I read the following example would apply:

Total Comp = 500,000

DB MRC = 100,000

PS Contribution = 50,000

6% of Pay = 500,000 x .06 = 30,000

25% of Pay = 500,000 x .25 = 125,000

The 404 deductible limit would not be exceeded because 100,000 + 50,000 - 30,000 = 120,000 which is less than 125,000 (25% of Pay). The actual 404 limit would be a total DB + PS of 155,000.

Agree or Disagree?

I think there was some uncertainty amongst practitioners (or maybe just me) before this guideance. I had thought that the consensus on this board was that the limit was the DB min + 6%, but if 6% was exceeded then the 25% applied (no "free" 6%). In that case, in the example above, the limit would be 130,000.

I notice that throughout Notice 2007-28, the author (Jim Holland) uses the phrase "6% of compensation of participants in those plans" everywhere except at the end of the last sentence in A-8 where he says "6% of compensation of participants in defined contribution plans". .......Hmmm.

[Guest lerieleech]

There were definitely differing opinions, although I don't think I would agree that the consensus was that if the DC contribution exceeded 6% of pay, you would not get a 6% offset.

And yes, I agree with your interpretation.

Also, from my quick reading of the notice and brief discussions with others, it appears that:

1. If the DC contribution is 6% of pay or less, the DB contribution can be made up to the maximum deductible amount, including 150% of unfunded CL.

NOTE: I am editing this several hours later. Now that I have had some time to look this over more closely, I am thinking my initial interpretation stated in #1 was incorrect. I believe that in cases where the DB minimum equals or exceeds 25% of comp, you can only contribute the minimum, including treating unfunded CL as part of the minimum calculation. I don't think you can deduct the maximum.

I would be interested in what others think.

2. The adoption of a new plan, in most cases, doesn't count as an amendment. Exception applies in certain cases where there was a prior terminated DB plan.

[SoCalActuary]

The example works fine, so long as the $500,000 payroll covers all the people getting an employer allocation in the DC plan. Watch out for those excluded from the DC plan by a last day requirement,

[John Feldt ERPA CPC QPA]

Penman2006: Agree, per Q&A #8

[Guest lerieleech]

Just to point out, i edited my earlier post, as I read Q&A 9 differently when I had more time...and would like to see what others have to say.

[John Feldt ERPA CPC QPA]

Well, it initially appeared to me that the 404(a)(7) limit disappears if the employer portion of the contribution to the DC plan is 6% or less. Then I read the second sentence. Then one more time, skipping the long parenthetical.

This second sentence of Q&A 9 could mean that the combined plan limit (when a DC plan exists) will limit the DB contribution to the minimum funding requirement or, if greater, the DB maximum deduction limit (but not more than 25% of comp), but I need to look further.

[Guest lerieleech]

The thing that caught my eye when I read it the second time is the difference in the wording between the last sentence in A-7 and the first sentence in A-9.

In A-7, in describing what happens when elective deferrals are the only contributions in a DC plan, it says that "the plan is not taken into account in applying the limits of [section] 404(a)(7)."

In A-9, in describing the scenario in which the employer makes a DC contribution of 6% of comp or less, it says, "the combined limit of [section] 404(a)(7) does not apply to any employer contributions to defined contribution plans."

[Guest BDZ]

1. If the DC contribution is 6% of pay or less, the DB contribution can be made up to the maximum deductible amount, including 150% of unfunded CL.

NOTE: I am editing this several hours later. Now that I have had some time to look this over more closely, I am thinking my initial interpretation stated in #1 was incorrect. I believe that in cases where the DB minimum equals or exceeds 25% of comp, you can only contribute the minimum, including treating unfunded CL as part of the minimum calculation. I don't think you can deduct the maximum.

I'm in my first several hours so I am still interpreting 1. above as being correct. From Q&A 8, "... to the extent such contributions do not exceed the amount necessary to satisfy the minimum funding standard for the defined benefit plans, treating a contribution that does not exceed the unfunded current liability as an amount necessary to satisfy the minimum funding standard..."

Q&A 9 indicates that the combined limit of 404(a)(7) does not apply if DC contributions do not exceed 6%. What is wrong with my logic?

[david rigby]

Q&A 9 indicates that the combined limit of 404(a)(7) does not apply if DC contributions do not exceed 6%.

IMHO, that is not what Q&A9 is saying. It does not say "404(a)(7) does not apply"; you still have the 25% deduction limit, but only w/r/t the DB contribs.

[Guest lerieleech]

Q&A 9 indicates that the combined limit of 404(a)(7) does not apply if DC contributions do not exceed 6%. What is wrong with my logic?

It says the combined limit of 404(a)(7) does not apply to the employer contributions made to the DC plans. The next sentence seems to indicate that the limit does apply to DB contributions.

[Blinky the 3-eyed Fish]

I would like to break it down a bit.

404(a)(7)© is as follows:

© Paragraph Not To Apply In Certain Cases

(i) Beneficiary Test

This paragraph shall not have the effect of reducing the amount otherwise deductible under paragraphs (1), (2), and (3), if no employee is a beneficiary under more than 1 trust or under a trust and an annuity plan.

(ii) Elective Deferrals.

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.

(iii) Limitation-

In the case of employer contributions to 1 or more defined contribution plans, this paragraph shall only apply to the extent that such contributions exceed 6 percent of the compensation otherwise paid or accrued during the taxable year to the beneficiaries under such plans. For purposes of this clause, amounts carried over from preceding taxable years under subparagraph (B) shall be treated as employer contributions to 1 or more defined contributions to the extent attributable to employer contributions to such plans in such preceding taxable years.

(iii) is the new section added by 803 of PPA. Clearly it states that 404(a)(7) doesn't apply when DC contributions do not exceed 6% of compensation paid to beneficiaries under the plans. Just like it doesn't apply when you don't have common participants.

Now, in looking at Q&A 9, which I copied below for reference:

Q-9. How does the combined limit of § 404(a)(7) apply when employer contributions to defined contribution plans (other than elective deferrals) do not exceed 6 percent of compensation of participants in those plans?

A-9. When employer contributions to defined contribution plans (other than elective deferrals) do not exceed 6 percent of compensation of participants in those plans, the combined limit of § 404(a)(7) does not apply to any employer contributions to defined contribution plans. In such a case, the combined limit of 404(a)(7) i.e., the greater of 25 percent of compensation, or the contributions to the defined benefit plan or plans to the extent such contributions do not exceed the amount necessary to satisfy the minimum funding standard for the defined benefit plans, treating a contribution that does not exceed the unfunded current liability as an amount necessary to satisfy the minimum funding standard for each defined benefit plan) applies only to contributions to the defined benefit plans.

I agree with lerieleech, that the answer is stating that 404(a)(7) doesn't apply to the DC contribution, yet the DB is limited. This is a completely incorrect interpretation in my opinion when the code is so clear. How are mistakes like this made?

I have prepared many 2006 contribution results on the basis of keeping DC contributions under 6% and taking advantage of the 150% of CL deduction. I know my clients would win in tax court, but I certainly don't want them to go there. Rant over.

[John Feldt ERPA CPC QPA]

Great post Blinky. Somebody needs to ask Jim Holland why he wrote it that way at the end of Q&A 9.

I have some spare time on Friday, maybe I'll try to call him.

[AndyH]

We noticed the same thing and agree. I think it is a mistake. The 150% is implied but not stated. March madness. This notice is incomplete and inaccurate. I bet it was rushed for 3/15.

[Blinky the 3-eyed Fish]

He's off until Monday. I sent him an email.

[John Feldt ERPA CPC QPA]

ok, thanks. I'll see if we know anything new by the end of Tuesday then.

[Blinky the 3-eyed Fish]

He responded to my email. Sorry I can't share the content but I am sure the word will get out soon enough. BTW, the explanation didn't change my mind.

(Spelling error)

[Penman2006]

Blinky, can you ask him about the wording at the end of A-8 that I mentioned in my earlier post? Nobody commented on it, but I think it's a mistake and it could be both a limiting factor and a needless twist to be concerned with if not corrected (assuming it is a mistake).

As I mentioned above:

"I notice that throughout Notice 2007-28, the author (Jim Holland) uses the phrase "6% of compensation of participants in those plans" everywhere except at the end of the last sentence in A-8 where he says "6% of compensation of participants in defined contribution plans". .......Hmmm."

[Blinky the 3-eyed Fish]

Isn't "those plans" always following the mention of contributions to defined contribution plans?

The wording of the code states that the 6% determination is based on benefiting participants in the DC plans, so I think Q&A 8 is consistent with the code. Thus if you have a participant only benefiting in the DB plan, you don't count his compensation in the determination of the 6% figure.

[AndyH]

Blinky, from what you know, could you tell me how you think the IRS views the following?

DB 412 10% of pay

DB 100% CL 20% of pay

DB 150% CL 40% of pay

DC contribution (same participants) 3%

Last week it was clear to me that the DB deduction limit was 40% of pay. The Notice seems to say that the limit is 20% of pay. What do you think?

p.s. Upon further read of this awful Notice, I think the DB can be 22% (25-3), but again the answer should be 40%.

[Blinky the 3-eyed Fish]

The answer I glean is the DB would be 25% of pay because the 3% DC would be disregarded. Since there is a DC contribution, the DB is subject to the greater of 25% of pay, the min funding or 100% of UCL. I agree the answer should be 40% from your example, but it's not, well, at least not right now.

[AndyH]

Thanks, but.....

How do you get the DB up to 25%? Once the combined limit hits 25.001%, it seems that JH is saying that 404(a)(7) applies the 150% goes away, no?

[Blinky the 3-eyed Fish]

The last sentence of Q&A - 9 states that 404(a)(7) applies only to contributions to the defined benefit plan. In your example, 25% was greater than the min or 100% of UCL. You are able to contribute up to 25% because of 150% of UCL but only up to 25% of comp to stay within 404(a)(7)

[AndyH]

Got it. Thanks.

[david rigby]

You are able to contribute up to 25% because of 150% of UCL but only up to 25% of comp to stay within 404(a)(7)

I agree, except that this should be deduct.

[Guest BDZ]

If we change AndyH's example such that the DB 412 is 30% of pay and the employer desires to contribute 6% to the DC plan, can the employer deduct this full 36% (or 40% by foregoing any DC plan contribution)?

[Mike Preston]

Sounds right to me.

[Effen]

What does? 36% or 40%

[Mike Preston]

Yes.

[John Feldt ERPA CPC QPA]

I think that means 36% if they put 6% in the DC and yes, 40% if they put no employer $ in the DC.

[John Feldt ERPA CPC QPA]

Jim Holland left a message reply that states the first sentence of Q&A 9 only applies to DC plans and the second sentence only applies to DB plans (we can see that). I will try again, but doesn't 404(a)(7) apply to the Employer's overall deduction limit, not to a specific plan, or am I missing something here?

[Blinky the 3-eyed Fish]

PPA changed this when ER contributions to the DC are not greater than 6% of pay. I posted the language in my first post to this thread if you want to read it.

[AndyH]

Is this Notice going to be amplified, clarified, or retracted as it should IMHO?

[John Feldt ERPA CPC QPA]

Per conversation with Jim, I got the feeling that would be highly doubtful. His solace was that in 2008, PBGC plans don't have to deal with the issue. whoopee.

As I'm sure many of us have, we too know of a client that failed to take our initial advice in August 2006, and they went to the maximum 150% of C.L. plus contributed in the DC.