Overfunded plan; sole (very ill) proprietor

[Guest Penelope]

Any suggestions are appreciated--

Client is a sole proprietor, age 70 1/2, who is expected to die within the year. He has no current income, but he does have $2M in a defined benefit plan that may be overfunded by about $150,000 (actuary isn't certain). He'd like to settle his affairs now and leave things in the best order for his wife.

He has an estate planning attorney, but she has not worked with DB plans before. I've worked with DB plans, but not often with solo plans and not lately with overfunded ones!

Is there a way to avoid some of the reversion tax on the overfunding?

[Andy the Actuary]

Will he be closing or selling his business? If he is selling the business, the buyer might take over the pension plan and as such, would pay some Y% on the dollar of excess. If the buyer's tax rate is x%, then Y% would be less than (1-x%) since buyer could start his/her own plan and take a tax deduction of x%. These situations are under close IRS scrutiny so would need to retain actuary [not I] and attorney who has dealt with such transactions.

[JAY21]

I don't know if the wife has ever performed any minimal services for her husband Sole Prop (even if not paid for those services) but if she has, and has never been a participant in a DC plan sponsored by the same employer (Sole prop), then maybe the plan could be amended to lower any hours of service requirement (e.g., from 1000 to say 10) to allow her past service credit and amend plan to provide a de minimus $83.33 per month per year of service benefit to utilize IRC 415(b)(4) allowance for a 10k annual benefit ($833.33 monthly) phased in over 10 years of service, past service counts towards this.

IRS audit guidelines have stated that if no compensation has been paid the 10k annual annuity benefit would need be taken as a annuity benefit (not lump sum) so they then would purchase an annuity from an insurance company to provide this benefit if the plan will not continue past husbands death. Depending on her age and years of service that benefit purchase might use up a good chunk of the estimated 150k in excess funding.

[Guest mjb]

1. commence his benefit now if he has not already done so. Getting assets out of plan prevents further tax free buildup. Take 09 distribution on 1/2/09.

2. increase spousal annuity to maxmum permitted (100%). Purchase an annuity for a period certain for the maximum period permitted for joint lives under reg. 1.409(a)-6 Q-3.

3. As an alternative to 2, purchase assets which will most likely go down in value in the next 1-2 years such as 10 year T-bills which have a 4% coupon and will decline in value as interest rates go up. If plan permits a lump sum distribution of property after death of owner, the discounted T-bills can be rolled over to aspousal IRA until maturity when they will be redeemed at par.