vested account balance after in-service withdrawal

[Belgarath]

Since the new LRM's required this for PS plans that allow for in-service withdrawals with no immediate forfeiture, I'm struggling with something. Math isn't my strong subject!! I was given the following example:

"If a distribution is made at a time when a Participant has a nonforfeitable right to less than 100 percent of the Account balance derived from Employer contributions and the Participant may increase the nonforfeitable percentage in the Account:

(a) A separate account will be established for the Participant's interest in the Plan as of the time of the distribution, and

(b) At any relevant time the Participant's nonforfeitable portion of the separate account will be equal to an amount ("X") determined by the formula:

X=P(AB + (R x D)) - (R x D)

For purposes of applying the formula: P is the nonforfeitable percentage at the relevant time, AB is the Account balance at the relevant time, D is the amount of the distribution, and R is the ratio of the account balance at the relevant time to the Account balance after distribution."

So, for an example, let's say the 12/31/08 account balance is $100,000, 60% vested. Vested account balance is $60,000. On January 2, 2009, the participant takes a distribution of $20,000. For 2009, the participant's plan account earns $2,000 interest, and the participant increases vesting to 80%. The 12/31/09 account balance is now $82,000.

P = 80% (the new vesting)

AB = $82,000 (updated balance)

R = $82,000/$80,000 = 1.025 percent gain

D = $20,000

R X D = 1.025 X $20,000 = $20,500 distribution with gain

X = .80 X ($82,000 + $20,500) - $20,500 = $61,500

If the money had not been distributed, the fund would have earned 1.025% interest and the vested account balance would be $100,000 X 1.025 X .80 = $82,000.

$82,000 - $20,500 (amount distributed with interest that would have been earned on it) = $61,500.

I'm having a problem with this. It's very clear that if there is no interest earned, so there's actually an account balance of 100,000 x80%, if the participant terminates on 12-31-09, the participant would be entitled to 80,000 minus the 20,000 already received, for a total remaining distribution of $60,000. So far, so good. My real question is that according to the above, the participant is only entitled to $1,500 of the interest earnings. Yet it seems to me that the participant should be entitled to 80% of $2,000, or $1,600. There's something amiss, and it is probably just me - I just can't spot the flaw in the formula assumption that's giving an answer of $1,500 interest.

Can one of you math whizzes for whom this is childishly simple educate me here? Thanks!!!

[Guest Ron Sevcik]

The error in your thinking is because the $2,000 gain is earned by the remaining balance and the participant is not 80% vested in that balance. In your example, the distribution of $20,000 in made on January 2, 2009. Assume then on January 4, 2009 the vesting percentage increases to 80%. That means of the remaining $80,000 in the account $60,000 is vested or 75% of the account. By the end of the year, the vested portion should receive 75% of the investment gains which is what your formula is providing.

[Belgarath]

I thank you for your reply, but I still don't get it. And believe me, I apologize for being thick!

Any interest earned is earned on the actual assets remaining in the account. So how can there be a "double" reduction? In other words, if the 20,000 had not been withdrawn, the earnings "would" have been 2,500 (100,000 x 2.5%). Since there was less money due to the withdrawal, the earnings were only 2,000 (80,000 x 2.5%). But these earnings are real, and based upon the participant's remaining money actually in their account - albeit only partially vested.

So now that the participant is 80% vested, how can that vesting only apply to a portion of the earnings?

[Blinky the 3-eyed Fish]

You know there are two statutory formulas allowed. The other is X = P(AB+D) - D. If you plug in the numbers from your example you get $61,600.

But as far as which is better than the other, I personally think the first formula is. The second formula is vesting on earnings related to the non-vested balance.

[Guest Ron Sevcik]

The participant in no longer 80% vested in the remaining $80,000. He is only 75% vested in his remaining account and therefore only entitled to 75% of the earnings.

[Belgarath]

Gracias!