Lump Sum in Top-Heavy Cash Balance Plan

[Guest lerieleech]

If a cash balance plan specifies that the lump sum is equal to to the value of the hypothetical account balance, then is the 2% top-heavy minimum benefit subject to 417(e) rates?

[Effen]

The plan still needs to satisify the top heavy requirements so I would say "yes".

You need to be able to demonstrate that the cash balance account is > top heavy requirements.

[Guest lerieleech]

The plan still needs to satisify the top heavy requirements so I would say "yes".

You need to be able to demonstrate that the cash balance account is > top heavy requirements.

I understand that the lump sum must satisfy the top-heavy requirements, but I don't see how it necessarily follows that the TH minimum must be converted to a lump sum using 417(e) rates.

[Mike Preston]

It works the other way around. You need to find an exception to the 417(e) rates. You can do that for a Cash Balance plan (providing it satisfies the definition of an applicable plan).

[Effen]

I agree with Mike. The TH min. is expressed as a monthly benefit payable at NRD for life. If you pay it out in a lump sum, you need to account for the 417(e) minimums.

[Guest lerieleech]

Thank you both for your responses, but I still don't think I have an answer to my question. (It also doesn't appear that the two of you agree with each other. Not trying to throw barbs; just telling you how I interpret it.)

Effen, you say you think 417(e) rates must be applied. I think this is a reasonable interpretation, but I don't see how that follows from the fact the TH min is a monthly benefit payable at NRD.

Mike, I'm not sure what you mean when you say I have it the other way around, as I think it's pretty much six of one, half a dozen of the other. Anyway, you say there could be an exception if the plan is an applicable DB plan under the definition. However, you don't say whether that alone would merit an exception to using 417(e) rates, or whether something else is necessary-- perhaps wording in the document that whenever the TH min exceeds the formula benefit, that the hypothetical account is adjusted to equal the equivalent (without 417(e) rates) of the TH min.

I have asked several people this question now, and the responses run the gamut. The only thing everyone agrees on is that there is no guidance on the issue. Here they are, basically:

*"You don't have to apply 417(e) to the TH min, but some actuaries choose to do it."

*"My understanding is that you must use 417(e) rates, but the IRS may later issue regs that say that you don't, or that you need to apply 417(e) rates only to the portion of the TH min that exceeds the formula benefit."

*"With a deftly worded document, you can avoid applying 417(e) rates to the TH minimum."

These all assume the plan qualifies as an applicable DB plan. Anyway, you can see why I'm confused...

[Effen]

I think Mike and I are in complete agreement - you must apply the 417(e) rates if you are going to pay out the TH minumum as a lump sum.

If you had a plan that provided only the TH minimum, would you still think that you don't need to apply 417(e)? If so, what is the purpose of 417(e)?

Yes, TH mins are expressed as monthly annuities payable at NRD, but 417(e) applies to any distribution payable more frequently than a lifetime annuity (or joint lifetime). Therefore, if the benefit is actually paid as a lump sum, it is subject to 417(e).

Just because the plan is a cash balance plan doesn't eliminate the 417(e) requirements on the TH benefits. Maybe your question is, if I credit a cash balance accrual equal to the present value of the TH benefit based on plan conversion methods, do I still need to track the TH minimums or am I deemed to have satisified TH. If so, than I think you would still need to determine the TH minimum as an AB payable at NRD, then apply the current 417(e) rates and pay the participant the greater of that calculation or their current cash balance account.

[Guest lerieleech]

I'll let Mike speak for himself. It still doesn't seem to me that what you are saying is the same thing he is saying. His statement doesn't seem to indicate anywhere that you must apply 417(e) rates to a th min in a cash balance plan, which is what you are saying. But as I said, I'll let him speak for himself.

I still don't see how the conclusion that 417(e) rates must be used follows from your argument.

PPA 06 provides an exemption from 417(e) for plans that qualify as applicable defined benefit plans, in which case the lump sum may be equal to the value of the hypothetical account balance, without considering 417(e) rates. I don't see how your argument says definitively that this exemption does not apply to the case where a participant's top-heavy min is greater than their formula accrued benefit.

Put another way, my question is "Does the PPA 06 provision that permits the lump sum amount to be equal to the value of the hypothetical account balance apply to top-heavy minimum benefits as well as regular plan formula benefits?" I believe the question at the crux of this matter is exactly what the hypothetical account balance is in a top-heavy plan.

As I said, I think your conclusion is a reasonable one. It may well be the correct answer.

I am not saying you are wrong. However, I don't see how you get to the conclusion from your argument.

[Effen]

OK, I think I finally understand your question. Assuming your cash balance plan does not credit interest at higher than market rates, I will agree that the answer to your question is unclear. That said, I would make sure any of my plans at least pay the TH min, applying the 417(e) rates if paid in a lump sum.

I haven't yet been able to find anything to definitive prove either position. I guess we won't know for sure until we see some Regulations.

1.416

M-3 Q. What defined benefit minimum must be received if an employee receives a benefit in a form other than a single life annuity or a benefit other than at normal retirement age?

A. If the form of benefit is other than a single life annuity, the employee must receive an amount that is the actuarial equivalent of the minimum single life annuity benefit. If the benefit commences at a date other than at normal retirement age, the employee must receive at least an amount that is the actuarial equivalent of the minimum single life annuity benefit commencing at normal retirement age. Thus, the employee may receive a lower benefit if the benefit commences before the normal retirement age and the employee must receive a higher benefit if the benefit commences after the normal retirement age. No specific actuarial assumptions are mandated providing different actuarial equivalents. However, the assumptions must be reasonable.

1.417(e)-1(d) Present value requirement

(1) General rule. --A defined benefit plan must provide that the present value of any accrued benefit and the amount (subject to sections 411©(3) and 415) of any distribution, including a single sum, must not be less than the amount calculated using the applicable interest rate described in paragraph (d)(3) of this section (determined for the month described in paragraph (d)(4) of this section) and the applicable mortality table described in paragraph (d)(2) of this section. The present value of any optional form of benefit cannot be less than the present value of the normal retirement benefit determined in accordance with the preceding sentence. The same rules used for the plan under this paragraph (d) must also be used to compute the present value of the benefit for purposes of determining whether consent for a distribution is required under paragraph (b) of this section.

[Mike Preston]

I think Mike and I are in complete agreement

As does Mike.

... but 417(e) applies to any distribution payable more frequently than a lifetime annuity (or joint lifetime). Therefore, if the benefit is actually paid as a lump sum, it is subject to 417(e).

Let me rephrase that a bit. 417(e) applies to any stream of benefits expected to last for 10 years or less (that may be "less than 10 years", I rarely have to look that specific item up, but do if it is needed - and then I promptly ignore it again until I need it again). There is an exception for a benefit payable from an applicable plan.

My gut reaction is that if the amount paid is pursuant to the portion of the document which satisfies the definition of an applicable plan, then 417(e) doesn't apply. However, if the benefit is determined based on the TH minimum, my gut tells me that the entire benefit is then subject to 417(e). There is history on this point (How'm I doin', Tom?). The IRS is on record as saying that 417(e) applies to the entire benefit if even a small portion of it is paid out in a form which is subject to 417(e). Hard to see how this is different.

[Guest lerieleech]

Just getting back to the board after a brief hiatus.

Thank you.

For the record, I did form an opinion before I asked anyone else, and it pretty much is what yours is here. This is based on Section 701 of PPA 06. Also, if one takes the opinion that it depends on the wording of the document, I don't think our document provides for a way around 417(e). But obviously I have plenty of doubts about this, otherwise I wouldn't have asked.

I apologize if my original question wasn't worded in such a way as to describe what I was really getting at as the crux of the matter...

[Guest lerieleech]

Mike, correct me if I'm wrong, but I read what you are saying is that according to your gut feeling, the answer depends on the document.

In that case, I think 417(e) would apply in my case.

Still, it would be nice to have regulations that address this.

Thank you.

[Mike Preston]

Mike, correct me if I'm wrong, but I read what you are saying is that according to your gut feeling, the answer depends on the document.

In that case, I think 417(e) would apply in my case.

Still, it would be nice to have regulations that address this.

Thank you.

Well, I won't deny that the document should control, but what I think I'm saying is that the document will require 417(e) if the benefit to be paid is the top-heavy benefit.

[ak2ary]

Assume a plan has an interest credit rate of 6% (assuming thats legal, which it prolly aint)

Based on the plan's provisions the current theoretical balance provides a benefit of slightly more than the th min

that plan can pay a benefit of greater than the th min without considering 417e

but does it satisfy the th minimums

we dont have an answer but

its hard to imagine that it does. The th min is in no way described as a theoretical balance it is only descrribed as an annuity at nra and is subject to 417e.

[flosfur]

So a cash balance is simple to operate only if the plan is not top heavy or if there are no non-key employees!?

If Top Heavy benefits have to be provided (which is unquestionable), then doesn't the plan fail to be an applicable since the benefits are not based on the hypothetical account balances?

[Effen]

Whoever said cash balance plans were "simple to operate". Probably the same people who said Obama was bi-partison.

They are sold as easy to understand (which they are compared to a traditional db) but they can be very difficult to operate.

I don't think I have any stand alone cash balance plans that are top heavy. If they are going to be top heavy, we almost always have them paired with a 401(k)/profit sharing plan which is used to meet the various minimums (TH & gateway).

And yes, the TH minimum could be higher than the cash balance account.