Failed 401(a)(26)

[John Feldt ERPA CPC QPA]

6 nonexcludables for the plan year: calendar year 2008. Two have large benefit accruals exceeding 0.50% of pay. The other employees whose accruals also would have exceeded 0.50% of pay? Well, they all quit before their 1,000 hours for calendar year 2008.

One NHCE has an accrual of 0.41% of pay. Can the plan be amended to increase an accrual for the NHCE (or all) under -11(g), or is 401(a)(26) outside the scope of a -11(g) amendment?

edit:typo

[Guest Sieve]

The corrections available under Treas. Reg. Section 1.401(a)(4)-11(g) for IRC Sections 401(a)(4) and 410(b) failures are also available to correct IRC Section 401(a)(26) failures. (Treas. Reg. Section 1.401(a)(26)-7©.)

[John Feldt ERPA CPC QPA]

Thank you!

[Effen]

Keep in mind that the .5% minimum is neither a statutory or regulatory minimum. There is nothing in the law or regs requiring that you provide it. It is simply an IRS bluff that you won't take them to court because it will cost you more to fight them than it is worth.

In other words, I wouldn't fix a non-existent problem. If you pass a(26) by counting the guy with .41% as benefiting, then I would leave it at that. If the IRS raises the issue, fix it then. (This assumes that the .5% minimum isn't written into your document.)

[John Feldt ERPA CPC QPA]

Effen - yes we had been debating the option to just leave the benefit as it stands. Since increasing the benefit by 0.09% is sucha small cost, we may just put the -11(g) amendment in place to benefit that employee now - why bother with the potential pain of an audit later (our meager cost-benefit analysis thinking).

Has anyone had to convince an IRS auditor that the benefit accrual does not need to be 0.50% of average pay in order to be "meaningful"? I'd like to know how that worked out.

[Guest Sieve]

The .5% accrual language is in the IRS Alert Guidelines: http://www.irs.gov/pub/irs-tege/d9242.pdf (see bottom of page 12). This is not intended as an IRS bluff, but just an explanation of what to look for--the guidelines do not draw a definitive line in the sand, as could have been done:

"This rule is intended as an anti-abuse rule to prevent employers from maintaining plans the primary purpose of which is to function as individual plans for a few employees or for the employer. Therefore, the question of whether a defined benefit plan has meaningful accrued benefits or is providing meaningful benefit accruals is one of

facts and circumstances

. For example,

an accrued benefit equal to .5% of total compensation times years of participation

(or a current accrual rate of .5% of total compensation per year of participation)

would

generally

be considered meaningful

. On the other hand,

an accrued benefit or current accrual less than this would not necessarily fail to be meaningful

." (Empasis added.)

[Effen]

By "bluff" I meant that the IRS has no authority to issue such an opinion. I agree that it is intended to be a guide for the agents, but the problem is the agents often treat it like it is law because they know you can't afford to challenge them in court.

We currently have a plan with a 2% minimum cash balance accrual where they raised the question. We have used this design for years without any questions, but they raised in the last go-round. I will let you know how successful we are arguing that 2% is "benefiting", which since TH is 3% in a DC, shouldn't be too difficult, right???

[Guest Sieve]

TH is 2% in DB--isn't that an even better argument?

Although Alert Guidelines do not have the public notice and comment period of a reg, neither does a Rev Proc or Rev Notice, yet my assumption always is--rightly or wrongly--that these public pronouncements are made in good faith to help employers and practitioners. This is especially true, I beleive, in the EP area, the first IRS division to be really open and cooperative with practitioners. Yes, the IRS can be wrong, and yes, the agents (who have virtually no discretion) may be requried to hew the line, but those with discretion will listen and usually (but certainly not always) be reasonable in their determination so that litigation is rarely necessary.

Just my own opinion . . .

[AndyH]

May I chime in? This is helpful.

We have been asked to comment on a DB/DC combo that has an offset formula equal to a specified dollar annual accrual for a few key people. For others, the DB benefit is defined as the act equiv of the profit sharing account balance offset by the act equiv of the profit sharing account balance. There are maybe 5 people with benefits and the other 50 or so have the "offset formula". We cite a 401(a)(26) issue (among many others). Prior "pension consultant" who does employ an EA (not sure who exactly made this comment) says these participants are benefitting for 401(a)(26) purposes, but their benefit happens to be fully offset.

It would sure be helpful to have some bright line for "meaningful" benefits. Is there one? Is this thread saying this is possibly defendable? Other aspects of this actuary's work are clearly inviting an IRS fight (e.g. 3% interest, 9 year setback for 2007 valuation), so perhaps this is the deal here.

[Guest Sieve]

See if this is helpful at all: Treas. Reg. Section 1.401(a)(26)-5(a)(2).

[John Feldt ERPA CPC QPA]

It's okay to have an offset, although I would not define the DB benefit as the actuarial value fo the PS, I would only define the offset as such. An offset arrangement can satisffy 401(a)(26) based on the amount prior to the offset, see §1.401(a)(26)-5(a)(2). Employees who benefit under a plan

§1.401(a)(26)(a) Employees benefiting under a plan

...

(2) Sequential or concurrent benefit offset arrangements

(i) In general. --An employee is treated as accruing a benefit under a plan that includes an offset or reduction of benefits that satisfies either paragraph (a)(2)(ii) or (a)(2)(iii) of this section if either the employee accrues a benefit under the plan for the year, or the employee would have accrued a benefit if the offset or reduction portion of the benefit formula were disregarded. In addition, an employee is treated as accruing a meaningful benefit for purposes of prior benefit structure testing under §1.401(a)(26)-3 if the employee would have accrued a meaningful benefit if the offset or reduction portion of the benefit formula were disregarded.

However, I would recommend obtaining a full scope D letter right from the start if setting up a DB plan using an offset.

Edit: Aw, the Sieve beat me to it.

[AndyH]

Thanks gentlemen.