converting defined benefit to 401(k)

[Guest Liesl]

I work for a small insurance company who is considering converting our defined benefit plan to a 401(k). Has anyone completed this task? How does it affect employees who are fully vested and those who are not fully vested? If someone could let me know all of the "implication" of switching, please let me know. Thanks in advance!

[Guest ljelaw]

I have converted db plans into profit sharing plans, so a conversion into a 401(k) would not be much different. This would be considered a termination of the db plan. There would be many issues to consider, such as anti-cutback issues (regarding db form of benefit and benefit distribution and timing), valuing benefits, reversion/underfunding issues. A very complex undertaking, but please email me if you want to discuss further.

[david rigby]

I'm confused about this.

My understanding of the IRC 414 regs is that it is impossible to "convert" a DB plan into a DC plan. That is, the regs state that such an action is equivalent to a plan termination. The PBGC will treat it as a termination of the DB plan.

If you try to do this, you will end up with a new DC plan which has a different plan number from the DB plan. Therefore it is a NEW plan.

If you terminate a DB plan, then a DC replacement plan can accept a Direct Rollover from the DB plan, but this requries the participant to have had all options with respect to receipt of that first. And if this happens, there is NO J&S requirement on that rollover amount, since the EE (and spouse) have already had that option and declined it (I guess that is the reference to "anti-cutback issues").

To summarize, this is two separate actions: terminate the DB plan, and create/modify a DC plan to serve as a replacement. They can be co-ordinated with respect to timing and communication, but they are distinct actions.

[Guest TLeier]

I agree to a certain extent with Pax. It's my understanding that you can't convert a DB plan to a DC plan. But termination is not your only option. You may consider freezing the DB plan and establishing a new DC plan, depending on (amongst many things) your goals and funding level of the DB plan. DB plan termination is often times a very adminstratively and financially burdensome process, that may be avoided reasonably in some cases. Depending on your goals and the DB plans financial status, it may even be more appropriate to stick with the DB plan, but amend the plan to a hybrid plan and avoid some of the headache of a complete retirement plan restructuring.

[Guest ljelaw]

I have in fact converted a DB plan to a DC plan and this is contemplated by ERISA Section 4041(e) (i.e., as a plan termination). It is possible to freeze the DB and start a new DC but this involves two plans to administer, possible ongoing top heavy issues (since frozen DB plans must provide top heavy minimum), two plan updates, etc. These will be expensive, exasperating and time consuming. In my view, it would be better to undertake the conversion (with all issues discussed in my earlier email), and put the DB plan to rest, all other things being equal (but then, when are all things equal).