Cross Testing - $1 PS vs $1 CB

[carrots]

For a young HCE, the NAR for $1 Profit Sharing Allocation came out to be way higher than the NAR for $1 of Cash Balance Contribution Credit.

That doesn't seem reasonable, but appears to be "correct" - the PS allocation is projected at 8.5%, and the CB contribution credit is projected at a much lower rate.

Do I appear to be "on track" with my understanding of the calculations?

[ETA Consulting LLC]

You are correct. Typically, you would use 7.5%, 8.0%, or 8.5% as the rate for the Defined Contribution Plan. You won't use that rate for the Cash Balance (i.e. more like 5.5%, but don't hold me to this). Keep in mind, however, that you are using the same rate for "ALL" participants in each plan. So, to a large extent, the proportions will remain consistent.

[John Feldt ERPA CPC QPA]

Correct. For the DC plan, to test the contributions as benefits, the rules require that you convert these DC contributions to a uniform testing age (or you convert the balances if testing accrued-to-date) by using an interest rate not less than 7.5% and not greater than 8.5%.

For example, if you have a contribution in a DC plan today with a 35 year-old and you are testing at age 65, then you project that contribution's future value by accumulating it with interest for 30 years at 8.5%, then you convert it to an annuity also at 8.5%.

However, for the cash balance plan, the benefit is already defined by the terms of the plan document. So in this same example, the hypothetical contribution "credit" must be accumulated with interest for 30 years at the plan's defined crediting rate, which might be 5%, then converted to an annuity using the plan's actuarial equivalence definition (which might be 5.5%).

Of these two projections, which benefit will be bigger? The benefit that was accumulated for 30 years at 8.5%, of course.

Many times, a combination plan design places the large benefits for the targeted HCEs in the DB plan (e.g. a cash balance plan), and if necessary, limits the contributions to the HCEs in the DC plan.

There's a lot of other issues/reasons that are involved here, such as 404(a)(7) limits, etc. And there are some things to ponder (such as a DB limit is a one-time accrual vs. a DC limit can be maxed out every year, so it may be a waste for an HCE to use (accrue) their DB 415 limits at a young age and not get to use up their DC limits each year at those young ages).

Hope this helps.

[Tom Poje]

also, for satisfying the gateway, you can't say I gave a 2% cash balance plus a 5% profit sharing and that satisfies a 7% gateway.

you have to convert the cash balance into an equivalent DC rate

[frizzyguy]

also, for satisfying the gateway, you can't say I gave a 2% cash balance plus a 5% profit sharing and that satisfies a 7% gateway.

you have to convert the cash balance into an equivalent DC rate

Unfortunately it's not that simple. The 2% is actually converted into an allocation by projecting the pay credit (and maybe the interest credit depending on how the document is worded) to NRD at the interest crediting rate, converting it to an annuity using the plan terms (again, depending on how the document is worded) and then converting it back to a lump sum using the testing rate. Then that amount needs to get discounted back to the attained age using the testing rate. (8.5% usually.)

To add to complication, some documents have unusual traits such as normal form and how interest is credited and this needs to be factored into your method. The nice thing is that for the CB allocation, you can use the average for all NHCE's which is a big time help.

So if there are two NHCE's and one is excluded and has a 0% CB allocation and the other has a 4% CB allocation. You can say the group has a 2% average and add that to your 5% Profit Sharing Allocation and you just passed your 7% gateway.

There is probably situations I am not thinking of but that is how I believe it needs to be done most of the time. Sorry I have no regs, if you really want to see them you can message me and I'd be happy to help you find them.

[John Feldt ERPA CPC QPA]

1.401(a)(4)-9(b)(2)(v)(D)(1) to (3)

[frizzyguy]

1.401(a)(4)-9(b)(2)(v)(D)(1) to (3)

Thanks much!

[AndyH]

So if there are two NHCE's and one is excluded and has a 0% CB allocation and the other has a 4% CB allocation. You can say the group has a 2% average and add that to your 5% Profit Sharing Allocation and you just passed your 7% gateway.

/quote]

No, this is not right. Only the NHCEs that benefit (have more than $0) can be treated as having the average allocation rate for purposes of the gateway calc.

[Tom Poje]

and it wouldn't even be 4% cash balance plus 0%cash balance) = avg 2%

much less the fact you don't count the NHCE, but its the equivalent alloaction rate s that you average. so the 4% cash balance might only be worth 1.2% alloaction rate or whatever.

[AndyH]

unless it were the early 80's and interest rates exceeded 8.5%.

[frizzyguy]

I'm sorry, you are correct. I was trying to make it easy and made it wrong. See what trying to be quick gets you.

[frizzyguy]

and it wouldn't even be 4% cash balance plus 0%cash balance) = avg 2%

much less the fact you don't count the NHCE, but its the equivalent alloaction rate s that you average. so the 4% cash balance might only be worth 1.2% alloaction rate or whatever.

I used the term allocation to refer to the Cash Balance amount after the long process I discussed above. I usually refer to it as a 4% Pay Credit and an Allocation after the deed has been done. Sorry for not clarifying.