Excluding NHCE from a DB Plan

[emmetttrudy]

Company has 4 employees - one owner, owner's wife, owner's father and one NHCE (not related). To pass 401a26 they just need to benefit two employees right? So if they had the owner in a Plan with his wife, or with his father, they would be ok? No need to include the NHCE?

[AndyH]

Right.

But need to pass 410(b) and 401(a)(4) also, obviously.

[John Feldt ERPA CPC QPA]

§ 1.401(a)(26)-3(2) says "A plan does not satisfy this paragraph © if it exists primarily to preserve accrued benefits for a small group of employees and thereby functions more as an individual plan for the small group of employees..."

I think frizzyguy is familiar with this. Some IRS agents try to argue that the DB plan you describe is failing the above section of 401a26 - the portion intended for frozen plans. These agents will argue that the plan is considered as primarily preserving accrued benefits for a small group of employees and thus failing, or some similar argument. IMHO, they are wrong. But it might cost the employer more to convince them that they're wrong than the cost to give some small benefit to just one NHCE.

Just something to consider.

[SoCalActuary]

I have no problem with your design. But it does require equivalent benefits under another plan for any eligible NHCEs, so you are dealing with a two-plan design. Charge ahead, and charge accordingly....

[emmetttrudy]

I have no problem with your design. But it does require equivalent benefits under another plan for any eligible NHCEs, so you are dealing with a two-plan design. Charge ahead, and charge accordingly....

So are you saying there would also need to be a 401k PSP that benefits the NHCE?

[SoCalActuary]

I have no problem with your design. But it does require equivalent benefits under another plan for any eligible NHCEs, so you are dealing with a two-plan design. Charge ahead, and charge accordingly....

So are you saying there would also need to be a 401k PSP that benefits the NHCE?

I find no other way to pass 410(b) coverage nor 401(a)(4) discrimination rules. Your coverage fraction is 0 NHCE participating of 1 total, for a zero coverage ratio. Your rate group has zero EBAR for NHCE's so you don't pass the average benefits test either.

Of course, if the NHCE is not yet past the age 21/ 1 yr svc requirement, you can fix the problem later.

[AndyH]

I have no problem with your design. But it does require equivalent benefits under another plan for any eligible NHCEs, so you are dealing with a two-plan design. Charge ahead, and charge accordingly....

So are you saying there would also need to be a 401k PSP that benefits the NHCE?

How did you think you would pass 410(b) and 401(a)(4)? I took the two plan scenario as a given for this reason.

[John Feldt ERPA CPC QPA]

It would not have to be a 401(k), but some type of defined contribution plan is assumed to be in place to provide benefits to the NHCEs and be combined-plan tested in conjunction with the DB plan, and if needed, the gateway minimum is assumed (or more as needed) - whatever is needed to pass.

Alternatively, another DB plan could exist to give benefits to the NHCEs, but now I'm just getting ridiculous.

[david rigby]

416?

[SoCalActuary]

416?

Thanks for that added reminder. The top-heavy rules would allow the second plan to provide a minimum benefit of 5% of pay as a profit sharing plan. In addition, you would need to consider the gateway rules, which might push the PS contribution up to 7.5%

[frizzyguy]

§ 1.401(a)(26)-3(2) says "A plan does not satisfy this paragraph © if it exists primarily to preserve accrued benefits for a small group of employees and thereby functions more as an individual plan for the small group of employees..."

I think frizzyguy is familiar with this. Some IRS agents try to argue that the DB plan you describe is failing the above section of 401a26 - the portion intended for frozen plans. These agents will argue that the plan is considered as primarily preserving accrued benefits for a small group of employees and thus failing, or some similar argument. IMHO, they are wrong. But it might cost the employer more to convince them that they're wrong than the cost to give some small benefit to just one NHCE.

Just something to consider.

I posted something last year about an audit of a plan of this design. It could go either way upon audit. The IRS eventually said that the design was okay but I found out that the auditor's manager and the legal analyst were definitely not okay with the design but the IRS actuary was on our side. I am fine with the design but I always look at the cost savings to see if it's even worth it.

I also see no way you can pass testing without a profit sharing plan.

[SoCalActuary]

§ 1.401(a)(26)-3(2) says "A plan does not satisfy this paragraph © if it exists primarily to preserve accrued benefits for a small group of employees and thereby functions more as an individual plan for the small group of employees..."

I think frizzyguy is familiar with this. Some IRS agents try to argue that the DB plan you describe is failing the above section of 401a26 - the portion intended for frozen plans. These agents will argue that the plan is considered as primarily preserving accrued benefits for a small group of employees and thus failing, or some similar argument. IMHO, they are wrong. But it might cost the employer more to convince them that they're wrong than the cost to give some small benefit to just one NHCE.

Just something to consider.

I posted something last year about an audit of a plan of this design. It could go either way upon audit. The IRS eventually said that the design was okay but I found out that the auditor's manager and the legal analyst were definitely not okay with the design but the IRS actuary was on our side. I am fine with the design but I always look at the cost savings to see if it's even worth it.

I also see no way you can pass testing without a profit sharing plan.

Thanks for the reminder that some auditors and legal analysts don't know how common these are, nor do they have an actuary's perspective.