Prior DB plan effect on 415 limits

[Belgarath]

I probably won't even ask the question right, but here goes, using, as you will see, grossly hypothetical numbers just for the sake of illustrating the concept. I'm used to exposing my ignorance when it comes to DB calculations.

Suppose you have a sole prop, who had a defined benefit plan that was terminated in, say, 1999. At the time, his income was much highr than now, and he had accrued a benefit that was close to the 415 limit. Let's just say that his 415 limit at the time was 1,000 per month, or $12,000 per year, which equated to a lump sum of $100,000. His accrued benefit was $950 per month, or $11,400 per year, leaving him under the 415 limit by $50 per month, or $600 per year, and his lump sum payout was $95,000. This $95,000 lump sum amount was paid to him and rolled to an IRA.

Now fast-forward to 2013. He is still a sole prop, and has to be considered in a DB plan due to controlled group/minimum participation. His salary is now quite low.

When calculating his 415 limit under the new plan, I know that the old plan must be taken into account for 415 purposes. If the new plan 415 limit, (assuming he never had a prior plan) based upon age, salary, participation, etc., is, say $150.00 per month, or $1,800 per year, how do you calculate his 415 limit in the new DB plan? Is it only $50 per month, because his "old" 415 limit was higher than what his new limit would be, and there was only $50 per month available under the prior plan? Or is it done in some other manner - for example, since his prior benefit was higher than the current 415 limit based solely upon his current income, is his 415 limit in the new plan zero? Or is something altogether different from either answer?

Thanks!

[AndyH]

1. As you stated, the prior distribution must be "taken into account".

2. The prior lump sum must be normalized to equal a life annuity based on the 415 regulations. This means that if his life annuity option was $100 and his lump sum was $1,000, and he took the lump sum, the life annuity for 415 purposes was not necessarily $100. Instead, the lump sum might be normalized to something like $120.

3. There is no one answer to the rest of your question, only opinions. This issue is "reserved" under the regulations. Reasonable interpretations must be made by the applicable parties, who is ultimately the plan sponsor with advice from their actuary/attorney/TPA.

Now hopefully some can offer their interpretations.

[rcline46]

AndyH is much more adept, and therefore cautious than I. Also, since I am NOT an enrolled actuary, you must treat my ramblings as hearsay evidence.

I would suggest his hi-3 never goes away, so because his current pay is less than the old HI-3, use the old HI-3 comp.

The concept of normalizing an old lump sum to a current benefit - well that can be a task. It could well be one of those things were 4 actuaries will get you seven results. Because I am not an EA, my limited concept says $100 benefit paid yesterday is still a $100 benefit today. So, in your example, I think he can get the $50 additional benefit. I think AndyH disagrees, but you will have to pay him to calculate his normalized benefit. With the lower rates today, I would think he has a SMALLER distributed benefit.

[AndyH]

Belgarath, just re-reading your question, I seem to have skipped parts of it. I don't see how his new 415 limit could be lower than his old 415 limit, because if this plan is required to be aggregated for 415 purposes, so is the comp and service history. Since the 415 limit is based on his high 3 comp - ever, prorated for service less than 10 years which would be greater now, the 415 limit based on 100% of pay should be equal or higher.

rcline, my thinking about converting $100 to $120 is that for 415 purposes, the lump sum must be calculated using not less than 5.50%. If the actual calc used less than 5.50%, this would cause the equivalent life annuity to be higher than his accrued benefit, for purposes of 415.

[My 2 cents]

I think that in measuring his current benefits against the 415 limit, you calculate what the current plan would otherwise give him and also what the 415 limit would be (taking into account amounts already paid to him) and then compare. I agree that if the employer is the same, the old 3-year average would continue to apply. The following might be oversimplified:

Example 1: Current plan (without regard to 415) would pay $70,000 per year. Prior plan distribution normalizes to $145,000. Current 415 limit is lesser of $210,000 or 3-year average. Unless 3-year average is below $210,000, 415 would limit current plan to $65,000. Remember that (as this is not a governmental plan), the $65,000 limits both the accrued benefit and the amount payable from the plan (i.e., the $70,000 is not accrued, even if that is what the formula would call for).

Example 2: Same as example 1 but 3-year average is only $150,000. Current plan would be limited to $5,000.

Example 3: Same as example 1 but prior distribution normalizes to $120,000. Then the current plan could pay the full $70,000.

[Belgarath]

I don't know how you EA's keep this garbage straight! How do the Multiple Annuity Starting Date regulations enter into this? It seems to me, from looking at Sal's book, that there isn't even an approved methodology? In essence, it appears that this would have to be taken into account when making any future distribution to him, for 415 purposes - is this separate from your earlier comments or was the MASD stuff implicit in the "taking into account" prior distributions?

Retirement keeps looking more attractive. However, I think the virtues of poverty may be overrated, so I think I'll stick it out for another decade or so...

[Rball4]

This is my take. I look only at the annuities, not the lump sums. The prior plan's 415 limit is grandfathered. Take the grandfathered 415 limit and subtract the prior plan's annuity. So under the new plan, this participant would only be able to accrue a $50 monthly annuity. Note, the participant is still considered benefiting for 401(a)(26) purposes even though the benefit is limited by the 415 limit.

[AndyH]

This is my take. I look only at the annuities, not the lump sums. The prior plan's 415 limit is grandfathered. Take the grandfathered 415 limit and subtract the prior plan's annuity. So under the new plan, this participant would only be able to accrue a $50 monthly annuity. Note, the participant is still considered benefiting for 401(a)(26) purposes even though the benefit is limited by the 415 limit.

This is not ok under the 415 regulation if a lump sum was paid.

[Rball4]

See below link:

http://www.google.com/url?sa=t&rct=j&q=&esrc=s&source=web&cd=3&ved=0CDQQFjAC&url=http%3A%2F%2Fwww.asppa.org%2FMain-Menu%2Fpartners%2FACOPA%2FComments%2FOlder-Comments%2F415-Regulations.aspx&ei=7DnYUvXOKqipsQTPpICgBQ&usg=AFQjCNEAK8qjjZxvxL5zbpprHloni-R72A

[AndyH]

That is a good article and a good resource. But it should be read while keeping in mind that it predated the final regulations.

[Cloudy]

I nominate this quote for an award:

"I don't know how you EA's keep this garbage straight!"