Application of pre-1974 Code sections 401(a)(4) and 401(a)(7) to money

[Guest PALAWYER]

I am working on transfering certain employees from a DB plan to a Money Purchase Pension Plan. It appears that 411(e)(2) brings in the old pre ERISA 401(a)-4 and 401(a)-7 with respect to vesting requirements. Does this mean that we have to apply regulation 1.401-4©? Discrimination requirements of 401(a) do not apply- but what about this regulation under the old 401(a)-7? Does anyone out there operate a money purchase plan for a government plan- did you apply this regulation?

[Carol V. Calhoun]

This is a good question--which doesn't mean that there is a clear answer.

Clearly, pre-ERISA 401(a)(4) is no longer an issue, at least for state and local government plans. Thus, your only issue is pre-ERISA 401(a)(7).

Pre-ERISA section 401(a)(7) did not include a concept of partial termination. Thus, if you are merely cutting off new benefit accruals under the DB plan, but leaving the existing accruals alone, you almost certainly would not have to worry about section 401(a)(7).

If you are converting the DB accruals into account balances in the new money purchase plan, the question is more complicated. The specific regulations which require you to treat a conversion of a DB plan into a DC plan as a termination are in ERISA regulations which do not by their terms apply to governmental plans. However, those regulations do not appear to have any specific statutory basis. Thus, if they are intended merely to interpret the term "termination," IRS might argue that they would apply for 401(a)(7) purposes, requiring full vesting upon conversion of the DB plan to a money purchase plan.

One question is how much of a financial difference this would make. In many instances, in the case of contributory governmental DB plans, we find that this is a no-cost item. The reason is that in the early years, before employees become vested, their own contributions plus interest may actually exceed the accrued benefit under the normal formula. Because employees are typically fully vested in their own contributions plus interest anyway, you may find that it does not cost the employer anything to fully vest all employees.

Does the DB plan have a determination letter? You might consider getting one on the plan as amended by the amendments converting it to a money purchase plan. If a favorable determination letter were issued, this could protect you from trouble later on.

And, as usual with governmental plans, you need to take into account any state and local laws applicable to the plan, as well as federal. In particular, some state courts have interpreted state Constitutional provisions dealing with impairment of contracts to forbid amending a plan's future benefit formula, as well as its existing accruals, in a way that was disadvantageous to any particular employee. To the extent that existing employees were being converted from one formula to another without their consent, this could be an issue.

[Guest PALAWYER]

Yes, but how would 401(a)(7) apply to the new money purchase plan and the rule about the top paid 25 people found in the regulations?

[Carol V. Calhoun]

The top-25 rule is a 401(a)(4) rule, not a 401(a)(7) rule, and therefore would not apply to a state or local government plan.