Sample Normal Accrual Rate and Most Valuable Accrual Rate Calculation

[AndyH]

Can someone help me with a simple, sample calculation of an general test NAR for a 10C&C normal form and MVAR for a lump sum provision.

Let's say testing age is 65, and a participant is 64. The testing period is the current year, so testing service is one year. The person's test comp is $12,000 and he accrues $120/month (1%). The normal form is 10C&C. The plan pays lump sums using UP84 @ 6% with no pre-retirement mortality, so the lump sum value of the accrued benefit at age 64 is $13,926.79.

Let's assume we test using UP84 % 8.50%.

Can somebody walk me through the normalization of the accrued benefit of 1% on a 10C&C basis to a NAR, and then the normalization of the lump sum to a MVAR?

Thanks for any help.

[Guest Doug Goelz]

Normalized Life Annuity (LA) at Testing Age 65:

= AB x APR(LA) at 65 / APR(10C&C) at 65

= 120 x 112.143 / 123.020 (using plan assumptions)

= 109.39 (monthly single life annuity at 65)

Normalized MVAR:

The Normalized MVAR is determined for each age that the benefit may commence (but not prior to the current age). This process is determined in three steps using Standard Interest and Mortality assumptions, as follows:

1. Each early retirement qualified joint and survivor

benefit is multiplied by a qualified joint and

survivor annuity (QJSA)rate

2. The resulting product is rolled forward with

interest to the testing age

3. The testing age value is divided by the single

life annuity rate (using testing assumptions) at

the testing age

For small plans that don't typically have early retirement provisions, I have calculated the benefit in 1 above by taking the lump sum determined using plan assumptions and dividing by an immediate joint & survivor annuity rate also determined using plan assumptions. This gives an immediate QJSA that I then multiply by an immediate joint and survivor annuity rate determined using testing assumptions. Steps 2 and 3 are then followed.

In your example, this process would be as follows (assuming a 50% joint and survivor benefit):

1. LSV / APR(plan 50%J&S) x APR(testing 50%J&S)

= 13,926.79 / 127.591 x 106.726

= 11,649.34

2. 11,649.34 x 1.085 (accumulated value at 65)

= 12,639.53

3. 12,639.53 / 95.383 (APR using testing LA at 65)

= 132.51 (monthly single life annuity at 65)

In determing the initial lump sum value to use to determine the immediate joint and survivor annuity under Step 1 above, it is my opinion that only plan assumptions are used, and minimum 417(e) assumptions are ignored (i.e., PBGC and/or GATT assumptions do not enter the testing). I would be interested in how others feel about this.

[AndyH]

Doug, thank you.

A couple of things need correcting. First, I said that 120/month is 1% of pay which is obviously not right. But, using the $120/month, I think you'd want to use 120 x 123.02/112.143 to arrive at a NAR of $131.64 instead of the $109.39. That would compare to the MVAR of 132.51.

But, and this is the reason for my post, the same analysis at age 65 would produce an MVAR which is less than the NAR, which makes no sense to me.

So, I did it your way at first, got results that didn't make sense to me, since the MVAR should exceed the NAR because the lump sum is 6% whereas the testing rate is 8.50%.

Our thinking was that this approach didn't properly reflect the lump sum. Thus my question as to how others would do this.

If instead we were to take the lump sum, skipping the J&S conversion, projecting it to age 65, that would in all cases produce an MVAR exceeding the NAR. So, that's how we're inclined to do it. Thoughts?

With respect to 417(e), I've asked that question here and elsewhere, and the consensus (although not 100%) seems to be that only a fixed rate would be used, not the PBGC or GATT rate.

Thank you again for your help. Any further comments would be welcome.

[Guest Doug Goelz]

Andy,

Sorry for the mix up on the purchase rates for the conversion of the 10C&C form to LA. I had too many things going on last night and should have waited to review my response before sending it.

I agree that the use of the QJSA rates before accumulating the lump sum to testing age is sort of goofy, but most people that I have talked to believe this step is necessary. Without it, they felt the MVAR's for the younger participants (normally NHCEs) would be overstated, and the plan may pass testing when it otherwise would fail.

[AndyH]

Good point. We have the same concern. Thank you very much. It's good to know how others deal with these same convoluted rules.