Closed Pension Plans Could Meet Nondiscrimination Rules

By: Garrett Shinn, CPA

“Employers will be able to preserve closed defined benefit plans without running afoul of the nondiscrimination rules of Sec. 401(a) under proposed regulations issued by the IRS on Thursday,” a quote from Sally P. Schreiber, J.D.of the American Institution of Certified Public Accountants.

Closed defined benefit plans are well-defined plans that remain in existence covering older employees but that are closed to newer employees. The plans often find it problematic to meet the nondiscrimination requirements. The IRS allowed defined benefit plans to be joined with defined contribution plans (called DB/DC plans) to meet the nondiscrimination requirements if they fulfilled certain criteria. The notice issued also asked for comments. The ensuing rules were proposed in response.

First they comprise special rules to permit closed plans and similar arrangements to carry on satisfying the nondiscrimination rules in additional situations.

Second, the IRS added a special rule to test whether a benefit, right, or feature provided to a grandfathered set of employees under Regs. Sec. 1.401(a)(4)-4 is offered on a nondiscriminatory basis. If circumstances are satisfied, the special testing rule treats a benefit, right, or feature that is provided only to a grandfathered set of employees as sustaining the current and effective availability tests of Regs. Secs. 1.401(a)(4)-4(b) and (c). The proposed rules also loosen the rules under which a DB/DC plan can satisfy the nondiscrimination-in-amount requirement on the basis of benefit.

Third, suggested regulations address certain plan arrangements that take advantage of the flexibility in the current nondiscrimination rules to deliver a special benefit formula for designated employees without extending that formula to a classification of employees that is reasonable and is established under objective business standards. A plan fulfills the minimum coverage requirements of Sec. 410(b) if the plan’s ratio percentage is 70% or higher, or the plan fulfills the average benefit test. To meet the average benefit test, the group of employees must have a ratio percentage defined by using a classification that is reasonable and established under objective business criteria and must have a ratio percentage defined in Reg. Sec. 1.410(B)-4(c) (including safe-harbor and unsafe-harbor percentages).

To the extent that a plan offers a special benefit formula and can still pass the non-discrimination requirements, the plan sponsor can use a qualified retirement plan to deliver benefits that would otherwise be delivered under a nonqualified plan. This is occasionally stated as qualified supplemental executive retirement plans.

The preceding regulations are proposed to apply commonly to plan years beginning after they are adopted as final. Most of these rules can be applied before they are finalized. All of the above rules, except for the “basis of benefits“ rules can be applied subsequently to plan years beginning on or after Jan. 1, 2014.

If you have any questions, please contact the Shinn & Co team at info@shinnandco.com or call 941.747.0500.