Certain cash balance plans qualify only for indexed-benefit safe harbor

Plain-English summary

The IRS addressed age-discrimination safe harbors for cash balance plans whose lump-sum distributions equal the actuarial present value of the accrued benefit rather than the hypothetical account balance. Beginning with the effective date of the 2014 regulatory revisions, these plans do not have a lump sum-based benefit formula and cannot use that formula's safe harbor under section 411(b)(5)(A). They generally may use the indexed-benefit safe harbor under section 411(b)(5)(E). That safe harbor is available when the plan's interest crediting rate does not exceed a market rate and its adjustments do not disadvantage a participant compared with similarly situated younger participants.

Ruling snapshot

• Question: Which section 411(b)(1)(H) safe harbor applies when a cash balance plan calculates a lump sum using section 417(e)(3) assumptions?
• Outcome: Advice given
• Key authorities: IRC §§ 411(a)(13), 411(b)(1)(H), 411(b)(5), 417(e)(3); Treas. Reg. §§ 1.411(a)(13)-1, 1.411(b)(5)-1

Full text (IRS public release)

ID:      CCA_2016032811224324
UILC:    411.03-00

Number: 201617006
Release Date: 4/22/2016
From:
Sent: Monday, March 28, 2016 11:22:43 AM
To:
Cc:
Bcc:
Subject: legal advice regarding cash balance plans


Subject: Eligibility of certain cash balance plans for the § 411(b)(1)(H) safe harbor rules
regarding lump sum-based benefit formulas and indexed benefits

This Chief Counsel Advice responds to your request for assistance. This advice may not be
used or cited as precedent.

BACKGROUND

Some defined benefit plans have statutory hybrid benefit formulas (as defined in
§ 1.411(a)(13)-1(d)(4)) and must comply with the requirements applicable to statutory hybrid
plans, including the vesting requirements of § 411(a)(13)(B) and § 1.411(a)(13)-1(c), the
plan conversion amendment requirements (if applicable) of § 411(b)(5)(B)(ii) and
§ 1.411(b)(5)-1(c), and the capital preservation rule of § 411(b)(5)(B)(i)(II) and
§ 1.411(b)(5)-1(d)(2). Some of these plans, commonly called cash balance plans, contain a
benefit formula in which a participant’s accumulated benefit is expressed as the current
balance of a hypothetical account maintained for the participant, with a participant’s accrued
benefit equal to the single life annuity payable at normal retirement age (or the current age,
if later) that is the actuarial equivalent of the participant’s current hypothetical account
balance plus projected future interest credits to that date. Many cash balance plans provide
that a single-sum distribution of a participant’s benefit is equal to the participant’s
hypothetical account balance. However, some cash balance plans provide that a single-
sum distribution of a participant’s benefit is not equal to the participant’s hypothetical
account balance and instead is determined as the present value of the participant’s accrued
benefit using the actuarial assumptions specified in § 417(e)(3).

ISSUE

May cash balance plans with a single-sum distribution that is determined as the present
value of the participant’s accrued benefit using the actuarial assumptions specified in
§ 417(e)(3) use the safe harbor rules of § 411(b)(5)(A) (which apply to lump sum-based
benefit formulas) or § 411(b)(5)(E) (which apply to indexed benefits) to satisfy the age
discrimination requirements of § 411(b)(1)(H)?

                                                             2

CONCLUSION

As of the effective date of the 2014 revisions to § 1.411(b)(5)-1 (which generally apply for
plan years beginning on or after January 1, 2017), cash balance plans with a single-sum
distribution that is determined as the present value of the participant’s accrued benefit using
the actuarial assumptions specified in § 417(e)(3) are not eligible for the safe harbor rule for
plans with lump sum-based benefit formulas under § 411(b)(5)(A) and § 1.411(b)(5)-1(b)(1)
(which applies to many cash balance plans using the safe harbor formula measure
described in § 1.411(b)(5)-1(b)(1)(i)(B)). However, these plans are generally eligible for the
safe harbor rule for plans with indexed benefits under § 411(b)(5)(E) and § 1.411(b)(5)-
1(b)(2).

LAW AND ANALYSIS

Section 411(b)(1)(H) generally provides that a defined benefit plan is not qualified if an
employee’s benefit accrual is ceased, or the rate of an employee’s benefit accrual is
reduced, because of the attainment of any age.

Under § 1.411(b)(5)-1(b)(1)(i), a plan is not treated as failing to meet the requirements of
§ 411(b)(1)(H)(i) with respect to an individual who is or could be a participant if, as of any
date, the accumulated benefit of the individual would not be less than the accumulated
benefit of any similarly situated, younger individual who is or could be a participant. Thus,
this test involves a comparison of the accumulated benefit of an individual who is or could
be a participant in the plan with the accumulated benefit of each similarly situated, younger
individual who is or could be a participant in the plan. This rule applies only if the benefit
under the plan is based on one of three safe-harbor formula measures, which are set forth
in § 1.411(b)(5)-1(b)(1)(i)(A) through (C). The safe harbor formula measure set forth in
§ 1.411(b)(5)-1(b)(1)(i)(B) is the current balance of the hypothetical account maintained for
the participant if the accumulated benefit under the plan is the current balance of a
hypothetical account. Pursuant to § 1.411(b)(5)-1(b)(1)(ii)(F), for plan years that begin on or
after January 1, 2017,[1] a benefit measure is a safe-harbor formula measure described in
§ 1.411(b)(5)-1(b)(1)(i)(B) only if the formula under which the balance of a hypothetical
account is determined is a lump sum-based benefit formula.

A benefit formula does not constitute a lump sum-based benefit formula, according to
§ 1.411(a)(13)-1(d)(3), unless a distribution of the benefits under that formula in the form of
a single-sum payment equals the accumulated benefit (except to the extent the single-sum
payment is greater to satisfy the requirements of § 411(d)(6)). Some plans with cash
balance benefit formulas provide that the single-sum distribution is determined as the
present value of the participant’s accrued benefit determined using the actuarial
assumptions specified in § 417(e)(3). These plans are not plans with a lump sum-based
benefit formula because the amount of the single-sum distribution is not equal to the
hypothetical account balance. See § 1.411(a)(13)-1(d)(3). Therefore, they are not eligible
for the safe harbor under § 1.411(b)(5)-1(b)(1).

[1] This rule was added in T.D. 9693, 79 Fed. Reg. 56442 (September 19, 2014). Under § 1.411(b)(5)-1(f)(2)(i)(B)(3),
the effective date of this rule for collectively bargained plans is the later of (i) January 1, 2017; and (2) the earlier of
January 1, 2019; and the date on which the collective bargaining agreement terminates.

                                               3


Under § 1.411(b)(5)-1(b)(2)(i), a plan is not treated as failing to meet § 411(b)(1)(H) solely
because a benefit formula (other than a lump sum-based benefit formula) “provides for the
periodic adjustment of the participant’s accrued benefit under the plan by means of the
application of a recognized index or methodology. An indexing rate that does not exceed a
market rate of return is deemed to be a recognized index or methodology.” This safe harbor
for indexed benefit plans is not available “unless the aggregate adjustments made to a
participant’s accrued benefit under the plan (determined as a percentage of the unadjusted
accrued benefit) in a period would not be less than the aggregate adjustments for any
similarly situated, younger participant. This test requires a comparison, for each period, of
the aggregate adjustments for each individual who is or could be a participant in the plan for
the period with the aggregate adjustments of each other similarly situated, younger
individual who is or could be a participant in the plan for that period.” See § 1.411(b)(5)-
1(b)(2)(ii).

Under a cash balance plan, a participant’s accrued benefit at any relevant time is equal to
the single life annuity payable at normal retirement age (or the current age, if later) that is
the actuarial equivalent of the participant’s current hypothetical account balance plus
projected future interest credits to that date. If the plan’s interest crediting rate does not
exceed a market rate of return, then the plan’s interest crediting rate is deemed to be a
recognized index or methodology for purposes of applying the rules for indexed benefits
under § 411(b)(5)(E) and § 1.411(b)(5)-1(b)(2). If the interest crediting rate under a cash
balance plan is the same for participants of all ages, then the periodic adjustments that are
applied to the hypothetical account balance for an interest crediting period do not provide an
aggregate adjustment to the accrued benefit for that period for any participant that would be
less than the aggregate adjustment for that period for any similarly situated younger
participant. Therefore, a cash balance plan under which the single-sum distribution is
determined as the present value of the participant’s accrued benefit using the actuarial
assumptions specified in § 417(e)(3) (so that the safe harbor under § 1.411(b)(5)-1(b)(1)
does not apply to the plan) may be tested for compliance with the requirements of
§ 411(b)(1)(H) disregarding future interest credits pursuant to the rules for indexed benefits
under § 411(b)(5)(E) and § 1.411(b)(5)-1(b)(2).

Footnote 1: This rule was added in T.D. 9693, 79 Fed. Reg. 56442 (September 19,
2014). Under § 1.411(b)(5)-1(f)(2)(i)(B)(3), the effective date of this rule for collectively
bargained plans is the later of (i) January 1, 2017; and (2) the earlier of January 1, 2019;
and the date on which the collective bargaining agreement terminates.