Two Approaches to New Cash Balance Plan
Yesterday we took a look at Internal Revenue Service (IRS) guidance on how to change interest crediting rates in a cash balance (CB) plan. Today we’ll look at the two approaches that the IRS has discussed to address a change in the interest crediting rate.
The IRS discusses two approaches to address a change in the interest crediting rate.
The first approach is called the “A plus B method.” In this method, there is a separate accounting for the balance accrued before the change (“A”) and the balance accrued after the change (“B”). A participant’s total account balance is A plus B. The balances in the A account continue to use the old interest crediting rate, and the balances in the B account use the new, lower interest crediting rate.
The second method is the “wearaway method.” In it, there is a separate accounting for the protected balance accrued before the change in the interest crediting rate and for the total balance accrued using the new rate. Once the total balance exceeds the separate accounting of the protected balance accrued before the change in the interest crediting rate, the protected balance is considered to be “worn away.”
The IRS Issue Snapshot further addresses a situation in which terminated participants no longer receive any payroll credits. Under the A plus B method, these terminated participants will continue to use the old interest crediting rate. Under the wearaway method, if the combination of the old and the new interest crediting rate falls within the market rate of return rules contained in IRS regulations, the wearaway method could be applied to all participants including terminated participants.
The Issue Snapshot concludes with a list of “Issue Indicators or Audit Tips.” These are directed at plan sponsors, practitioners and IRS agents:
- Review any plan amendments to see if they potentially decrease the interest crediting rate.
- If there are reductions in the interest crediting rate, make sure that the plan protects the interest crediting rate “promise” in effect before the amendment. Either the A plus B or wearaway approach will accomplish this.
- Ensure that if the wearaway approach is used, the resulting rate does not exceed a market rate of return for participants who are not actively accruing benefits (in other words, principal credits) as of the date of the amendment.
- If correction is needed, notify your manager and work with the field actuaries to develop a correction.
Given that the actual rate of return method can be positive or negative for any given year, it would be reasonable to expect that the comments in the new Issue Snapshot will apply to plans that change their interest crediting rate to the actual rate of return method in the current restatement period. For plans adopting the actual rate of return interest crediting rate, the A plus B method will be permitted but the wearaway method will not.
Look for the IRS to issue further guidance and commentary as CB plans continue to increase in popularity.
|A. Paul Protos is president and cofounder of ATR Inc., a third-party administration and benefits consulting firm that provides services related to Forms 5500, plan documents, summary plan descriptions, recordkeeping services, and compliance/operational reviews. Protos has more than 40 years of benefits consulting and administration experience. He has achieved the enrolled retirement plan agent (ERPA) designation. Protos is the contributing editor of the Pension Plan Fix-It Handbook.|
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