Sponsoring a DB Plan
 

How the Plan Works

Each year, an actuary determines the minimum contribution the plan sponsor must contribute.  The calculation is based on plan provisions (such as the normal retirement age, the benefit formula, the normal form of payment and the actuarial equivalence stated in the plan document), the participant data (dates of birth, hire participation and termination, expected retirement age and annual compensation), the plan's assets and assumptions about future events.  We will ask you for employee data and plan asset information each year.

Based on the above factors and assumptions about future events, the actuary determines how much should be deposited each year, so that as participants reach their retirement ages, there is enough money in the plan to pay benefits.

Adding new participants, increases in compensation, amending the plan’s benefit formula to increase benefits, a decrease in interest rates and/or poor investment returns will generally increase the required contributions.  More participants than expected terminating their service, an increase in interest rates, good investment returns and/or amending the plan's benefit formula to decrease future benefits will generally decrease the required contributions.

Designing the Plan

Before a plan is set up, a study is generally done to determine the plan design that best meets the employer's objectives. These objectives may include rewarding older, long-term employees or owners, or maximizing the required contributions. Defined benefit plans are generally more beneficial to older, long-term and more highly-compensated employees. We will ask questions of you to help design the plan that best meets your need and budget.  Top of Page

Adopting the Plan

Once you have decided upon the DB plan provisions, we or your attorney will draft a plan document with the desired provisions.  You will need to adopt (sign) the plan document and notify the plan participants no later than the last day of the first plan year. If your plan contains language that has not been pre-approved by the IRS, you will also have to file your plan with the IRS for a favorable determination letter.  The favorable determination letter states that the IRS has found your plan to be a qualified plan.  Therefore, you are entitled to the tax deductions necessary to fund the plan.  We can assist you with all the paperwork to complete the adoption of the plan.  However, because your plan is a legal document, we always request that you have the plan reviewed by legal counsel before adoption.  Top of Page

Benefits and Accruals

The projected benefit at retirement is the monthly benefit that a participant is expected to have earned at retirement, assuming the participant will continue to work until retirement age and earn at least the same compensation as in the last year. When a participant retires, he or she will be able to receive the monthly benefit (a life annuity) or may choose (in most plans) to receive a lump sum payment in lieu of the monthly benefit.

The accrued benefit is the portion of the projected benefit that has been earned by the participant as of a particular date. The exact calculation is dependent on the plan's provisions.

Distributions to Plan Participants

When a participant terminates employment or reaches retirement age, he or she will be entitled to a benefit from the plan. This monthly benefit is payable as an annuity at the normal retirement age. But you don't have to keep track of all the participants you have in your plan until they reach retirement age. When an employee terminates you may distribute the benefit in a lump sum payment form, assuming the plan allows lump sums. This is the monthly benefit converted into a single payment of equivalent value. This is not the same as the accumulated value of the contributions deposited in to the plan. The lump sum value is essentially the amount of money that should be placed in an interest-bearing account so that when the participant reaches retirement age, the amount of money in the account would buy an annuity equal to the monthly accrued benefit.  Top of Page

Restriction on Accrual or Payment of Plan Benefits

Defined benefit plans may have the accrual or payment of certain forms of benefit (such as lump sums) restricted if the asset value falls below certain levels relative to the value of benefits earned. Plans that are sufficiently funded are not subject to these restrictions.  Top of Page

Terminating the Plan

The process of terminating a plan involves notifying participants, and for plans covered by the PBGC (see below), filing the termination for review with the PBGC. You will also have the option of having the plan termination reviewed by the IRS.  Essentially, you are asking the IRS to do a “mini-audit” of your plan to make sure that your plan remains qualified through the plan termination.

IRS Reporting

All qualified plans must file annual returns with the IRS. (There is a limited exception for plans with assets below a certain threshold). As part of your annual administration, we complete those forms and send them to you so that you may file the forms with the IRS.  Top of Page

The Role of the Pension Benefit Guaranty Corporation (PBGC)

Many defined benefit plans are also subject to PBGC coverage. However, plans that include only the business owner (and spouse) and plans sponsored by smaller professional services employers are not covered.

The PBGC is a quasi-governmental agency that guarantees a certain level of benefits that are payable from DB plans. In exchange for this guarantee, the plan sponsor must pay an insurance premium each year. The base premium is a per-participant charge.  A variable premium based on the funded status of the plan may also apply. We will calculate the premiums for you and prepare the necessary electronic filing forms. The PBGC also reviews the plan termination to make sure participants receive all the benefits to which they are entitled.  Top of Page

Controlling Required Contribution Amounts

The required contributions are based on the plan's provisions, participant data, funding assumptions and the plan's assets.  If the contributions become too large, the plan's benefit formula can be amended or frozen to help contain costs.  However, changes in the plan's benefits to increase contributions must be adopted no later than 2½ months after the plan year end, and changes in the plan's benefits to decrease contributions typically should be made during the first half of the year. Ideally, such changes should not be a yearly occurrence.  You should contact us as soon as possible if this situation occurs.  Top of Page