Cash Balance & Hybrid PlansFinal & Proposed Regulations

Minneapolis Pension CouncilOctober 16, 2014

Outline

Brief cash balance overviewWhat’s new in the regulationsSurprisesIssues & answers

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Overview: What a Cash Balance Plan IsIt’s a DB plan that looks like a DC planBig DB deductions, DC-like simplicity

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Overview: Cash Balance Plan Example

DB/DC comboCommon for professional firmsEnables large deductible contributions for owners

Overview: Cash Balance Plan Example

Age2014Pay

CashBalance Credit

PS &3% Safe Harbor

401(k) & Catchup Total

Dr. F’stein 60 $260,000 $230,000 $34,500 $23,000 $287,500

Igor 40 50,000 1,500 3,750 whatever 5,250+401k

Inga 30 30,000 900 2,250 whatever 3,150+401k

DB/DC combo: cash balance & profit sharingThis example is for a PBGC-covered plan, Frankenstein Mfg. Inc.Gateway here is 7½% DC; Igor & Inga get 3% cash balance creditsA PBGC-exempt professional firm may need to limit DC er contrs to 6%

Overview: Cash Balance Buildup

Pay Credits + Interest Credits= Cash Balance!

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Year Pay CreditInterest Credit @ 10%

Cash Balance

1 $100,000 $0 $100,000 2 100,000 10,000 210,0003 100,000 21,000 331,0004 100,000 33,100 464,1005 100,000 46,410 610,5106 100,000 61,051 771,5617 100,000 77,156 948,7178 100,000 94,872 1,143,5899 100,000 114,359 1,357,948

10 100,000 135,795 1,593,742

Overview: PPA “Statutory Hybrid Plan”

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Definition DB plan where portion of accumulated benefit is:

Current hypothetical account balance(cash balance plan); or

Accumulated percentage of final average pay (PEP plan)

What you get Whipsaw reliefAge-discrimination relief

What you give 100% vesting in 3 yearsInterest credit can’t exceed “market rate of return”

What’s New: Final & Proposed Regs

Effective for plan years starting in 2016Applies to statutory hybrid plans

Changes to allowable “market” interest credits§411(d)(6) relief for noncompliant interest ratesDifferent interest credits for different groups!Interest credits after plan termination

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What’s New: “Market” Interest Credits

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Type of Rate Comments Old (2010) Maximum Floor

New (2014+)Maximum Floor

Fixed 5% 6%

Actual return on assets

May now be based on a subset of trust 3% cumulative 3% cumulative

Mutual fund or annuity contract

Broad US or int’l market fund 3% cumulative 3% cumulative

Notice 96-8 Treasury From 3-month + 175 bpto 30-year + 0 bp

4% annual or 3% cumulative

5% annual or 3% cumulative

Segment rates 417(e) lump sum or 430(h) funding

4% annual or 3% cumulative

4% annual or 3% cumulative

CPI Plus 0-300 bp 4% annual or 3% cumulative

5% annual or 3% cumulative

Other Only as announcedby Commissioner!!

What’s New: §411(d)(6) Relief

Anti-cutback rules: each pay credit includes all future interest creditsSo, couldn’t reduce future interest creditsExcept to comply with new rulesFor example: 3½% cumulative floor could be reduced to 3% going forwardOption to preserve pre-amendment balance with old (noncompliant) interest credits

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What’s New: Interest Credits by Group

Interest credit = actual return on subset of assetsCan now set up CB plan like a target date fundAsset pool requirements

DiversifiedEmployer stock & real estate < 10% of poolMarket value of pool =~ benefits (account balances)

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What’s New: After Plan Termination

PPA: post-plan-termination interest crediting rates equal 5-year pre-termination averageFor a market-based plan, PPA rule produced odd results at the end of a bull or bear marketMay now use PPA 2nd (middle) funding segment rate for the last pre-termination month

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Surprises

Different interest credits for different groups3% cumulative floor < 4% - 5% annual floorSpecified rates only!§411(d)(6) relief for future interest credits

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Issues: Interest Credits by Group

This will expand the appeal of cash balance plansNeed to ensure that it’s nondiscriminatoryWill need to track participants through different asset pools and crediting ratesIt will be a recordkeeping and testing challenge, but worth it

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Issues: Maximum 3% Cumulative Floor

Could demonstrate that it’s always <= 3% annualAnd 3% annual < permitted 4% - 5% annualOr...use §411(d)(6) relief to reduce floor > 3%

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Recap

Brief cash balance overviewWhat’s new in the regulationsSurprisesIssues & answers

Questions?

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Contact Information

Mark Schulte, FSA, EA, MAAAmarks@vaniwaarden.com612.596.5971

Jim van Iwaarden, FSA, EA, MAAAjimvi@vaniwaarden.com612.596.5961

Van Iwaarden Associates840 Lumber Exchange10 South Fifth StreetMinneapolis, MN 55402www.vaniwaarden.com1.888.596.5960