1. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company1 What is it? a defined contribution plan allocation that allows higher plan contributions for older plan entrants the formula for annual employer contributions or allocations to participant accounts is based on AGE as well as compensation level -older plan entrant’s accounts build up quickly -tends to favor owners and key-employees

2. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company2 Plan Types cross tested (new comparability plan) –maximizes benefits to highly compensated employees (HCEs) –benefits to non-HCEs are whatever is necessary to meet nondiscrimination regulations

3. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company3 Plan Types age-weighted profit sharing plan allocation formula contains actuarial age-weighting factor that gives a higher allocation for older plan entrants target plan pension plan with an age-weighted formula but requires annual contributions

4. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company4 When is it indicated? 1.relatively older business owners and key employees want to –maximize own plan benefits –minimize plan costs 2.employer wants to bring older employees into a defined contribution plan

5. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company5 When is it indicated? 3.want plan that provides adequate retirement benefits to older employees with lower cost and simplicity of a defined contribution plan 4.when employer terminates existing defined benefit plan and wants to provide approximately the same benefits to most employees 5.closely held business or professional corporation has older key employees

6. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company6 Advantages 1.can maximize retirement benefits for employees entering plan at older ages 2.older business owners and key employees may receive a larger portion of plan allocations as compared with other defined contribution plans 3.provides tax-deferred savings for employees 4.simple and inexpensive to design, administer, and explain to employees

7. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company7 Advantages 5.plan benefits may be eligible for special 10 year averaging for income tax purposes 6.individual accounts allow plan participants to benefit from good investment results

8. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company8 Disadvantages 1.annual additions to employee account limited to lesser of 100% compensation or $49,000 (2011); these limits may disadvantage highly compensated or older employees 2.employees bear investment risk 3.contributions to age-weighted or cross-tested profit sharing plan must be “substantial and recurring”; target benefit plan contributions must meet minimum funding standards each year

9. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company9 Disadvantages 4.age-weighted profit sharing plans have uncertain benefits; annual contributions not required 5.target pension plan or cross-tested plan may require annual actuarial services

10. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company10 Cross-Tested Plan Design designed to meet nondiscrimination requirements of IRS Code Section 401(a)(4) on the basis of benefits provided (i.e. is tested as if it were defined benefit plan, hence ‘cross-tested’) cross-testing rules are complex – basic rules: –highly compensated can receive maximum contribution allowed under Section 415 limits –remaining employees given allocation that meets requirements of cross-testing regulations

11. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company11 Cross-Tested Plan Design in general, cross-testing regulations focus on plan’s ultimate benefits to evaluate nondiscrimination plan must satisfy “gateway” requirement; small businesses usually face minimum allocation of 5% of compensation for nonhighly compensated employees to meet this requirement when more than one highly compensated employee is in group, plan must be broken into “rate groups” to test for nondiscrimination

12. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company12 Disadvantages of Cross-Tested Plans unstable plan design; age of new hires can necessitate new plan plan becomes costly or impractical if have –relatively large number of older rank and file employees –relatively young highly compensated employees must analyze plan design when have new hires, increasing plan costs

13. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company13 Disadvantages of Cross-Tested Plans plan design inhibits hire of older employees –can put employer in danger of violating age discrimination legislation –can deprive company of valuable and experienced employees who have critical skills

14. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company14 Fixed-Formula Age-Weighted Plans Age-Weighted Profit Sharing Plan actuarial formula for allocating employer contributions –allows plan to automatically pass cross-testing requirements –reduces plan complexity and cost plan is difficult to communicate to employees; younger employees may deem larger contributions to older employees as unfair

15. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company15 Fixed-Formula Age-Weighted Plans Age-Weighted Pension (Target Benefit) Plan similar to profit share plan with fixed formula, but as pension plan must meet annual minimum funding requirements disadvantages –no guarantee of fund balance at retirement –difficult to communicate to employees –employers must fund annually

16. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company16 Tax Implications 1.employer plan contributions tax deductible 2.employee contribution tax deferred 3.annual additions limited to 100% compensation or $49,000 (2011) 4.must follow rules for qualified plan distributions; premature distributions subject to penalty 5.special 10 year averaging may be available for some lump-sum distributions

17. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company17 Tax Implications 6.target pension plan is subject to minimum funding rules of IRC Section 412 7.some employers may qualify for $500 business tax credit for ‘qualified start up costs’ 8.plan may allow employees to contribute to ‘deemed IRA’ under plan; such contributions will limit other IRA contributions 9.plan subject to ERISA reporting and disclosure rules

18. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company18 Alternatives defined benefit plans –more benefit security –greater tax deductible employer contributions for older, highly compensated employees –more complex and costly to design and administer money purchase plan –similar to target benefit plan –without age-related contribution feature

19. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company19 Alternatives nonqualified deferred compensation plans –can be provided exclusively for executives –employer tax deduction deferred until benefit payments are made individual retirement savings plans –can be alternative or supplement to employer plan –amount of contribution limited

20. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company20 True or False? 1.An age-weighted plan allows for higher contribution levels as percent of compensation for older plan entrants. 2.A cross-tested plan maximizes benefits to highly compensated employees. 3.An age-weighted plan can provide approximately the same benefits to employees when their employer switches from a defined benefit plan.

21. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company21 True or False? 4.An age-weighted plan and a target benefit plan must have annual employer contributions. 5.Cross-tested plans do not need to meet nondiscrimination rules since their structure precludes discrimination. 6.A cross-tested plan is typically not advantageous when many highly compensated employees are relatively young.

22. Cross-Tested/ Age-Weighted Plan Chapter 21 Employee Benefit & Retirement Planning Copyright 2011, The National Underwriter Company22 Discussion Question Discuss how an age-weighted or cross-tested plan would work for 1.self-employed 2.shareholder employees of S corporation