Regulations Update Hybrid Defined Benefit Plan Rules

On Monday, the IRS released final and proposed regulations providing guidance on so-called hybrid defined benefit pension plans (T.D. 9693 and REG-111839-13). The regulations deal with changes made by the Pension Protection Act of 2006, P.L. 109-280, and the Worker, Retiree, and Employer Recovery Act of 2008, P.L. 110-458. The Pension Protection Act modified the Sec. 411(a) minimum vesting standards and the Sec. 411(b) accrual requirements.

A hybrid defined benefit pension plan is generally a defined benefit plan under the terms of which the accumulated benefit of a participant is expressed as the balance of a hypothetical account maintained for the participant or as the current value of the accumulated percentage of the participant’s final average compensation (or is a plan that uses a formula that has an effect similar to this).

These regulations address issues that were not covered in final regulations issued in 2010 (T.D. 9505) and make certain other changes to those earlier rules. One change is to permit the 133 1/3% rule of Sec. 411(b)(1)(B) for defined benefit plans that adjust benefits using a variable rate that could be negative to be applied at an earlier date than originally proposed, either for plan years that begin on or after Jan. 1, 2012, or an earlier date elected by the taxpayer.

Another change is to the age discrimination rules for plan years that begin on or after Jan. 1, 2016. If the annual benefit payable before normal retirement age is greater for a participant than the annual benefit under the corresponding form of benefit for any similarly situated, older individual who is or could be a participant and who is currently at or before normal retirement age, then that excess is not part of the subsidized portion of an early retirement benefit and, accordingly, is not disregarded for age discrimination purposes.

Another significant change from the 2010 regulations is to the interest crediting rates that are permitted. Although these regulations continue to specify which interest crediting rates satisfy the market-rate-of-return requirement, the list of rates has been expanded to include certain additional rates not permitted under the 2010 rules. So the list of permitted rates can be further expanded in the future, the IRS may publish guidance increasing the interest crediting rates (e.g., by increasing the maximum permitted margin that can be added to one or more of the safe-harbor rates, increasing the maximum permitted fixed rate, or increasing a maximum permitted annual floor) and to issue other rules that are discussed in the preamble.

T.D. 9693 generally applies to plan years that begin on or after Jan. 1, 2016.

Related proposed regulations issued simultaneously concern the rules under which a hybrid plan is treated as failing to satisfy Sec. 411(b)(1)(H) (which prohibits the rate of an employee’s benefit accrual from being reduced because of the attainment of any age) if the terms of the plan provide any interest credit (or an equivalent amount) for any plan year at a rate that is in excess of a market rate of return. A plan does not satisfy Sec. 411 if an amendment to the plan decreases a participant’s accrued benefit. For this purpose, a plan amendment that has the effect of eliminating or reducing an early retirement benefit or a retirement-type subsidy or eliminating an optional form of benefit for benefits attributable to service before the amendment is treated as reducing accrued benefits.

The proposed rules recognize that there is a conflict between the market-rate-of-return rules and the Sec. 411(d)(6) anti-cutback rules and would permit a plan with a noncompliant interest crediting rate to be amended with respect to benefits that have already accrued so that its interest crediting rate complies with the market rate of return rules. The proposed rules also request comments on these issues. Comments must be received by Dec. 19, 2014. A public hearing is scheduled for Jan. 9, 2015.