Rev. Rul. 80-229

Section 1. Purpose

The revenue ruling provides guidelines for determining whether an asset allocation is discriminatory within the meaning of section 401(a)(4) of the Internal Revenue Code upon the termination of a defined benefit plan. The ruling supersedes Rev. Rul. 55-60, 1955-1 C.B. 37, Rev. Rul. 59-241, 1959-2 C.B. 118, and Rev. Rul. 65-294, 1965-2 C.B. 136.

Sec. 2. Background Information

Section 401(a)(4) of the Code provides that contributions or benefits under the plan shall not discriminate in favor of employees who are officers, shareholders or highly compensated.

Section 411(d)(2) and (d)(3) of the Code provides certain vesting standards regarding prohibited discrimination, which are also qualification standards, in the event of plan termination.

Section 1.401-4(c) of the Income Tax Regulations provides restrictions on the distribution of assets for certain employees in the event of early termination of the plan. Section 1.401-4(c)(1) of the regulations provides that the Commissioner may determine that such restrictions are not necessary to prevent prohibited discrimination in the event of an early plan termination.

Section 4044(a) of Title IV of the Employee Retirement Income Security Act of 1974 (ERISA), Pub. L. 93-406, 1974-3 C.B. 1, sets forth the rules applicable to the allocation of assets to participants and beneficiaries by priority categories in the event of the termination of a defined benefit plan.

Under section 4044(b)(4) of ERISA and section 1.411(d)-2(a)(2)(ii) of the regulations, assets that would otherwise be allocated pursuant to paragraphs (4)(B), (5) and (6) of section 4044(a) of ERISA may be required to be reallocated to the extent necessary to avoid discrimination within the meaning of section 401(a)(4) of the Code. Further, section 1.411(d)-2(e) of the regulations provides that assets in excess of the early termination limits may be reallocated to avoid discrimination.

Sec. 3. Assets Not Less Than Present Value of Accrued Benefit

In the case of a terminating plan in which the value of plan assets as of the date of termination is not less than the present value of all accrued benefits (whether or not nonforfeitable) as of such date, a distribution of assets to each participant equal to the present value of that participant's accrued benefit will not be discriminatory within the meaning of section 401(a)(4) of the Code if the formula for computing benefits as of the date of termniation would not be discriminatory had the plan not terminated. All present values and the value of plan assets are computed using assumptions that are acceptable to satisfy section 4044 of ERISA.

If the assets as of the date of termination exceed the present value of the accrued benefits (whether or not nonforfeitable) as of such date, the plan will not be considered discriminatory if such excess reverts to the employer or is applied to increase benefits in a nondiscriminatory manner. One method of applying the assets to increase benefits in a nondiscriminatory manner is to amend the plan to provide a new benefit structure such that (1) the benefit structure would not be discriminatory if the plan were not terminated and (2) the present value of the revised accrued benefits (whether or not nonforfeitable) as of the date of termination equals the value of plan assets, and to distribute assets equal to the present value of the revised accrued benefits. The new benefit structure must satisfy other requirements of the law such as sections 411(d)(6) and 415 of the Code.

The guidelines provided by this section may be applied whether or not the termination would otherwise invoke the early termination restrictions described in section 1.401-4(c) of the regulations.

The guidelines described in this section may be illustrated by the following examples:

EXAMPLE 1. A plan provides a benefit of 10% of the first $5,000 of compensation plus 471/2% of compensation in excess of $5,000. Such plan satisfies the requirements of Rev. Rul. 71-446, 1971-2 C.B. 187, and is fully integrated. As of the date of termination the assets equal $100,000 and the present value of the accrued benefits (whether or not nonforfeitable) equals $80,000. The plan distributes the $100,000 by providing each participant with assets equal to 125% of the present value of such participant's accrued benefit (whether or not nonforfeitable).

Distributing assets equal to 125% of the present value of the accrued benefits is tantamount to amending the plan by multiplying each of the terms of the benefit formula by 125% and distributing the present value of the accrued benefits. The revised formula would be 12.5% of the first $5,000 of compensation plus 59.375% of compensation in excess of $5,000. The revised formula is discriminatory in an ongoing plan because the formula fails to integrate properly. (See Rev. Rul. 71-446.) Accordingly, such distribution is discriminatory.

EXAMPLE 2. The facts are the same as in Example 7 except that the distribution is revised as follows: By a separate actuarial computation it is determined that a nonintegrated increase in the benefit formula of 1% of all compensation would increase the present value of the accrued benefits by $4,000. The plan has surplus assets of $20,000 ($100,000 of assets as of the date of termination less $80,000, the present value of accrued benefits as of such date). Therefore, an increase of each of the terms of the benefit formula by 5% ($20,000 surplus) ----------------- ($ 4,000 present value of accrued benefit for each 1% increase in benefit formula) will produce a benefit formula that would be nondiscriminatory in an ongoing plan and whose present value of the accrued benefits (whether or not nonforfeitable) equals the value of plan assets. The benefit formula is therefore revised to provide 15% of the first $5,000 and 521/2% of compensation in excess of $5,000, and assets equal to the revised present value of the accrued benefits may be distributed without causing discrimination.

Sec. 4. Assets Less Than Present Value of Accrued Benefits

.01 Applicability--This section applies to the termination of a defined benefit plan in which the value of plan assets as of the date of termination is less than the present value of all accrued benefits (whether or not nonforfeitable) as of such date whether or not the restrictions of section 1.401-4(c) of the regulations apply.

.02 General Rules--The following guidelines apply in testing for discrimination in the case of a plan described in subsection .01 with respect to which the benefit structure, if the plan were not terminated, would not be discriminatory under section 401(a)(4) of the Code.

(1) Except as provided in paragraph (4), the assets of a plan are allocated in accordance with sections 4044(a)(1), (2), (3), and (4)(A) of ERISA.

(2) Subject to the requirements of paragraph (1), the assets shall be allocated, to the extent possible, so that the rank and file employees receive from the plan at least the same proportion of the present value of their accrued benefits (whether or not nonforfeitable) as employees who are officers, shareholders, or highly compensated.

(3) Notwithstanding any other paragraph, in the case of assets restricted by section 1.401-4(c) of the regulations, assets may be reallocated to the extent necessary to help satisfy paragraph (2).

(4) In the case of a plan establishing subclasses within the meaning of section 4044(b)(6) of ERISA, the assets within any paragraph of section 4044(a) of ERISA may be reallocated within such paragraph to the extent that such reallocation helps to satisfy paragraph (2).

(5) Subject to paragraphs (1), (2), (3), and (4), the assets shall be allocated in accordance with section 4044(a)(4)(B), (5), and (6) of ERISA.

.03 Examples--The guidelines described in subsection .02 are illustrated by the following examples:

Example 1. A plan described in subsection .01 which provided benefits on an ongoing basis as of the date of termination that were not discriminatory within the meaning of section 401(a)(4) of the Code, terminates. The plan has two employees: A, an officer of the company, and B, a rank and file employee. The value of plan assets as of the date of termination is $130,000 which would, without regard to this section, be allocated to the employees under section 4044(a) of ERISA as follows:

   Paragraph of

The proposed distribution described in section 4044(a) of ERISA would not satisfy section 4.02(2) of this revenue ruling because (1) employees who are officers, shareholders or highly compensated would receive 54% ($130,000) ---------- of the present value of ($240,000) their accrued benefit whether or not nonforfeitable and the rank and file employees would receive 0% and (2) there are assets in paragraphs (4)(B), (4) or (6) of section 4044(a) of ERISA to be reallocated to minimize the discrimination. The $10,000 allocated in paragraph (5) to A should be reallocated to B. A would then receive $120,000 (50% of the present value of his accrued benefits whether or not nonforfeitable) and B would receive $10,000 (162/3% of the present value of his accrued benefits whether or not nonforfeitable). This distribution would be deemed nondiscriminatory because the assets have, in accordance with section 4.02(2) of this revenue ruling, been allocated to the extent possible to preclude discrimination.

Example 2. The facts are the same as in Example 1 except the early termination restrictions described in section 1.401-(4)(c) would limit the assets to be allocated to A to $100,000. It is proposed to distribute $120,000 to A and $10,000 to B.

The proposed distribution does not satisfy section 4.02(3) of this revenue ruling because (1) the assets allocated to officers, shareholders, and highly compensated are 50% of the present value of their accrued benefits and the assets allocated to the rank and file employees are 162/3% of the present value of their accrued benefits and (2) there are assets that are restricted by section 1.401-4(c) of the regulations that may be allocated to preclude discrimination. If an additional $16,000 were allocated to B so that A would receive $104,000 (431/3% of the present value of his accrued benefit) and B would receive $26,000 (431/3% of the present value of his accrued benefit) the distribution would be nondiscriminatory even though A is receiving $104,000 and the limits described in section 1.401-4(c) would otherwise limit his benefits to $100,000.

Example 3. A plan described in subsection .01, which provides benefits on an ongoing basis that are not discriminatory within the meaning of section 401(a)(4) of the Code, is terminated. The plan has two employees: A, a shareholder employer whose benefits are not nonforfeitable, and B, a rank and file employee whose entire benefits are nonforfeitable. When the assets are allocated in accordance with section 4044(a) of ERISA only B receives an asset allocation. It is proposed to reallocate the assets to provide both A and B with the same proportion of the present value of their accrued benefits whether or not nonforfeitable.

The proposed reallocation is not permitted. Because the rank and file employees are receiving at least the same percentage of the present value of their accrued benefits as the employees who are officers, shareholders, or highly compensated, there is no discrimination within the meaning of section 401(a)(4) of the Code and no reallocation under section 4.02(2), (3), or (4) of this revenue ruling and section 4044(b)(4) of ERISA is permissible. The assets, in accordance with section 4.02(1) and (5) should be allocated in accordance with section 4044(a) of ERISA.

Sec. 5. Effect on Other Rulings

Rev. Ruls. 55-60, 59-241 and 65-294 are superseded.