I have a determination letter request pending with the IRS on a DB plan. We are using a prototype document. The regular vesting schedule is 5 year cliff and the top heavy schedule is 2/20. The IRS is saying we must amend the top heavy schedule because it is not as favorable as the regular schedule in the 5th year. They are asking that we amend to 3 year cliff or change the 2/20 to 100% in the 5th year. I've never had this come up before. I understand there are protection issues when a vesting schedule changes but is this a valid request?

Nancy - Although a 2/20 schedule is most commonly seen in docs for when the plan becomes top heavy, the 3-year cliff is also a top heavy vesting schedule. I'm not sure if they still do, but I know our old FDP prototype documents referenced both the 2/20 and the 3-year cliff in top heavy years so the plan would use the appropriate schedule. It is a valid request.

Nancy - thought it might help if you saw the Code Section

US CODE

TITLE 26 > Subtitle A > CHAPTER 1 > Subchapter D > PART I > Subpart B > Sec. 416.
Sec. 416. - Special rules for top-heavy plans

(a) General rule
A trust shall not constitute a qualified trust under section 401(a) for any plan year if the plan of which it is a part is a top-heavy plan for such plan year unless such plan meets -
(1) the vesting requirements of subsection (b), and

(2) the minimum benefit requirements of subsection ©.
(b) Vesting requirements


(1) In general
A plan satisfies the requirements of this subsection if it satisfies the requirements of either of the following subparagraphs:

(A) 3-year vesting

A plan satisfies the requirements of this subparagraph if an employee who has completed at least 3 years of service with the employer or employers maintaining the plan has a nonforfeitable right to 100 percent of his accrued benefit derived from employer contributions.

(B) 6-year graded vesting

A plan satisfies the requirements of this subparagraph if an employee has a nonforfeitable right to a percentage of his accrued benefit derived from employer contributions determined under the following table: The nonforfeitable Years of service percentage is: 2 20 3 40 4 60 5 80 6 or more 100

Hope this helps.

I understand all that. We marked the 2/20 schedule for top heavy, but the IRS agent is saying that is not acceptable because the regular schedule is the 5 year cliff.

Is 411(a)(10) relating to changes in the vesting schedule applicable?

Your document is saying that someone with 5 years of service is 100% if the plan is not top heavy. Then if the plan becomes top heavy then they go from 100% vested to 80% vested. This is what the IRS is commenting on which you cannot do.

Sorry Nancy, what Archimage said is what I was trying to point out. If you have a 5 year cliff vesting schedule and the plan becomes top heavy, your top heavy schedule must be the 3 year cliff not 2/20. That is not new.

Really?
I thought the IRC 411 and the vesting provisions of IRC 416 set forth minimum requirements. Are you saying that a 5-yr cliff plan that becomes top-heavy cannot use a schedule of 2/20, 3/40, 4/60, 5/100 ?

No pax - I was just trying to say that you can't have a "standard" 2/20 vesting in a top heavy plan with 5-year cliff for the reason that Archimage cited. Our standard prototype plan gives the option of either the 2/20 or 3 year cliff for top heavy years so I thought maybe Nancy's did also. You could of course use the schedule you cite if it is in the doc.

My document does allow for both a 2/20 schedule and a 3 year cliff when the plan becomes top-heavy. We selected the 2/20 schedule. Our document vendor also agrees that you should be able to select either schedule for top-heavy irregardless of what the regular shedule is.

The document vendor is wrong as the IRS has already pointed that out to you. You can't cutback someone's vesting as I stated in my previous post.

In this situation, I'd be looking for a new document vendor, as they are not only wrong, they are quite obviously wrong, and appear to be sticking to their (wrong) beliefs in the presence of clear information (an IRS challenge) that they are wrong.

Wait a minute.

Does the document literally indicate that the vested percentage literally decreases if the plan becomes top heavy, or does the plan say that the top heavy schedule is a minimum?

Second, does the plan have language, like many do (all?) that a participant with at least 3 years of service has the right to retain use of a prior schedule ?

Maybe this is what the document vendor is stating, that a decrease is automatically avoided.

I'm not sure that vesting cannot remain stagnant for one year, is anybody else?

Perhaps there is such a prohibition, but nobody here has provided such a cite. Is the IRS providing such a cite?

Sure it can. Vesting service continues, but that does not mean the vesting percentage has to change every year.

Check the plan provisions.

Does the adoption agreement only provide for set vesting schedules, or does it also have an "Other" option where the plan could put 0%, 20%, 40%, 60%, 100% for the top heavy? I don't reacall seeing a prototype that didn't have an "Other" option.

If the adoption has an "Other" option, why not just make the top heavy schedule 0%, 20%, 40%, 60%, 100%? Regardless of what the underlying language in the document says, why is this a battle worth fighting?

Q: If a plan is top heavy each year from adoption can benefits vest under 2/20 schedule for a TH plan or must the benefits be vested under 5 yr cliff vesting for a non TH plan?

Ans: IRC 401(a)(10)(B)(i)-" In the case of a top heavy plan ... such plan shall constitute a qualified trust under this section only if the requirements of IRC 416 are met." The general vesting schedules apply only in those years the plan is not TH, e.g., if a plan using 2/20 is top heavy for its first 4 years and becomes non TH in yr 5 participants with 5 yrs of service will remain 60% vested in year 5 under under 3/20. If the plan become TH again in yr 6 then those ee with 6 yrs of service will be 100% vested or 80% vested if the plan is not TH.

PS: When the TH provisions were enacted in 1982 the general vesting rules permitted a choice between 10 yr cliff vesting and graded vesting of 5 to 15 years so both TH vesting schedules required 100% vesting earlier than either general schedule.

So, do we agree that the document vendor may be right (unless the document has some faulty language which makes no sense) and should not necessarily be fired? That is the part that got my attention.

Or is there "clear information" that they are "obviously wrong" because of the comments of an IRS reviewer? Goodness knows, they're all experts, right?

Andy, what you say does make sense, however, the IRS has already reviewed it and says that this is not the case. Of course the IRS agent reviewing the plan could be incompetent.

Nancy, ask the IRS reviewer for a cite.