412(i) DEFINED BENEFIT PENSION PLANS

 

What is a 412(i) defined benefit pension plan?

 

A 412(i) defined benefit pension plan, referred to in IRS regulations as an "insurance contract plan", is the only defined benefit plan that is exempt from the minimum funding requirements of Section 412 of the internal revenue code. This type of plan, therefore, enjoys certain advantages over the traditional defined benefit plan and is worth exploring if you or your clients are the owner of a small business.

 

These advantages create a plan that, compared to a traditional defined benefit plan, will produce:

·          larger initial deductions

·          more stability in the contribution level,

·          simpler plan administration, and

·          a secure promise of future benefits guaranteed by an insurance company.

 

What are the advantages of a 412(i) insurance contract plan over a "traditional" defined benefit plan?

 

A 412(i) insurance contract plan:

·          does not require an enrolled actuary thus saving thousands of dollars of annual administration fees;

·          is not subject to the full funding limitation tests of a defined benefit plan;

·          is required to use the contract guarantees as funding assumptions, thus shielding them from IRS attack as unreasonable funding assumptions;

·          can be designed to eliminate the potential of overfunding that, in a traditional plan, would be subject to taxes and penalties of 80% or more upon termination of the plan;

·          produces an understandable accrued benefit since it is simply the cash value of the contracts funding the participant's account;

·          creates larger initial deductions than a traditional plan since the funding assumptions are required to be much more conservative; and provides retirement benefits that are guaranteed by the insurance company and not just the financial strength of the particular employer providing the plan.

 

What requirements must be met to qualify as a 412(i) insurance contract plan?

 

The major requirements under Section 412(i) of the Internal Revenue Code are:

·          The plan must be funded exclusively with annuity products, or a combination of life insurance and annuity products, issued by an isurance company.

·          The benefits provided each individual must be equal to the values provided in the contracts and guaranteed by the insurance carrier.

·          Life insurance dividends and excess annuity interest must be used to reduce the following year's plan contribution.

·          No policy loans are allowed under the contracts.

 

How does the initial deductible contribution required in a 412(i) plan compare to a traditional defined benefit plan?

 

The 412(i) deduction will vary depending on the insurance company products utilized. Below is an illustration of the funding necessary using a certain insurance company’s annuity product. The 412(i) plan deduction below could be raised even more by including life insurance in the plan.

 

Assume the following example: A corporation begins a new defined benefit plan. There is only one participant in the plan. There is no life insurance in the plan. The participant is age 55 and has 10 years of funding to the normal retirement age of 65. For EACH $1,000 monthly benefit at age 65 for this 55 year old participant, the corporation would be able to deduct:

 

 

The maximum deductible  contribution for the 412(i) plan with life insurance is over $240,000 for a male age 55

 

1.        Post retirement assumptions: Life only, 1984 Unisex mortality, 6% interest. Pre-retirement interest rate of 6%.

2.        Post retirement: Life only annuity rate of $194 per $1 of monthly benefit. Pre- retirement interest rate of 3%.

 

If your goal is a large deduction for your business and a secure retirement benefit for yourself, the special characteristics of the 412(i) defined benefit plan are worth exploring. Brokerage Professionals would be happy to provide you with a free look at a 412(i) plan for your specific business clients. We provide complete design, installation and administration.

 

There are many variations in the 412(i)plan design.

Let the professionals at Brokerage Professionals assist you. 
Contact James Nisbet 1-800-733-7729, 480 505-2500 or E-Mail James Nisbet at jim@bpim.com
You may also download this article, confidential employee census and a comparison of the contributions by clicking here 412.pdf
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