A top-heavy retirement plan is an employer-sponsored retirement plan in which a large percentage of the plan assets or benefits are held by a small group of highly compensated employees (HCEs). But how does it work with a cash balance pension plan?
Under the Internal Revenue Code (IRC), a plan is considered top-heavy if, as of the plan’s determination date (usually the last day of the previous plan year), the total value of plan assets attributable to HCEs exceeds 60% of the total value of plan assets. Alternatively, a plan is considered top-heavy if the account balances of key employees exceed 60% of the total account balances of all employees covered by the plan.
When a plan is top-heavy, certain rules and requirements are designed to ensure that non-HCEs receive a minimum benefit under the plan. These requirements include mandatory employer contributions and accelerated vesting schedules for non-HCEs.
Employers may choose to structure their retirement plan to avoid becoming top-heavy by designing their plan to offer benefits that are more evenly distributed across all plan participants.
Can a cash balance plan be top heavy?
Yes, a cash balance plan can be top-heavy if it meets the definition of top-heavy under the Internal Revenue Code. As I mentioned earlier, a plan is considered top-heavy if, as of the plan’s determination date, the total value of plan assets attributable to highly compensated employees (HCEs) exceeds 60% of the total value of plan assets.
In the case of a cash balance plan, whether the plan is top-heavy is determined by comparing the aggregate account balances of HCEs in the plan to the aggregate account balances of all other employees in the plan without regard to the benefits provided under the plan.
If a cash balance plan is top-heavy, certain rules and requirements will come into play to ensure that non-HCEs receive a minimum benefit. As mentioned earlier, these requirements include mandatory employer contributions and accelerated vesting schedules for non-HCEs.
What is a key employee mean in retirement plans?
In the context of retirement plans, a key employee is an employee who meets specific criteria set forth by the Internal Revenue Code (IRC) and the Employee Retirement Income Security Act (ERISA). These criteria determine whether an employee is considered a highly compensated employee (HCE) or a key employee for certain plan provisions.
Under the IRC, a key employee is generally defined as an employee who, at any time during the specific plan year or the prior plan year, satisfies any one of the following tests:
- An officer of the employer with annual compensation greater than a specified dollar amount (currently $200,000).
- A more than 5% owner of the employer.
- A more than 1% owner of the employer with annual compensation greater than a specified dollar amount (currently $150,000).
To determine key employee status, ownership is generally determined by attribution rules that consider ownership interests held by family members, certain related entities, and other individuals.
The definition of a key employee is essential for retirement plans because it affects how the plan is designed, how contributions are allocated, and how benefits are calculated. For example, key employees may be subject to different contribution limits or vesting schedules than non-key employees, and certain plan provisions may be restricted or prohibited for key employees.