Oct 19, 2009


Potentially, a qualified defined-benefit plan can be used as a one-time tax shelter for key employees if it is designed with the expectation that most of the key employees will retire within a few years, taking most of the plan assets out for their retirement, thus terminating the plan. For many years, the Regulations [Section 1.401-4(c)] have contained a provision designed to limit this abuse by requiring defined-benefit plans to limit benefits for the 25 highest-paid employees if they are paid out within ten years of the plan's establishment or the plan terminates within ten years.

In such cases, benefits to the 25 highest-paid employees are limited by limiting the total employer contributions used to fund such benefits. The employer contributions for each such employee cannot exceed the greater of $20,000 or 20 percent of the first $50,000 of employee compensation multiplied by the number of years the plan was in effect prior to the benefit payment or plan termination. Often, this will produce a lower limit on benefits than the Section 415 benefit limit.


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