Hybrid Retirement Plans, 73680-73699 [E7-25025]

Agencies

• Internal Revenue Service
• DEPARTMENT OF THE TREASURY

[Federal Register Volume 72, Number 248 (Friday, December 28, 2007)]
[Proposed Rules]
[Pages 73680-73699]
From the Federal Register Online via the Government Printing Office [www.gpo.gov]
[FR Doc No: E7-25025]


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DEPARTMENT OF THE TREASURY

Internal Revenue Service

26 CFR Part 1

[REG-104946-07]
RIN 1545-BG36


Hybrid Retirement Plans

AGENCY: Internal Revenue Service (IRS), Treasury.

ACTION: Notice of proposed rulemaking.

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SUMMARY: This document contains proposed regulations providing guidance 
relating to sections 411(a)(13) and 411(b)(5) of the Internal Revenue 
Code (Code) concerning certain hybrid defined benefit plans. These 
regulations provide guidance on changes made by the Pension Protection 
Act of 2006. These regulations affect sponsors, administrators, 
participants, and beneficiaries of hybrid defined benefit plans.

DATES: Written or electronic comments and requests for a public hearing 
must be received by March 27, 2008.

ADDRESSES: Send submissions to: CC:PA:LPD:PR (REG-104946-07), Room 
5203, Internal Revenue Service, PO Box 7604, Ben Franklin Station, 
Washington, DC 20044. Submissions may be hand-delivered Monday through 
Friday between the hours of 8 a.m. and 4 p.m. to: CC:PA:LPD:PR (REG-
104946-07), Courier's Desk, Internal Revenue Service, 1111 Constitution 
Avenue, NW., Washington, DC, or sent electronically via the Federal 
eRulemaking Portal at https://www.regulations.gov (IRS REG-104946-07).

FOR FURTHER INFORMATION CONTACT: Concerning the regulations, Lauson C. 
Green or Linda S. F. Marshall at (202) 622-6090; concerning submissions 
of comments or to request a public hearing, Funmi Taylor at (202) 622-
7180 (not toll-free numbers).

SUPPLEMENTARY INFORMATION:

Background

    This document contains amendments to the Income Tax Regulations (26 
CFR part 1) under sections 411(a)(13) and 411(b)(5) of the Code. 
Generally, a defined benefit pension plan must satisfy the minimum 
vesting standards of section 411(a) and the accrual requirements of 
section 411(b) in order to be qualified under section 401(a) of the 
Code. Sections 411(a)(13) and 411(b)(5), which were added to the Code 
by section 701(b) of the Pension Protection Act of 2006, Public Law 
109-280, 120 Stat. 780 (PPA '06), modify the minimum vesting standards 
of section 411(a) and the accrual requirements of section 411(b).
    Section 411(a)(13)(A) provides that an applicable defined benefit 
plan (which is defined in section 411(a)(13)(C)) is not treated as 
failing to meet either (i) The requirements of section 411(a)(2) 
(subject to a special vesting rule in section 411(a)(13)(B) with 
respect to benefits derived from employer contributions) or (ii) The 
requirements of section 411(c) or 417(e) with respect to contributions 
other than employee contributions, merely because the present value of 
the accrued benefit (or any portion thereof) of any participant is, 
under the terms of the plan, equal to the amount expressed as the 
balance in a hypothetical account or as an accumulated percentage of 
the participant's final average compensation. Section 411(a)(13)(B) 
requires an applicable defined benefit plan to provide that an employee 
who has completed at least 3 years of service has a nonforfeitable 
right to 100 percent of the employee's accrued benefit derived from 
employer contributions.
    Under section 411(a)(13)(C)(i), a plan is an applicable defined 
benefit plan if the plan is a defined benefit plan under which the 
accrued benefit (or any portion thereof) of a participant is calculated 
as the balance of a hypothetical account maintained for the participant 
or as an accumulated percentage of the participant's final average 
compensation. Under section

[[Page 73681]]

411(a)(13)(C)(ii), the Secretary of the Treasury is to issue 
regulations which include in the definition of an applicable defined 
benefit plan any defined benefit plan (or portion of such a plan) which 
has an effect similar to a plan described in section 411(a)(13)(C)(i).
    Section 411(b)(1)(H)(i) provides that a defined benefit plan fails 
to comply with section 411(b) if, under the plan, an employee's benefit 
accrual is ceased, or the employee's rate of benefit accrual is 
reduced, because of the attainment of any age. Section 411(b)(5), which 
was added to the Code by section 701(b)(1) of PPA '06, provides 
additional rules related to section 411(b)(1)(H)(i). Section 
411(b)(5)(A) generally provides that a plan is not treated as failing 
to meet the requirements of section 411(b)(1)(H)(i) if a participant's 
accrued benefit, as determined as of any date under the terms of the 
plan, would be equal to or greater than that of any similarly situated 
younger individual who is or could be a participant. Section 
411(b)(5)(G) provides that, for purposes of section 411(b)(5), any 
reference to the accrued benefit of a participant shall be a reference 
to the participant's benefit accrued to date. For purposes of section 
411(b)(5)(A), section 411(b)(5)(A)(iv) provides that the accrued 
benefit may, under the terms of the plan, be expressed as an annuity 
payable at normal retirement age, the balance of a hypothetical 
account, or the current value of the accumulated percentage of the 
employee's final average compensation.
    Section 411(b)(5)(B) imposes several requirements on an applicable 
defined benefit plan as a condition of the plan satisfying section 
411(b)(1)(H). Section 411(b)(5)(B)(i) provides that such a plan is 
treated as failing to meet the requirements of section 411(b)(1)(H) if 
the terms of the plan provide for an interest credit (or an equivalent 
amount) for any plan year at a rate that is greater than a market rate 
of return. Under section 411(b)(5)(B)(i)(I), a plan is not treated as 
having an above-market rate merely because the plan provides for a 
reasonable minimum guaranteed rate of return or for a rate of return 
that is equal to the greater of a fixed or variable rate of return. 
Section 411(b)(5)(B)(i)(II) provides that an interest credit (or an 
equivalent amount) of less than zero can in no event result in the 
hypothetical account balance or similar amount being less than the 
aggregate amount of contributions credited to the account. Section 
411(b)(5)(B)(i)(III) specifies that the Secretary of the Treasury may 
provide by regulation for rules governing the calculation of a market 
rate of return for purposes of section 411(b)(5)(B)(i)(I) and for 
permissible methods of crediting interest to the account (including 
fixed or variable interest rates) resulting in effective rates of 
return meeting the requirements of section 411(b)(5)(B)(i)(I).
    Section 411(b)(5)(B)(ii), (iii), and (iv) contain minimum benefit 
rules that apply if, after June 29, 2005, an applicable plan amendment 
is adopted. Section 411(b)(5)(B)(v)(I) defines an applicable plan 
amendment as an amendment to a defined benefit plan which has the 
effect of converting the plan to an applicable defined benefit plan. 
Under section 411(b)(5)(B)(ii), if, after June 29, 2005, an applicable 
plan amendment is adopted, the plan is treated as failing to meet the 
requirements of section 411(b)(1)(H) unless the requirements of section 
411(b)(5)(B)(iii) are met with respect to each individual who was a 
participant in the plan immediately before the adoption of the 
amendment. Section 411(b)(5)(B)(iii) specifies that, subject to section 
411(b)(5)(B)(iv), the requirements of section 411(b)(5)(B)(iii) are met 
with respect to any participant if the accrued benefit of the 
participant under the terms of the plan as in effect after the 
amendment is not less than the sum of: (I) The participant's accrued 
benefit for years of service before the effective date of the 
amendment, determined under the terms of the plan as in effect before 
the amendment; plus (II) The participant's accrued benefit for years of 
service after the effective date of the amendment, determined under the 
terms of the plan as in effect after the amendment. Section 
411(b)(5)(B)(iv) provides that, for purposes of section 
411(b)(5)(B)(iii)(I), the plan must credit the participant's account or 
similar amount with the amount of any early retirement benefit or 
retirement-type subsidy for the plan year in which the participant 
retires if, as of such time, the participant has met the age, years of 
service, and other requirements under the plan for entitlement to such 
benefit or subsidy.
    Section 411(b)(5)(B)(v) sets forth certain provisions related to an 
applicable plan amendment. Section 411(b)(5)(B)(v)(II) provides that if 
the benefits under two or more defined benefit plans of an employer are 
coordinated in such a manner as to have the effect of adoption of an 
applicable plan amendment, the plan sponsor is treated as having 
adopted an applicable plan amendment as of the date the coordination 
begins. Section 411(b)(5)(B)(v)(III) directs the Secretary of the 
Treasury to issue regulations to prevent the avoidance of the purposes 
of section 411(b)(5)(B) through the use of two or more plan amendments 
rather than through a single plan amendment.
    Section 411(b)(5)(B)(vi) provides a special rule for converting a 
variable interest crediting rate to a fixed rate for purposes of 
determining plan benefits in the case of a terminating applicable 
defined benefit plan.
    Section 411(b)(5)(C) provides that a plan is not treated as failing 
to meet the requirements of section 411(b)(1)(H)(i) solely because the 
plan provides offsets against benefits under the plan to the extent the 
offsets are allowable in applying the requirements of section 401(a). 
Section 411(b)(5)(D) provides that a plan is not treated as failing to 
meet the requirements of section 411(b)(1)(H) solely because the plan 
provides a disparity in contributions or benefits with respect to which 
the requirements of section 401(l) (relating to permitted disparity for 
Social Security benefits and related matters) are met.
    Section 411(b)(5)(E) provides that a plan is not treated as failing 
to meet the requirements of section 411(b)(1)(H) solely because the 
plan provides for indexing of accrued benefits under the plan. Under 
section 411(b)(5)(E)(iii), indexing means the periodic adjustment of 
the accrued benefit by means of the application of a recognized 
investment index or methodology. Section 411(b)(5)(E)(ii) requires 
that, except in the case of a variable annuity, the indexing not result 
in a smaller benefit than the accrued benefit determined without regard 
to the indexing.
    Section 701(a) of PPA '06 added provisions to the Employee 
Retirement Income Security Act of 1974, Public Law 93-406 (88 Stat. 
829) (ERISA), that are parallel to the above-described sections of the 
Code that were added by section 701(b) of PPA '06. The guidance 
provided in these proposed regulations with respect to the Code would 
also apply for purposes of the parallel amendments to ERISA made by 
section 701(a) of PPA '06.\1\
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    \1\ Under section 101 of Reorganization Plan No. 4 of 1978 (43 
FR 47713), the Secretary of the Treasury has interpretive 
jurisdiction over the subject matter addressed by these proposed 
regulations for purposes of ERISA, as well as the Code.
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    Section 701(c) of PPA '06 added provisions to the Age 
Discrimination in Employment Act of 1967, Public Law 90-202 (81 Stat. 
602) (ADEA), that are parallel to section 411(b)(5) of the Code. 
Executive Order 12067 requires all Federal departments and agencies to 
advise and offer to consult with the Equal Employment Opportunity 
Commission (EEOC) during the development of any proposed rules,

[[Page 73682]]

regulations, policies, procedures or orders concerning equal employment 
opportunity. The IRS and the Treasury Department have consulted with 
the EEOC prior to the issuance of these proposed regulations.
    Section 701(d) of PPA '06 provides that nothing in the amendments 
made by section 701 should be construed to create an inference 
concerning the treatment of applicable defined benefit plans or 
conversions of plans into applicable defined benefit plans under 
section 411(b)(1)(H), or concerning the determination of whether an 
applicable defined benefit plan fails to meet the requirements of 
section 411(a)(2), 411(c), or 417(e) as in effect before such 
amendments solely because the present value of the accrued benefit (or 
any portion thereof) of any participant is, under the terms of the 
plan, equal to the amount expressed as the balance in a hypothetical 
account or as an accumulated percentage of the participant's final 
average compensation.
    Section 701(e) of PPA '06 sets forth the effective date provisions 
with respect to amendments made by section 701 of PPA '06. Section 
701(e)(1) specifies that the amendments made by section 701 generally 
apply to periods beginning on or after June 29, 2005. Thus, the age 
discrimination safe harbors under section 411(b)(5)(A) and section 
411(b)(5)(E) are effective for periods beginning on or after June 29, 
2005. Section 701(e)(2) provides that the special present value rules 
of section 411(a)(13)(A) are effective for distributions made after 
August 17, 2006.
    Under section 701(e)(3) of PPA '06, in the case of a plan in 
existence on June 29, 2005, the 3-year vesting rule under section 
411(a)(13)(B) and the market rate of return limitation under section 
411(b)(5)(B)(i) are generally effective for years beginning after 
December 31, 2007. In the case of a plan not in existence on June 29, 
2005, those sections are effective for periods beginning on or after 
June 29, 2005. Section 701(e)(4) of PPA '06 contains special effective 
date provisions for collectively bargained plans that modify these 
effective dates.
    Under section 701(e)(5) of PPA '06, sections 411(b)(5)(B)(ii), 
(iii), and (iv) apply to a conversion amendment that is adopted after, 
and takes effect after, June 29, 2005.
    Section 702 of PPA '06 provides for regulations to be prescribed by 
August 16, 2007, addressing the application of rules set forth in 
section 701 of PPA '06 where the conversion of a defined benefit 
pension plan into an applicable defined benefit plan is made with 
respect to a group of employees who become employees by reason of a 
merger, acquisition, or similar transaction.
    Proposed regulations (EE-184-86) under sections 411(b)(1)(H) and 
411(b)(2) were published by the Treasury Department and the IRS in the 
Federal Register on April 11, 1988 (53 FR 11876), as part of a package 
of regulations that also included proposed regulations under sections 
410(a), 411(a)(2), 411(a)(8), and 411(c) (relating to the maximum age 
for participation, vesting, normal retirement age, and actuarial 
adjustments after normal retirement age, respectively).\2\
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    \2\ On December 11, 2002, the Treasury Department and the IRS 
issued proposed regulations regarding the age discrimination 
requirements of section 411(b)(1)(H) that specifically addressed 
cash balance plans as part of a package of regulations that also 
addressed section 401(a)(4) nondiscrimination cross-testing rules 
applicable to cash balance plans (67 FR 76123). The 2002 proposed 
regulations were intended to replace the 1988 proposed regulations. 
In Ann. 2003-22 (2003-1 CB 847), see Sec.  601.601(d)(2)(ii)(b) of 
this chapter, the Treasury Department and the IRS announced the 
withdrawal of the 2002 proposed regulations under section 401(a)(4), 
and in Ann. 2004-57 (2004-2 CB 15), see Sec.  601.601(d)(2)(ii)(b) 
of this chapter, the Treasury Department and the IRS announced the 
withdrawal of the 2002 proposed regulations relating to age 
discrimination.
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    Notice 96-8 (1996-1 CB 359), see Sec.  601.601(d)(2)(ii)(b) of this 
chapter, described the application of sections 411 and 417(e) to a 
single sum distribution under a cash balance plan where interest 
credits under the plan are frontloaded (that is, where future interest 
credits to an employee's hypothetical account balance are not 
conditioned upon future service and thus accrue at the same time that 
the benefits attributable to a hypothetical allocation to the account 
accrue). Under the analysis set forth in Notice 96-8, in order to 
comply with sections 411(a) and 417(e) in calculating the amount of a 
single sum distribution under a cash balance plan, the balance of an 
employee's hypothetical account must be projected to normal retirement 
age and converted to an annuity under the terms of the plan, and then 
the employee must be paid at least the present value of the projected 
annuity, determined in accordance with section 417(e). Under that 
analysis, where a cash balance plan provides frontloaded interest 
credits using an interest rate that is higher than the section 417(e) 
applicable interest rate, payment of a single sum distribution equal to 
the current hypothetical account balance as a complete distribution of 
the employee's accrued benefit may result in a violation of section 
417(e) or a forfeiture in violation of section 411(a). In addition, 
Notice 96-8 proposed a safe harbor which provided that, if frontloaded 
interest credits are provided under a plan at a rate no greater than 
the sum of identified standard indices and associated margins, no 
violation of section 411(a) or 417(e) would result if the employee's 
entire accrued benefit is distributed in the form of a single sum 
distribution equal to the employee's hypothetical account balance, 
provided the plan uses appropriate annuity conversion factors. Since 
the issuance of Notice 96-8, four federal appellate courts have 
followed the analysis set out in the Notice: Esden v. Bank of Boston, 
229 F.3d 154 (2d Cir. 2000), cert. dismissed, 531 U.S. 1061 (2001); 
West v. AK Steel Corp. Ret. Accumulation Pension Plan, 484 F.3d 395 
(6th Cir. 2007), reh'g and reh'g en banc denied, No. 06-3442, 2007 U.S. 
App. LEXIS 20447 (6th Cir. Aug. 8, 2007); Berger v. Xerox Corp. Ret. 
Income Guarantee Plan, 338 F.3d 755 (7th Cir. 2003), reh'g and reh'g en 
banc denied, No. 02-3674, 2003 U.S. App. LEXIS 19374 (7th Cir. Sept. 
15, 2003); Lyons v. Georgia-Pacific Salaried Employees Ret. Plan, 221 
F.3d 1235 (11th Cir. 2000), cert. denied, 532 U.S. 967 (2001).
    Notice 2007-6, 2007-3 IRB 272 (January 16, 2007), see Sec.  
601.601(d)(2)(ii)(b) of this chapter, provides transitional guidance 
with respect to certain requirements of sections 411(a)(13) and 
411(b)(5) and section 701(b) of PPA '06. Notice 2007-6 includes certain 
special definitions, including: accumulated benefit, which is defined 
as a participant's benefit accrued to date under a plan; lump sum-based 
plan, which is defined as a defined benefit plan under the terms of 
which the accumulated benefit of a participant is expressed as the 
balance of a hypothetical account maintained for the participant or as 
the current value of the accumulated percentage of the participant's 
final average compensation; and statutory hybrid plan, which is a lump 
sum-based plan or a plan which has an effect similar to a lump sum-
based plan. Notice 2007-6 provides guidance on a number of issues, 
including a rule under which a plan that provides for indexed benefits 
described in section 411(b)(5)(E) is a statutory hybrid plan (because 
it has an effect similar to a lump sum-based plan), unless the plan 
either solely provides for post-retirement adjustment of the amounts 
payable to a participant or is a variable annuity plan under which the 
assumed interest rate used to determine adjustments is at least 5 
percent. The Notice provides a safe

[[Page 73683]]

harbor for applying the rules set forth in section 701 of PPA '06 where 
the conversion of a defined benefit pension plan into an applicable 
defined benefit plan is made with respect to a group of employees who 
become employees by reason of a merger, acquisition, or similar 
transaction. This transitional guidance, along with other guidance 
provided in Part III of Notice 2007-6, applies pending the issuance of 
further guidance and, thus, will cease to apply when these regulations 
are finalized and become effective.

Explanation of Provisions

Overview

    In general, these proposed regulations would incorporate the 
transitional guidance provided under Notice 2007-6. However, the 
proposed regulations would utilize new terminology (such as statutory 
hybrid benefit formula and lump sum-based benefit formula) to take into 
account situations where plans provide more than one benefit formula. 
These proposed regulations would also provide additional guidance with 
respect to sections 411(a)(13) and 411(b)(5), taking into account 
comments received in response to Notice 2007-6.

Section 411(a)(13): Special Vesting Rules for Applicable Defined 
Benefit Plans and Applicable Definitions

    The proposed regulations would reflect new section 411(a)(13)(A) by 
providing that an applicable defined benefit plan does not violate the 
requirements of section 411(a)(2), or the requirements of section 
411(c) or 417(e), with respect to a participant's accrued benefit 
derived from employer contributions, merely because the plan determines 
the present value of benefits determined under a lump sum-based benefit 
formula as the amount of the hypothetical account maintained for the 
participant or as the current value of the accumulated percentage of 
the participant's final average compensation under that formula. 
However, section 411(a)(13) does not alter the definition of an accrued 
benefit under section 411(a)(7)(A) (which generally defines a 
participant's accrued benefit as the annual benefit commencing at 
normal retirement age), nor does it alter the definition of a normal 
retirement benefit under section 411(a)(9) (which generally defines a 
participant's normal retirement benefit as the benefit under the plan 
commencing at normal retirement age).
    Section 411(b)(5)(G) provides that, for purposes of section 
411(b)(5), any reference to the accrued benefit means the benefit 
accrued to date. The proposed regulations refer to this as the 
accumulated benefit, which is distinct from the participant's accrued 
benefit under section 411(a)(7) (an annuity beginning at normal 
retirement age that is actuarially equivalent to the participant's 
accumulated benefit).
    The regulations define a lump sum-based benefit formula as a 
benefit formula used to determine all or any part of a participant's 
accumulated benefit under which the benefit provided under the formula 
is expressed as the balance of a hypothetical account maintained for 
the participant or as the current value of the accumulated percentage 
of the participant's final average compensation. Under the proposed 
regulations, whether a benefit formula is a lump sum-based benefit 
formula would be determined based on how the accumulated benefit of a 
participant is expressed under the terms of the plan, and would not 
depend on whether the plan provides an optional form of benefit in the 
form of a single sum payment. Similarly, a formula would not fail to be 
a lump sum-based benefit formula merely because the plan's terms state 
that the accrued benefit is an annuity at normal retirement age that is 
actuarially equivalent to a hypothetical account balance. In addition, 
the regulations would provide that a participant is not treated as 
having a lump sum-based benefit formula merely because the participant 
is entitled to a benefit under a defined benefit plan that is not less 
than the benefit properly attributable to after-tax employee 
contributions.
    Section 411(a)(13)(A) applies only with respect to a benefit 
provided under a lump sum-based benefit formula. Accordingly, if the 
present value rules of section 417(e) apply to a form of benefit under 
a plan and the plan provides benefits under a benefit formula that is 
not a lump sum-based benefit formula (including, for example, a plan 
that provides for indexing as described in section 411(b)(5)(E)), then 
the plan must set forth a methodology to determine the projected 
benefit under that formula at normal retirement age for purposes of 
applying the rules of section 417(e), as described in the ``Analysis'' 
section of Notice 96-8.
    The proposed regulations use the term statutory hybrid benefit 
formula to describe the portion of a defined benefit plan that is an 
applicable defined benefit plan described in section 411(a)(13)(C)(i) 
or the portion of the plan that has a similar effect. Specifically, the 
proposed regulations would define a statutory hybrid benefit formula as 
a benefit formula that is either a lump sum-based benefit formula or a 
formula that has an effect similar to a lump sum-based benefit formula. 
For this purpose, under the proposed regulations, a benefit formula 
under a defined benefit plan has an effect similar to a lump sum-based 
benefit formula if the formula provides that a participant's accrued 
benefit payable at normal retirement age (or at benefit commencement, 
if later) is expressed as a benefit that includes periodic adjustments 
(including a formula that provides for indexed benefits described in 
section 411(b)(5)(E)) that are reasonably expected to result in a 
larger annual benefit at normal retirement age (or at commencement of 
benefits, if later) for the participant, when compared to a similarly 
situated, younger individual who is or could be a participant in the 
plan. Thus, a benefit formula under a plan has an effect similar to a 
lump sum-based benefit formula if the right to future adjustments 
accrues at the same time as the benefit that is subject to the 
adjustments.
    The proposed regulations would set forth certain additional rules 
that are used in determining whether a benefit formula has an effect 
similar to a lump sum-based benefit formula. For example, the proposed 
regulations provide that a benefit formula that does not include 
periodic adjustments is treated as a formula with an effect similar to 
a lump sum-based benefit formula if the formula is otherwise described 
in the preceding paragraph and the adjustments are provided pursuant to 
a pattern of repeated plan amendments. See Sec.  1.411(d)-4, A-1(c)(1). 
The proposed regulations would provide that, for purposes of 
determining whether a benefit formula has an effect similar to a lump 
sum-based benefit formula, indexing that applies to adjust benefits 
after the annuity starting date (for example, cost-of-living increases) 
is disregarded. In addition, the proposed regulations would provide 
that a benefit formula under a defined benefit plan that provides for a 
benefit properly attributable to after-tax employee contributions does 
not have an effect similar to a lump sum-based benefit formula. The 
proposed regulations would also provide that adjustments under a 
variable annuity do not have an effect similar to a lump sum-based 
benefit formula if the assumed interest rate used to determine the 
adjustments is at least 5 percent. Such an annuity does not have an 
effect similar to a lump sum-based benefit formula even if post-annuity 
starting date adjustments are

[[Page 73684]]

made using a specified assumed interest rate that is less than 5 
percent.
    Pursuant to new section 411(a)(13)(B), the proposed regulations 
would provide that, in the case of a participant whose accrued benefit 
(or any portion thereof) under a defined benefit plan is determined 
under a statutory hybrid benefit formula, the plan is not treated as 
meeting the requirements of section 411(a)(2) unless the plan provides 
that the participant has a nonforfeitable right to 100 percent of the 
participant's accrued benefit if the participant has 3 or more years of 
service. This requirement would apply on a participant-by-participant 
basis and would apply to the participant's entire benefit (not just the 
portion of the participant's benefit that is determined under a 
statutory hybrid benefit formula). Furthermore, if the participant is 
entitled to the greater of two benefits under a plan, one of which is a 
benefit calculated under a statutory hybrid benefit formula, the 
proposed regulations would provide that the 3-year vesting requirement 
applies to that participant even if the participant's benefit under the 
statutory hybrid benefit formula is ultimately smaller than under the 
other formula. The proposed regulations do not address how the 3-year 
vesting requirement applies in the case of floor-offset 
arrangements.\3\ See the discussion in this preamble under the heading 
``Comments and Requests for Public Hearing.''
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    \3\ See Rev. Rul. 76-259 (1976-2 CB 111), see Sec.  
601.601(d)(2)(ii)(b) of this chapter, for certain standards 
applicable to floor-offset arrangements.
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Section 411(b)(5): Safe Harbor for Age Discrimination, Conversion 
Protection, and Market Rate of Return Limitation

A. Safe Harbor for Age Discrimination
    The proposed regulations under new section 411(b)(5)(A) would 
provide that a plan is not treated as failing to meet the requirements 
of section 411(b)(1)(H)(i) with respect to certain benefit formulas if, 
as determined as of any date, a participant's accumulated benefit 
expressed under one of those formulas would not be less than any 
similarly situated, younger participant's accumulated benefit expressed 
under the same formula. A plan that does not satisfy this test is 
required to satisfy the general nondiscrimination test of section 
411(b)(1)(H)(i).
    Under the proposed regulations, the safe harbor standard for 
satisfying section 411(b)(5)(A) would be available only where a 
participant's accumulated benefit under the terms of the plan is 
expressed as an annuity payable at normal retirement age (or current 
age, if later), the balance of a hypothetical account, or the current 
value of the accumulated percentage of the employee's final average 
compensation. For this purpose, if the accumulated benefit of a 
participant is expressed as an annuity payable at normal retirement age 
(or current age, if later) under the plan terms, then the comparison of 
benefits is made using such an annuity. If the accumulated benefit of a 
participant is expressed under the plan terms as the balance of a 
hypothetical account or the current value of an accumulated percentage 
of the participant's final average compensation, then the comparison of 
benefits is made using the balance of a hypothetical account or the 
current value of the accumulated percentage of the participant's final 
average compensation, respectively.
    The proposed regulations would require a comparison of the 
accumulated benefit of each possible participant in the plan to the 
accumulated benefit of each other similarly situated, younger 
individual who is or could be a participant in the plan. For this 
purpose, the proposed regulations would provide that an individual is 
similarly situated to another individual if the individual is identical 
to that other individual in every respect that is relevant in 
determining a participant's benefit under the plan (including but not 
limited to period of service, compensation, position, date of hire, 
work history, and any other respect) except for age.\4\ In determining 
whether an individual is similarly situated to another individual, any 
characteristic that is relevant for determining benefits under the plan 
and that is based directly or indirectly on age is disregarded. For 
example, if a particular benefit formula applies to a participant on 
account of the participant's age, an individual to whom the benefit 
formula does not apply and who is identical to a participant in all 
respects other than age is similarly situated to the participant. By 
contrast, an individual is not similarly situated to a participant if a 
different benefit formula applies to the individual and the application 
of the different formula is based neither directly nor indirectly on 
age.
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    \4\ For example, if a plan provides for an election extended to 
all participants that affects a participant's accumulated benefit, 
then someone who makes such an election is similarly situated to a 
participant who makes such an election, and someone who does not 
make an election is similarly situated to a participant who does not 
make such an election.
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    The comparison of accumulated benefits is made without regard to 
any subsidized portion of any early retirement benefit that is included 
in a participant's accumulated benefit. For this purpose, the 
subsidized portion of an early retirement benefit is the retirement-
type subsidy within the meaning of Sec.  1.411(d)-3(g)(6) that is 
contingent on a participant's severance from employment and 
commencement of benefits before normal retirement age.
    In addition, the comparison of accumulated benefits generally must 
be made using the same form of benefit. Thus, the safe harbor is not 
available for comparing the accumulated benefit of a participant 
expressed as an annuity at normal retirement age with the accumulated 
benefit of a similarly situated, younger participant expressed as a 
hypothetical account balance. Nevertheless, the proposed regulations 
would permit a plan that provides the sum of benefits that are 
expressed in two or more different forms of benefit to satisfy the safe 
harbor if the plan would separately satisfy the safe harbor for each 
separate form of benefit. Similarly, the proposed regulations would 
permit a plan that provides the greater of benefits that are expressed 
in two or more different forms of benefit to satisfy the safe harbor if 
the plan would separately satisfy the safe harbor for each separate 
form of benefit. For this purpose, a similarly situated, younger 
participant is treated as having an accumulated benefit of zero with 
respect to a benefit formula that does not apply to the participant. 
Thus, the safe harbor would be available if an older participant is 
entitled to benefits under more than one type of benefit formula, even 
if not all of those types of benefit formulas are available to every 
similarly situated participant who is younger.
    The proposed regulations would reflect new section 411(b)(5)(C), 
which provides that a plan is not treated as failing to meet the 
requirements of section 411(b)(1)(H) solely because the plan provides 
offsets of benefits under the plan to the extent such offsets are 
allowable in applying the requirements under section 401 and the 
applicable requirements of the Employee Retirement Income Security Act 
of 1974, Public Law 93-406 (88 Stat. 829) (ERISA) and the Age 
Discrimination in Employment Act of 1967, Public Law 90-202 (81 Stat. 
602) (ADEA). The proposed regulations incorporate the provisions of 
section 411(b)(5)(D) (relating to permitted disparity under section 
401(l)) without providing additional guidance.
    The proposed regulations would reflect new section 411(b)(5)(E), 
which

[[Page 73685]]

provides for the disregard of certain indexing of benefits for purposes 
of the age discrimination rules of section 411(b)(1)(H). The proposed 
regulations limit the disregard of indexing to formulas under defined 
benefit plans other than lump sum-based formulas. In addition, the 
proposed regulations limit the disregard of indexing to situations in 
which the extent of the indexing for a participant would not be less 
than the indexing applicable to a similarly situated, younger 
participant. Thus, the disregard of indexing is only available if the 
indexing is neither terminated nor reduced on account of the attainment 
of any age.
    Section 411(b)(5)(E) requires that the indexing methodology be a 
recognized methodology. The proposed regulations would treat only the 
following indexing methodologies as recognized for this purpose: 
indexing using an eligible cost-of-living index as described in Sec.  
1.401(a)(9)-6, A-14(b); indexing using the rate of return on the 
aggregate assets of the plan; and indexing using the rate of return on 
the annuity contract for the employee issued by an insurance company 
licensed under the laws of a State.
    Under the proposed regulations, the section 411(b)(5)(E)(ii) 
protection against loss (``no-loss'') requirement for an indexed plan 
(which provides that the indexing not result in a smaller accrued 
benefit) would be implemented by applying the ``preservation of 
capital'' rule of section 411(b)(5)(b)(i)(II) to indexed plans. (The 
preservation of capital rule is discussed in this preamble paragraph 
heading ``C. Market rate of return limitation.'') For this purpose, the 
exemption from the application of the no-loss rule for variable 
annuities would be limited to situations in which the variable annuity 
adjustment is based on the rate of return on the aggregate assets of 
the plan or the annuity contract. Thus, the exemption from the 
application of the no-loss rule would not apply if the variable annuity 
adjustment is based on the rate of return of a portion of the assets of 
the plan. In addition, this exemption would also apply for purposes of 
the preservation of capital requirement that applies to statutory 
hybrid plans.
B. Conversion Protection
    The regulations would provide guidance on the new conversion 
protections under section 411(b)(5)(B)(ii), (iii), and (iv). Under the 
proposed regulations, a participant whose benefits are affected by a 
conversion amendment which occurred after June 29, 2005, must generally 
be provided with a benefit after the conversion that is at least equal 
to the sum of the benefits accrued through the date of the conversion 
and benefits earned after the conversion, with no permitted interaction 
between these two portions. This would assure participants that there 
will be no ``wear-away'' as a result of a conversion, both with respect 
to the participant's accrued benefits and any early retirement subsidy 
to which the participant is entitled based on the pre-conversion 
benefits.
    The proposed regulations would provide an alternative mechanism 
under which the plan provides for the establishment of an opening 
hypothetical account balance as part of the conversion and keeps 
separate track of (1) The opening hypothetical account balance and 
interest credits attributable thereto, and (2) The post-conversion 
hypothetical contributions and interest credits attributable thereto. 
Under this alternative, the plan must provide that, when a participant 
commences benefits, the plan will determine whether the benefit 
attributable to the opening hypothetical account payable in the 
particular optional form of benefit selected is greater than or equal 
to the benefit accrued under the plan prior to the date of conversion 
and payable in the same generalized optional form of benefit (within 
the meaning of Sec.  1.411(d)-3(g)(8)) at the same annuity starting 
date. For example, if a participant elects a straight life annuity 
payable at age 60, the plan must determine if the straight life annuity 
payable at age 60 that is attributable to the opening hypothetical 
account balance is greater than or equal to the straight life annuity 
payable at age 60 based on service prior to the conversion and 
determined under the terms of the pre-conversion plan. If the benefit 
attributable to the opening hypothetical account balance is greater, 
then the plan must provide that such benefit is paid in lieu of the 
pre-conversion benefit together with the benefit attributable to post-
conversion contribution credits. If the benefit attributable to the 
opening hypothetical account balance is less, then the plan must 
provide that such benefit will be increased sufficiently to provide the 
pre-conversion benefit. In such a case, the participant must also be 
entitled to the benefit attributable to post-conversion contribution 
credits.
    The proposed regulations would provide that, if an optional form of 
benefit is available on the annuity starting date with respect to the 
benefit attributable to the opening hypothetical account balance or 
opening accumulated percentage, but no optional form within the same 
generalized optional form of benefit was available at that annuity 
starting date under the terms of a plan as in effect immediately prior 
to the effective date of the conversion amendment, then the comparison 
must still be made by assuming that the pre-conversion plan had such an 
optional form of benefit. For example, if the pre-conversion plan did 
not provide for a single sum distribution option, the alternative would 
require that any single sum distribution option that is attributable to 
the opening hypothetical account balance be greater than or equal to 
the present value of the pre-conversion benefit, where present value is 
determined in accordance with section 417(e).
    The IRS and the Treasury Department are seeking comments on another 
alternative means of satisfying the conversion requirements that would 
involve establishing an opening hypothetical account balance, but in 
limited situations would not require the subsequent comparison. Any 
such alternative would be permitted only if it were designed to provide 
adequate protection to participants in plans that adopt conversion 
amendments. For example, such an alternative might be limited to 
situations in which the participant elects a single sum distribution, 
and where the pre-conversion plan either did not provide a single sum 
option or had a single sum option that was based on the benefit payable 
at normal retirement age (rather than the benefit payable at early 
retirement age). In those situations, the alternative might provide 
that the comparison is not necessary if (1) The opening hypothetical 
account balance is equal to the present value of the pre-conversion 
benefit determined in accordance with section 417(e), (2) The interest 
credits on the opening hypothetical account balance are reasonably 
expected to be no lower than the interest rate used to determine the 
opening hypothetical account balance, and (3) Either the plan provides 
a death benefit equal to the hypothetical account balance or no pre-
retirement mortality decrement is applied in establishing the opening 
hypothetical account balance. Such an alternative could result in a 
single sum distribution attributable to the pre-conversion benefit that 
is lower, or higher, than the present value of the pre-conversion 
benefit, depending on whether the actual interest credits applicable to 
the opening hypothetical account balance during the interim are lower, 
or higher, than the interest rate used in determining the opening 
hypothetical account balance and whether the

[[Page 73686]]

applicable interest rate and applicable mortality table under section 
417(e)(3) have changed in the interim.
    The proposed regulations also would provide guidance on what 
constitutes a conversion amendment under section 411(b)(5)(B)(v). Under 
the proposed regulations, whether an amendment is a conversion 
amendment is determined on a participant-by-participant basis. The 
proposed regulations would provide that an amendment (or amendments) is 
a conversion amendment with respect to a participant if it meets two 
criteria: (1) The amendment reduces or eliminates the benefits that, 
but for the amendment, the participant would have accrued after the 
effective date of the amendment under a benefit formula that is not a 
statutory hybrid benefit formula and under which the participant was 
accruing benefits prior to the amendment, and (2) After the effective 
date of the amendment, all or a portion of the participant's benefit 
accruals under the plan are determined under a statutory hybrid benefit 
formula.
    The proposed regulations would provide that only amendments that 
reduce or eliminate accrued benefits described in section 411(a)(7), or 
retirement-type subsidies described in section 411(d)(6)(B)(i), that 
would otherwise accrue as a result of future service are treated as 
amendments that reduce or eliminate the participant's benefits that 
would have accrued after the effective date of the amendment under a 
benefit formula that is not a statutory hybrid benefit formula. Under 
the proposed regulations, a plan is treated as having been amended for 
this purpose if, under the terms of the plan, a change in the 
conditions of a participant's employment results in a reduction or 
elimination of the benefits that the participant would have accrued in 
the future under a benefit formula that is not a statutory hybrid 
benefit formula (for example, a job transfer from an operating division 
covered by a non-statutory hybrid defined benefit plan to an operating 
division that is covered by a cash balance formula). However, in the 
absence of coordination between the formulas, the special requirements 
for conversion amendments typically will be satisfied automatically.
    The proposed regulations would provide rules prohibiting the 
avoidance of the conversion protections through the use of multiple 
plans or multiple employers. Under the proposed regulations, an 
employer is treated as having adopted a conversion amendment if the 
employer adopts an amendment under which a participant's benefits under 
a plan that is not a statutory hybrid plan are coordinated with a 
separate plan that is a statutory hybrid plan, such as through a 
reduction (offset) of the benefit under the plan that is not a 
statutory hybrid plan. In addition, if an employee's employer changes 
as a result of a merger, acquisition, or other transaction described in 
Sec.  1.410(b)-2(f), then the two employers would be treated as a 
single employer for this purpose. Thus, for example, in an acquisition, 
if the buyer adopts an amendment to its statutory hybrid plan under 
which a participant's benefits under the seller's plan (that is not a 
statutory hybrid plan) are coordinated with benefits under the buyer's 
plan, such as through a reduction (offset) of the buyer's plan 
benefits, the seller and buyer would be treated as a single employer 
and as having adopted a conversion amendment. However, if there is no 
coordination between the plans, there is no conversion amendment.
    The proposed regulations would provide that a conversion amendment 
also includes multiple amendments that result in a conversion 
amendment, even if the amendments would not be conversion amendments 
individually. Under the proposed regulations, if an amendment to 
provide a benefit under a statutory hybrid benefit formula is adopted 
within 3 years after adoption of an amendment to reduce non-statutory 
hybrid benefit formula benefits, then those amendments would be 
consolidated in determining whether a conversion amendment has been 
adopted. In the case of an amendment to provide a benefit under a 
statutory hybrid benefit formula that is adopted more than 3 years 
after adoption of an amendment to reduce non-statutory hybrid benefit 
formula benefits, there would be a presumption that the amendments are 
not consolidated unless the facts and circumstances indicate that 
adoption of an amendment to provide a statutory hybrid benefit formula 
was intended at the time of the reduction in the non-statutory hybrid 
benefit formula.
    The proposed regulations would provide that the effective date of a 
conversion amendment is, with respect to a participant, the date as of 
which the reduction occurs of the benefits that the participant would 
have accrued after the effective date of the amendment under a benefit 
formula that is not a statutory hybrid benefit formula. In accordance 
with section 411(d)(6), the proposed regulations would provide that the 
date of a reduction of those benefits cannot be earlier than the date 
of adoption of the conversion amendment.
C. Market Rate of Return Limitation
    The proposed regulations would reflect the rule in section 
411(b)(5)(B)(i)(I) under which a statutory hybrid plan is treated as 
failing to satisfy section 411(b)(1)(H) if it provides an interest 
crediting rate that is in excess of a market rate of return. The 
proposed regulations would define an interest crediting rate as the 
rate by which a participant's benefit is increased under the ongoing 
terms of a plan to the extent the amount of the increase is not 
conditioned on current service, regardless of how the amount of that 
increase is calculated. Thus, whether the amount is an interest credit 
for this purpose is determined without regard to whether the amount is 
calculated by reference to a rate of interest, a rate of return, an 
index, or otherwise.
    The proposed regulations would require a plan to specify the timing 
for determining the plan's interest crediting rate that will apply for 
each plan year (or portion of a plan year) using one of two permitted 
methods--either pursuant to a daily interest crediting rate based on 
permissible interest crediting rates specified in the proposed 
regulations, or pursuant to a specified lookback month and stability 
period. For this purpose, the plan's lookback month and stability 
period must satisfy the rules for selecting the lookback month and 
stability period under Sec.  1.417(e)-1(d)(4). However, the stability 
period and lookback month need not be the same as those used under the 
plan for purposes of section 417(e)(3).
    In addition, the proposed regulations would require a plan to 
specify the periodic (at least annual) frequency at which interest 
credits are made under the plan. If, under a plan, interest is credited 
more frequently than annually (for example, monthly or quarterly), then 
the interest credit for that period must be a pro rata portion of the 
annual interest credit. Thus, for example, in the case of a plan the 
terms of which provide for interest to be credited at an interest 
crediting rate that would be permitted under the proposed regulations, 
if the plan provides for monthly interest credits and if the interest 
rate for a plan year has a value of 6 percent, then the accumulated 
benefits at the beginning of each month would be increased by 0.5 
percent per month during the plan year. The proposed regulations would 
provide that interest credits are not treated as creating an effective 
rate of return in excess of a market rate of return merely because an 
otherwise permissible

[[Page 73687]]

interest crediting rate is compounded more frequently than annually.
    The proposed regulations would provide that an interest crediting 
rate for a plan year is not in excess of a market rate of return if it 
is based on specified indices. As in Notice 2007-6, these include the 
safe harbor rates described in Notice 96-8, the interest rates on 30-
Year Treasury securities, and the rate of interest on long-term 
investment grade corporate bonds (as described in section 
412(b)(5)(B)(ii)(II) prior to amendment by PPA '06 for plan years 
beginning before January 1, 2008, and the third-segment bond rate used 
under section 430 for subsequent plan years). For this purpose, the 
third-segment bond rate is permitted to be determined with or without 
regard to the transition rules of section 430(h)(2)(G).
    These rates would be required to change on at least an annual 
basis.\5\ These rates are market yields to maturity on outstanding 
bonds and do not reflect the change in the market value of an 
outstanding bond as a result of future changes in the interest rate 
environment or in a bond issuer's risk profile.\6\ As noted in the 
preceding paragraph, the proposed rules generally are similar to those 
described in Notice 2007-6 but do not provide guidance on a number of 
issues related to market rate of return. It is expected that these 
issues will be addressed in the first part of 2008.
---------------------------------------------------------------------------

    \5\ The requirement that an interest crediting rate change not 
less frequently than annually is intended to distinguish these rates 
from fixed rates, which are discussed later in this preamble. See 
also Sec.  31.3121(v)(2)-1(d)(2)(i)(C)(2) of the Employment Tax 
Regulations, which permits a rate to be fixed for up to 5 years.
    \6\ Because this interest rate does not reflect the change in 
the market value of an outstanding bond when an issuer becomes 
higher risk or the bond goes into default, the bonds have been 
limited to investment grade bonds in the top three quality levels 
where the risk of default is small.
---------------------------------------------------------------------------

    The proposed regulations would reflect the preservation of capital 
rule in section 411(b)(5)(B)(i)(II) that requires a statutory hybrid 
plan to provide that interest credits will not result in a hypothetical 
account balance (or similar amount) being less than the aggregate 
amount of the hypothetical allocations. Under the proposed regulations, 
this requirement would be applied at the participant's annuity starting 
date. In addition, the proposed regulations would provide that the 
combination of this preservation of capital protection with a rate of 
return which otherwise satisfies the market rate of return limitation 
will not result in an effective interest crediting rate that is in 
excess of a market rate of return.
    While the second sentence of section 411(b)(5)(B)(i)(I) provides 
that a statutory hybrid plan is not treated as having an above-market 
rate merely because the plan provides for a reasonable minimum 
guaranteed rate of return or for a rate of return that is equal to the 
greater of a fixed or variable rate of return, these proposed 
regulations do not provide guidance for these alternatives. Moreover, 
the presence of a preservation of capital requirement indicates that 
Congress considered that a rate of return that could be negative in 
some years (such as a rate of return on an equity portfolio) could be 
permissible. However, as discussed in the following paragraphs, the 
Treasury Department and the IRS have concerns that the use of a minimum 
guaranteed rate of return or the use of the greater of a fixed and a 
variable rate could result in effective interest crediting rates that 
are above market rates of return and are soliciting comments on how to 
avoid that result.
    Some commentators have suggested that it should be acceptable for a 
plan to adopt a fixed interest crediting rate that would apply without 
regard to changes in the interest rate environment. This is 
particularly important where the plan provides for hypothetical 
contributions that increase with age or service and the plan needs a 
minimum interest crediting rate in order to satisfy the accrual rules 
of section 411(b). While this issue is reserved under these proposed 
regulations, the approach suggested by commentators could be 
accomplished in two different ways. Under one possibility, the 
regulations might set forth a specific interest crediting rate (such as 
4 percent or 5 percent) that a plan may be permitted to use. Under an 
alternative approach, the regulations might set forth a permitted 
methodology under which a plan would be permitted to establish a fixed 
interest crediting rate based on the then-applicable level of a 
permissible rate, such as the 3rd segment rate. For example, if the 3rd 
segment rate were 5.5 percent at the time the fixed rate is established 
under the plan, then under the alternative approach the plan might be 
permitted to fix the interest crediting rate at 5.5 percent. Comments 
are requested on these alternatives. In particular, comments are 
requested as to rules that the regulations could set forth that would 
avoid the potential for the fixed rate to be established at a time when 
interest rates are unusually high, such as occurred in the early 1980s.
    With respect to the option for a plan to use an interest crediting 
rate that is the greater of a fixed or variable interest rate, the 
Treasury Department and the IRS believe that the interaction between 
the two interest rates must be taken into account in determining 
whether the effective interest crediting rate under a plan which 
provides an interest crediting rate that is equal to the greater of a 
fixed or variable interest rate is above a market rate of return. 
Whether a statutory hybrid plan that is providing interest credits 
based on the greater of a fixed or variable interest rate effectively 
provides an interest crediting rate that exceeds a market rate of 
return depends on a number of factors, including how high the fixed 
interest rate is, how frequently the ``greater of'' determination is 
applied, and the volatility of the variable interest rate.
    As noted earlier, the proposed regulations would provide that 
including the preservation of capital rule does not cause the plan's 
effective interest crediting rate to be in excess of a market rate of 
return. This rule reflects the fact that the minimum rate under the 
preservation of capital rule is an interest rate of 0 percent which is 
applied on a one-time basis at the annuity starting date, and is 
premised on the expectation that the variable rate would rarely be 
negative for extended periods of time (so that the inclusion of the 
capital preservation rule should not significantly increase the 
effective rate of return under the plan). If the variable rate is the 
rate of interest on bonds that would be permitted under the proposed 
regulations, then that expectation is easily met.
    By contrast, if the variable interest rate is the rate of return on 
an equity investment, the expectation that the capital preservation 
rule does not significantly increase the effective interest crediting 
rate is only applicable if the equity investment is a well-diversified 
portfolio. This is because a well-diversified portfolio should have 
sufficiently limited volatility so that the inclusion of the 
preservation of capital rule should not significantly increase the 
effective rate of return resulting from interest credits that are based 
on that portfolio. Accordingly, if the regulations were to permit the 
use of an interest crediting rate based on an asset portfolio as an 
interest credit, the regulations might limit the choice of portfolio to 
the actual plan assets (relying on the fiduciary rules to ensure that 
the portfolio is adequately diversified). Of course, any such 
regulations would only permit the use of an interest crediting rate 
based on an asset portfolio if the use of such a rate is prospective 
and is selected before the period during which the rate is determined.

[[Page 73688]]

    Comments are requested on what other asset portfolios have 
sufficiently constrained volatility that they should be permitted to 
form the basis of a market rate of return for interest crediting under 
a statutory hybrid plan and whether it is appropriate to base an 
interest crediting rate on the value of an index. For example, are the 
assets under a regulated investment company (RIC) described in section 
851 sufficiently diversified such that a statutory hybrid plan will not 
be treated as providing an effective interest crediting rate in excess 
of a market rate of return where it credits interest based on the rate 
of return on the RIC and also provides for the preservation of capital 
(as required for a statutory hybrid plan under section 
411(b)(5)(B)(i)(II))? Similarly, if a statutory hybrid plan credits 
interest based on the rate of return on an equity index that is not a 
narrow-based equity index (as defined under section 3(a)(55) of the 
Securities Exchange Act of 1934) and which also provides for the 
preservation of capital, is the plan providing an interest crediting 
rate that is not in excess of a market rate of return?
    If the determination of the greater of a fixed interest crediting 
rate and a variable interest crediting rate is made more frequently 
than required to comply with the capital preservation rule, the added 
frequency is more likely to result in an effective interest crediting 
rate that is in excess of a market rate of return. For example, if a 
statutory hybrid plan were to credit interest each day based on the 
greater of the actual rate of return on the plan assets for that day or 
0 percent, the effective interest crediting rate would be far in excess 
of a market rate of return.
    The Treasury Department and the IRS are considering providing that 
a plan will not have an effective interest crediting rate in excess of 
a market rate of return merely because it provides annual interest 
credits based on the greater of a reasonable fixed rate (such as 3 
percent or 4 percent) and one of the rates of interest set forth in the 
proposed regulations. However, if a statutory hybrid plan were to 
provide interest credits based on the greater of a fixed rate 
(including a fixed rate of 0 percent) and the rate of return on plan 
assets or the value of an equity-based index, determined on an annual 
basis, then the effective interest crediting rate would typically be in 
excess of a market interest rate. Comments are requested on what types 
of reductions to the variable rate would be appropriate in order to 
ensure that the effective interest crediting rate under these 
situations does not exceed a market rate of return. In addition, 
comments are requested on whether regulations should establish 
reductions in these situations where the determination of whether the 
fixed or variable interest crediting rate is greater is made more 
frequently than annually.
    Pending issuance of guidance addressing this issue, plan sponsors 
should be cautious in adopting interest crediting rates other than 
those explicitly permitted in these proposed regulations. If such a 
rate were adopted, and it did not satisfy the requirement not to be in 
excess of a market rate of return under rules provided in future 
guidance, the rate would have to be reduced in order to satisfy the 
requirement.
    The proposed regulations would provide that, to the extent that 
interest credits (or equivalent amounts) have accrued under the terms 
of a statutory hybrid plan, section 411(d)(6) is violated by a plan 
amendment that changes the interest crediting rate if the revised rate 
under any circumstances could result in a lower rate of return after 
the applicable amendment date of the plan amendment. An exception is 
provided that would permit certain changes in a plan's interest 
crediting rate without violating section 411(d)(6). Under this 
exception, the proposed regulations would permit an amendment to change 
the plan's interest crediting rate for future periods from the safe 
harbor market rates of interest (for example, rates based on eligible 
cost-of-living indices, or rates based on Treasury bonds with the 
margins specified in the proposed regulations) to the rate of interest 
on long-term investment grade corporate bonds. Such a change would not 
constitute a reduction in accrued benefits in violation of section 
411(d)(6) because it is expected that the change would result in a 
reduction only in rare and unusual circumstances, and the change would 
be permitted only if the amendment is effective not less than 30 days 
after adoption and, on the effective date of the amendment, the new 
interest crediting rate is not less than the interest crediting rate 
that would have applied in the absence of the amendment. In addition, 
the IRS and the Treasury Department may provide additional guidance 
regarding changes to the ongoing interest crediting rate under a plan 
that would or would not constitute a reduction of accrued benefits in 
violation of section 411(d)(6).

Pension Equity Plans (PEPs)

    These proposed regulations do not include any rules specifically 
relating to plans that are often referred to as pension equity plans, 
or PEPs (other than defining a participant's accumulated benefit under 
a PEP as the accumulated percentage of final average compensation). 
Notice 2007-6 requested comments on the application of qualification 
requirements other than sections 411(b)(1)(H) and 417(e) to such plans, 
including the treatment of interest credited with respect to terminated 
vested participants. See Sec.  601.601(d)(2)(ii)(b)