Compensation - Part 10 - Pensions

There are essentially two types of pension plans, defined benefit and defined contribution. A defined benefit plan gives a retiree a certain amount of money for the rest of his/her life. Social Security is a defined benefit plan. A defined contribution plan  puts money into a workers account. Earnings on the account stay with the account. Upon retirement eligibility  the worker can start drawing from the account. The popular 401(k) plans are defined contribution plans.

FAR 31.205-6(j) requires contractors to follow CAS (Cost Accounting Standards) 412 and 413 to measure, assign, and allocate pension plan costs, even for contractors that are not CAS-covered. Pension costs are allowable subject to those Standards as well as other cost limitations and exclusions further enumerated in the FAR 31.205-6(j) cost principle.

We will not be discussing defined benefit pension plans in this post. Frankly, there are relatively very few of those types of plans remaining and they are almost non-existent at small Government contractors. These plans have turned out to be too costly and have contributed to the financial woes of many companies including the U.S. automobile industry.

For defined-contribution plans (including profit sharing, savings plans, and other such plans), allowable pension cost is limited to the net contribution required to be made for a cost accounting period after taking into account dividends and other credits, where applicable. For 401(k) plans, this is usually a fairly straight-forward computation and there is rarely any disputes with the Government as to the propriety of such costs. Just remember that if any employee compensation is determined "unreasonable" (e.g. it exceeds the OMB ceiling on employee compensation), any portion of pension plan contributions related to that excess amount should also be excluded from any proposal or incurred cost submission to the Government.

Contractors need to fund their plans on time. If by failing to fund the plans on-time a contractor must pay interest, the interest is unallowable. Also, any increased costs that result from contractors moving pension funds from one plan to another are unallowable.

Excess funding is not allowable. Any amount that exceeds what is "assignable" to a fiscal year is not allowable under Government contracts. Contractors cannot "make up" prior years' funding requirements in the current year.

Pension payments must be paid pursuant to an agreement entered into in good faith between the contractor and employees before the work or services are performed and to the terms and conditions of the established plan. Don't come to the end of the year, find out that you have a little extra cash on-hand and decide to pay it out to employees in the form of pension contributions. That scenario would not meet this requirement.

There is much more to this subject than can be summarized easily into a blog post. In summary, if you're a small contractor with a 401(k) plan that is being administered by a third party that specializes in retirement plans and are making timely contributions to the administrator of that plan, you're unlikely to run afoul of any restrictions contained in this section.

Next: Section (k) - Deferred Compensation other than Pensions.