An Update on Retirement Plan Design Ideas for Law Firms
by Margery F. Paul
(County Bar Update, November 2000, Vol. 20, No. 10)

 

An Update on Retirement Plan Design Ideas for Law Firms

By Margery F. Paul, MSPA, MAAA, EA, at the request of the Law Practice Management Section Executive Committee. Paul is a consulting actuary with the law firm of Reish & Luftman in West Los Angeles. She can be reached at margepaul@reish.com. The views expressed are her own.

When designing their firm retirement plans, law firms usually want to:

  • maximize contributions for partners,
  • allow flexibility in the level of required contributions so that the objectives of partners at varying stages of their careers can be met, and
  • control costs for attorney associates and staff.

Plan design techniques have gradually evolved from the simple profit sharing plan in which contributions were allocated based on participants' compensation to the new comparability 401(k) profit sharing and money purchase pension plans that allow much larger contributions as a percentage of pay for partners than for staff.

The primary disadvantage of 401(k) profit sharing and money purchase pension plans is that the maximum allowable contribution that can be allocated to a partner's account is $30,000.

The only type of plan that permits contributions greater than $30,000 is the defined benefit plan.

However, prior to 2000, a complex set of rules limited the benefits that could be provided to participants who were, or had ever been, participants in both a defined benefit plan and a defined contribution plan sponsored by the same employer.

This complex law has been repealed, and -- as a result -- in 2000, law firms are able to contribute significantly more to their retirement plans on behalf of partners/shareholders with perhaps only modest increases in staff contributions.

Now a partner/shareholder may be able to receive a $30,000 allocation in a money purchase or profit sharing plan and at the same time earn a large benefit in a defined benefit plan.

The following figures illustrate the level of contributions that can be made to a defined benefit plan in addition to the $30,000 defined contribution amount for individuals at various ages and assumed retirement ages:

Age   Estimated Annual Contribution
35      $  25,000
40      $  34,000
45      $  55,000
50      $  75,000
55      $100,000
60      $125,000

These amounts may vary somewhat due to the funding methods used by the plan's actuary and fluctuations in the yields on 30-year treasury bonds.

This means, for example, that it may be possible for a partner, age 55, to have a total contribution of $130,000, i.e., $30,000 to a defined contribution plan and $100,000 to a defined benefit plan. It may also allow a partner, age 40, a total contribution to both plans of $64,000.

An important caveat, however, is that the maximum deductible contribution for a firm that sponsors both a defined benefit plan and a defined contribution plan is, as a general rule, 25% of the pay of the eligible employees. This limit will affect smaller law firms that may have only a few staff employees participating in the plans.

The following are examples of plan designs we were able to create due to the change in law.

For a medium-sized law firm whose shareholders wanted to contribute more than $30,000 annually, we implemented a cash balance pension plan that resulted in increased contributions for shareholders of about $400,000, with additional contributions for staff of $45,000.

For another law firm that wanted to increase contributions for partners, we designed an arrangement in which benefits earned in a new defined benefit plan were reduced by the firm's contributions to a 401(k) profit sharing plan. This design resulted in additional contributions for partners of $600,000 at a modest additional cost for staff.

The techniques for obtaining the full contributions for the senior officers and partners while maintaining a reasonable cost for staff benefits are complex, however, well worth the effort.

In summary, recent law changes have made it possible for law firms to implement sophisticated pension plan designs. Law firms should review their current plan designs to see if they can be improved.

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