Guest Article

(From the April 6, 2009 issue of Deloitte's Washington Bulletin, a periodic update of legal and regulatory developments relating to Employee Benefits.)

Calendar Year Pension Plans Get Last-Minute Funding Relief

Just before the bell, the IRS issued much-needed relief for pension plans in calculating their minimum required contributions. Released on March 31, the deadline by which many calendar year plans were required to have an actuary's certification of the plan's funded percentage, the relief provides greater flexibility for plans that use the corporate bond yield curve in determining benefit liabilities. The IRS announced that, until final regulations are issued, it will not challenge the use of a monthly yield curve for any applicable month (i.e., the month containing the valuation date and the four preceding months). For a calendar year plan with a January 1, 2009 valuation date, this means that IRS will not challenge the use of a monthly yield curve for January 2009 or any of the four preceding months. The relief enhances the ability of plans to meet the minimum funding threshold necessary to escape application of benefit restrictions under IRC § 436.

Background Snapshot

In determining a plan's minimum required contributions, IRC § 430(h)(2) allows the sponsor to use either single rates of interest (i.e., the first, second and third segment rates for the applicable month) or the interest rates under the corporate bond yield curve. In determining the single rates of interest, the Code defines "applicable month" as the month that includes the valuation date or, if elected by the sponsor, any of the four months which precede that month. In determining the interest rates under the corporate bond yield curve, however, proposed Treasury regulations require use of the yield curve for the month preceding the month that includes the valuation date. Plan sponsors have contended that this limitation is without basis in the statute, and have urged the Treasury Department to allow use of the corporate yield curve for any "applicable month."

Once made, an election to use the full yield curve, instead of the single segment rates, may be revoked only with the consent of the Secretary of the Treasury.

Generally, the funding target of a plan for a plan year is the present value of all benefits accrued under the plan as of the beginning of the year. The funding target attainment percentage is the ratio of the value of the plan's assets to the funding target -- and, as adjusted for annuities purchased by the plan within the preceding two years, becomes the adjusted funding target attainment percentage (AFTAP). A plan's AFTAP must be certified by an enrolled actuary before the first day of the fourth month of the plan year (i.e., before April 1 for a calendar year plan) in order to avoid a presumption of underfunding. If there is no certification by that date, IRC § 436 generally presumes the AFTAP to be 10% less than it was for the prior year. If a plan's AFTAP is less than 80%, IRC § 436 imposes limits on benefits and benefit accruals (e.g., restrictions on benefit payments and on amendments that increase benefits), and where the AFTAP is less than 60%, more severe restrictions apply (e.g., restrictions on benefit accruals).

The volatility in the bond market during the fourth quarter of 2008 resulted in similar volatility in determining a plan's AFTAP. The corporate bond yield curve in October and November was significantly higher than the yield curve for December. The capacity to use the yield curve for any applicable month, therefore, would enhance a plan's ability to reach the 80% threshold and escape application of the benefit restrictions under IRC § 436. In addition, plans that choose to use the October or November yield curves are expected to see a significant reduction in 2009 funding requirements as compared to either the December yield curve or the single rates. The savings resulting from the use of the October or November yield curves is likely to be temporary, assuming that the volatility present late last year does not reappear in the future.

IRS Relief

On March 31, IRS issued a release stating that:

Short-Term Fix, Longer Term Issues

IRS provided much-needed relief for calendar-year plans that were required to certify their AFTAP before April 1, 2009. Issues were created for plans that had already received an AFTAP certification that included benefit restrictions that are now able to avoid restrictions through the use of this guidance. As the current economic situation continues, however, the relief may be of limited help to non-calendar year plans whose applicable months are those with relatively low yield curves. Further, the release is not clear on whether the election to use the corporate bond yield curve will be binding for future years, since such an election is generally revocable only with the consent of the Secretary of the Treasury. Sponsors who would prefer to use single segment rates in order to reduce volatility might be forced by the unusual economic climate to elect a short-term fix for 2009, but potentially end up with longer term issues. We will watch for clarifications as they are issued.

The IRS release is available at: www.irs.gov/pub/irs-tege/se0309.pdf.

The information in this Washington Bulletin is general in nature only and not intended to provide advice or guidance for specific situations. If you have any questions or need additional information about articles appearing in this or previous versions of Washington Bulletin, please contact: Robert Davis 202.879.3094, Elizabeth Drigotas 202.879.4985, Mary Jones 202.378.5067, Stephen LaGarde 202.879-5608, Erinn Madden 202.572.7677, Bart Massey 202.220.2104, Mark Neilio 202.378.5046, Tom Pevarnik 202.879.5314, Sandra Rolitsky 202.220.2025, Tom Veal 312.946.2595, Deborah Walker 202.879.4955. Copyright 2009, Deloitte.