Jump to content

Insolvent plan


Guest mab
 Share

Recommended Posts

Scenario:

If for some reason a govt plan is about to go insolvent, does any entity jump in to help out? I know that these plans are typically not subject to ERISA or DOL but I can't determine with certainty whether or not the EBSA (f/ka PBGC) would step in under this situation.

If the EBSA doesn't step in, what protections do the participants have if the plan is insolvent and the plan sponsor is teetering on bankruptcy?

Tx for any insight.

Mark.

Link to comment
Share on other sites

Tx for your reply.

I would interpret that to mean that if the plan can't make the payment(s) and the employer is facing insolvency, forcing the employer to pay the benefits is nothing more than a formality since it will be unable to make the payments.

Link to comment
Share on other sites

Note that the EBSA is not "formerly known as" the PBGC. The PBGC still exists and has not changed its name. The PWBA (Pension and Welfare Benefits Administration) changed its name to the Employee Benefit Security Administration (EBSA). The EBSA does not insure any benefits. It is the enforcement arm of the DOL with respect to ERISA.

And, no, the PBGC does not insure governmental plans.

Link to comment
Share on other sites

If a governmental defined benefit plan were insolvent (and several are), I would recommend to the employer to go ahead and terminate the plan, cancelling all benefit obligations. [Non-ERISA plans are not subject to vesting or anti-cutback requirements of IRC Section 411.] Assets can then be allocated to those in pay status.

If desired, the employer can continue to promise similar retirement benefits in the form of a non-qualified deferred compensation plan without a need for advance funding.

Link to comment
Share on other sites

VebaGuru:

While it is true that governmental plans aren't subject to Section 411, my recollection is that they are subject to the pre-ERISA rules of Section 401(a)(7). I vaguely seem to recall that those rules called for full vesting upon plan termination, but it has been so many years since I looked at that question that I'm not sure.

Kirk Maldonado

Link to comment
Share on other sites

That is correct. There is full vesting under those provisions.

Unfortunately, the problem is that the plan is so underfunded there isn't enough cash to pay out the participants on full vesting and the plan sponsor is facing a financial crisis.

Link to comment
Share on other sites

  • 3 weeks later...

I would ask several questions:

1. Does state law allow the municipality (or governmental entity) to go insolvent? Would it allow the municipality to cancel its debts? Could it not pay its employees, its contractors, its vendors? Would it have to sell off its assets first (City Hall, fire stations, water pumping stations)? Would it go out of existence? A related question is whether the municipality has taxing authority - maybe in your situation it doesn't, but if it did, how could it ever go bankrupt?

2. If it can cancel its debts in some sort of bankruptcy, wouldn't the participants be treated like other creditors - they would have the right to go after the employer's assets.

3. In my state a governmental entity's promise to pay a pension benefit is a contractual right, and under the U.S. Constitution, the governmental entity is not allowed to cancel the contract, not even prospectively with respect to unaccrued benefits (unless the authority to cancel the contract has been set forth in the plan and communicated to employees). So in my state the governmental entity probably does not have the authority to amend the plan (equivalent to amending the contract) to reduce benefits.

Link to comment
Share on other sites

Any individual, business or Govt entity can declare bankruptcy. Orange County, Cal declared bkcy a few years ago when they made bad investments in derivatives. Once the govt declares bankruptcy its operations and liabilities are determined by a fed. judge. Since a govt can't go out of business and must continue its operations Govt bankrupticies usually result in creditors taking a small percentage of the amounts owed up front and agreeing to a long term payout of the remaining debt from the govt which issues bonds secured by future revenue and then raises taxes to pay for the bonds. Plan participants are unsecured creditors who are at the end of the line in terms of getting paid off. Usually in a bankruptcy the retirement plan is terminated and the benefits are paid out to the participants to the extent there are funds in the trust. If the plan is underfunded the participants will receive a % of their vested accrued benefits. I dont know how a state consitution can mandate the continuation of future benefit accruals priot to the time the benefits have been earned, (e.g. does this mean a state govt entity can never terminate a retirement plan) but that is for the constitutional lawyers to answer. Maybe the answer is that the plan can be amended in bankruptcy to cancel future accurals.

mjb

Link to comment
Share on other sites

The decision is based on the federal Constitution:

Article I, Section 10 of the United States Constitution, the "Contract Clause," provides in pertinent part, "No State shall . . . pass any . . . Law impairing the Obligation of Contracts . . . ." U.S. Const. art. I, [section] 10.

Each state is different. My questions relate to state law. We (I) tend to think of state pension issues in terms of ERISA and federal concepts, but it's much different when you start looking at state law, and the more questions for an insolvency situation will be answered under state law concepts.

Link to comment
Share on other sites

Well then you can argue that position before the bankruptcy or state courts. The issue that you are thinking of the Rhode Island state pension plan where the legislature increased benefits for itself in excess of the 415 limits and the IRS required the benefits to be reduced which violates the constitution which prevents reduction of benefits. However RI is not a bankruptcy situation. The constitutional provision you cite only prevents a state legislature from imparing contracts. A Fed. bankruptcy ct is not part of the state legislature and the Fed. consititution expressly reserves to Congress the right to pass bankruptcy legislation. Bankruptcy is is different from the labor agreement between a state or local govt and a group of employees which provides for salary and retirement benefit accruals for a period of time (such as three years). After the contract expires then state entity is free to renegotiate a lower rate of benefit accrual during the next contract.

mjb

Link to comment
Share on other sites

I don't believe that municipalities eligibility to declare bankruptcy is pursuant to Federal bankruptcy statute, but a matter of state law. In such a situation, the governmental unit would not cancel its debts but reorganize and be protected from creditors during its reorganization. That is what Orange County did.

An entity with taxing authority is like an individual with earnings potential: it can go bankrupt if its liabilities exceed its assets. Individual taxpayers do not personally guarantee or become liable for the debts of the municipality in which they live.

A governmental entity may terminate a qualified retirement plan at any time.

The US constutition limits the Federal government, not state governments. The 14th Amendment makes due process rights applicable to states, but that would not apply to retirement plan obligations.

Link to comment
Share on other sites

SEE 11 USC 901, et seq. for administration of tax collecting entities that file under bkcy law. You are right that the taxpayers are not guarantors of municipal debts or interest payments on bonds but if a municipality does not come up with a plan to repay its debts after declaring bkcy it will never again be able to borrow money because it will have no credit rating- so practically speaking the govt must come up with a plan to pay back creditors. Thats why Orange co. came up with a reorg plan. Also since a govt cant go out of business the creditors could not sell municipal assets such as vehicles and RE owned by the govt.

mjb

Link to comment
Share on other sites

Create an account or sign in to comment

You need to be a member in order to leave a comment

Create an account

Sign up for a new account in our community. It's easy!

Register a new account

Sign in

Already have an account? Sign in here.

Sign In Now
 Share

×
×
  • Create New...