Terminating a non-PBGC covered DB Plan with insufficient assets

[himt4]

When terminating a PBGC covered DB Plan with insufficient asset it is obvious that only the >50% owners can take a “cut” in their benefits. In a case where the Plan has insufficient assets and is not covered by the PBGC, I cannot find definitive guidelines.

My instincts say that only owner(s) can take a “cut”, but I see in a Defined Benefit answer book that 411(d)(3) allows a plan to terminate and pay benefits “to the extent funded”. The answer book seems to suggest that after taking care of some priority benefits, it is permissible to prorate the assets of the plan by each participants PVAB, essentially decreasing the benefits of all participants and not just the owner(s). Others that I have discussed this with say that it would not be allowed under 411(d)6 anti-cutback rules.But 411(d)(6) seems to specifically talk about cutting benefits due to a Plan amendment.Here we are talking about reducing benefits due to a Plan termination to the extent funded.

If we file such a termination with the IRS showing each Participant receiving a prorated piece of his/her PVAB, will the IRS approve it? Has anyone tried?

[Blinky the 3-eyed Fish]

Read Rev. Rul. 80-229 and also read your plan document as I suspect the language of this promulgation is in there. Basically, even though it is not covered by the PBGC, you still have a PBGC-like priority scale based on guaranteed benefits. As part of those guaranteed benefits, your substantial owners are going to be subject to a 30-year phase in, which in most cases means that their guaranteed benefits are reduced significantly.

My experience has shown that in nearly every case the owner's guaranteed benefits were so low that his allocation was no more than if he just waived benefits in the first place. Your situation may be different of course.

[david rigby]

You can find Revenue Rulings here: http://www.taxlinks.com/rulings/findinglist/revrulmaster.htm

[AndyH]

I'm not following this. Admittedly I haven't dealt with many terminations in recent years. Blinky, are you saying that an accrued benefit in excess of the PBGC limit can simply be reduced at plan termination because there is not enough money? That is what it sounds to me that you are implying. Just do a cutback because the plan is insufficient, even if it is not covered by PBGC?

Please clarify.

[Blinky the 3-eyed Fish]

I am saying that a non-PBGC covered plan can pay out less than full benefits to everyone, possibly. It's just that most non-PBGC covered plans have substantial owners in them and therefore under Rev. Rul. 80-229 they get the hose anyway, so it never gets to the point of actually reducing the benefits earned by the NHCE's.

[himt4]

Thanks very much for the replies.

I read through 80-229 and 4044 as best I could.

Going down 4044…

In this plan, there are no benefits derived from participant contributions, there is no participant that is in pay status or could have been in pay status during the last three years, all participants have accrued benefits lower than $3,500 at age 65 (i.e. lower than PBGC’s guaranteed amount), so it seems to me that all participants fall into category 4044(4).

Now here’s the interesting part: when my Defined Benefit Answer Book list these categories, this is how it describes this priority “to all other benefits of individuals guaranteed by the PBGC (disregarding the restrictions on benefits for substantial owners)”

It seems to me that the Answer Book is talking about disregarding the 30-year phase in rule since that is the only rule that I can think of that is unique to substantial owners.

I tried to cross reference with 4044(4). Now, 4044(4)(A) has a clause “determined without regard to section 4022B(a)” and 4044(4)(B) has a clause “… if section 4022(b)(5) did not apply”. When I try then to look-up 4022B(a) and 4022(b)(5) I find it very circular and have trouble confirming that this all means what the answer book says about “disregarding the restrictions on benefits for substantial owners”

One would think that the editors of the Answer Book did all this research and somehow came to the conclusion that you disregard the restrictions on benefits for substantial owners.

With regards to the Plan Document, all it basically seems to say on this subject is that you pay in this order to the extent of the sufficiency of the assets: 1) retirees receiving benefits 2) those at Normal Retirement age who have not yet started 3) the remaining participants in the order in which they will reach Normal Retirement age.

Since owners in this plan are oldest, this would mean the Plan would pay them out first. Since this would be discriminatory, I am back to prorating by PVAB, with the only controversial issue remaining is whether or not you apply the 30-year phase in to substantial owners’ benefit.

What do you think?

[himt4]

I searched past message boards, and found a similar question posed by RSNOW back in July 2003. RSNOW stated he had general success getting IRS approval for prorating benefits.

If RSNOW is out there, does he/she know if the IRS requires the 30-year phase in for substantial owners? Has anyone else filed such plans and gotten approval? Did you apply the 30 year phase in?

I want to give the client his options and give the client an idea of the risks, rewards and costs.

[Blinky the 3-eyed Fish]

4044(a)(4)

(4) Fourth—

(A) to all other benefits (if any) of individuals under the plan guaranteed under this subchapter (determined without regard to section 1322b(a) of this title), and

(B) to the additional benefits (if any) which would be determined under subparagraph (A) if section 1322(b)(5) of this title did not apply.

For purposes of this paragraph, section 1321 of this title shall be applied without regard to subsection © thereof.

Rev. Rul 80-229

Sec. 4. Assets Less Than Present Value of Accrued Benefits

.01 Applicability--This section applies to the termination of a defined benefit plan in which the value of plan assets as of the date of termination is less than the present value of all accrued benefits (whether or not nonforfeitable) as of such date whether or not the restrictions of section 1.401-4© of the regulations apply.

.02 General Rules--The following guidelines apply in testing for discrimination in the case of a plan described in subsection .01 with respect to which the benefit structure, if the plan were not terminated, would not be discriminatory under section 401(a)(4) of the Code.

(1) Except as provided in paragraph (4), the assets of a plan are allocated in accordance with sections 4044(a)(1), (2), (3), and (4)(A) of ERISA.

(2) Subject to the requirements of paragraph (1), the assets shall be allocated, to the extent possible, so that the rank and file employees receive from the plan at least the same proportion of the present value of their accrued benefits (whether or not nonforfeitable) as employees who are officers, shareholders, or highly compensated.

(3) Notwithstanding any other paragraph, in the case of assets restricted by section 1.401-4© of the regulations, assets may be reallocated to the extent necessary to help satisfy paragraph (2).

(4) In the case of a plan establishing subclasses within the meaning of section 4044(b)(6) of ERISA, the assets within any paragraph of section 4044(a) of ERISA may be reallocated within such paragraph to the extent that such reallocation helps to satisfy paragraph (2).

(5) Subject to paragraphs (1), (2), (3), and (4), the assets shall be allocated in accordance with section 4044(a)(4)(B), (5), and (6) of ERISA.

Let me see if I can attempt to clarify your questions from your next to last post. I have access to the same DB Answer Book but they are being simplistic (i.e. incorrect in some regards) as to how they are presenting this issue. Note that Rev. Rul. 80-229 Section 4.01 first prioritizes the benefits through 4044(a)(4)(A). Then read that section and note that this section DOES NOT disregard the substantial owner reduction (they must have changed the sections, because I knew the substantial owner reduction as 4022(b)(5), but they have it as 1322(b)(5) but I digress). The next priority group in Rev. Rul. 80-229 is section 4044(a)(4)(B) and onward through 4044(a)(6). It's 4044(a)(4)(B) that disregards the substantial owner reduction, but by that time you have already at least provided the guaranteed level of benefits to the non-substantial owners. Of course Rev. Rul. 80-229 sections 4.02-4.04 detail that the NHCE's must get at least a share of the assets in proportion to their PVAB at a minimum.

As for your document language you seem unsure of what it means. I can't help you there, nor can I help you on Russ Snow's past experience. Although, no matter the answers to either, I am not sure how you would disregard Rev. Rul. 80-229.

[himt4]

Thank you for the clarification Blinky. That DB answer book gave me some hope that I could make those owners a little happier, but what you wrote makes sense.

It makes me wonder though: I don't have a copy of the Plan Termination Answer Book. I wonder if that book goes into more detail about these non-pbgc terminations. I wonder if that book gives any support or contradiction to their "(disregarding the restrictions on benefits for substantial owners)” assertion.

Perhaps they will clear up those sections in their future editions.

[JAY21]

I think Kurt Piper did a seminar talk on this some time ago. Not sure if he's on this message board or not but he might be a good source for info. I thought he went through the same analysis that Blinky did but I thought he came up with a different result, or maybe the facts were just different. Either way you might see if he still has his seminar outline if you can track him down.