412(b) explanation

[wsp]

I've got a PLR that I'm trying to interpret for one of our accountants and I think I understand what's going on but would like some confirmation....

Can someone give me a brief laymans explanation of the unfunded liabiliities described in 412(b), their required amortization periods and the connection to the reduction of future accruals and actual cash dollar outlays so that I can correctly explain this to them...

[Effen]

If EA2 ever starts having essay questions, this would be good one.

Maybe if you linked to the PLR we could help you, you could write pages on what you asked. You probably should let the actuary talk to the accountant.

[wsp]

If EA2 ever starts having essay questions, this would be good one.

Maybe if you linked to the PLR we could help you, you could write pages on what you asked. You probably should let the actuary talk to the accountant.

Can't link to the PLR but here's the gist. Plan is multiemployer DB plan, jointly sponsored by union and employers. New funding agreeemennt negotiated provides for a funding policy that states that if, as of a valuation date, there is a projected minimum funding deficiency within five years of said date, future accruals will be reduced to push off the expected date for such deficiency for at least eigh years after said valuation date.

Seems pretty clear to me on that point. But, the last valuation showed a projected funding deficiency in 2016. Still outside the that 5 year window specified above, but evidently soon enough that the Trust filed for an extension of the amortization period for unfunded liabilities.

Of course it was denied, but with the caveat that if the funding deficiency was within that five year period and future accruals will be curtailed, the service would consider a request for an extension of the amortization period in an expedited manner.

We could talk to actuary but better to do so with more of an understanding of what the components are...

I know that the period of time to amortize the unfunded liability can be increased to not more than 10 years....but increased from what? 5 years? And, assuming that the unfunded liability is 10%...what is the portion of the liability that is required to be funded in years 1 and 2? And, in your opinion, did the plan request this extension simply to lower their required funding for the year or are their other reasons they might do this? Seems odd to even request it given that the policy was pretty clear about that 5 year window and their options after that. Is this a typical request?

[Effen]

Sounds like you are talking about a 412(e) extension. Based on PPA 06, these appear to be dead unless they were filed prior to 6/30/05. PPA provides for an automatic extension of 5 years if certain conditions are met, but those rules aren't effective until 2008.

I don't know why they would have filed for 412(e) if their problem was so far out. I agree, it doesn't really make sense. Basically, you are just extending the amortization periods for each of the amortization bases, but the old 412(e) got very complicated with various interest credits and hypothetical credit balances due to differences in interest rates. The new PPA 06 rules appear to be much simplier.

Extending the amortization period lowers the required payments, just like the payments are lower on a 20 year loan than a 10 year loan for the same amount. Look at the amortization bases in the valuation report. You will see them listed, along with the number of years remaining.

This stuff is very complex and is more than can be handled on this board. You need to talk to the actuary and have him/her explain it. That is what you pay them for. Although since the application was denied, and since your deficiency isn't until 2016, this sounds like it is a non-issue at this point.

If you are not the actuary or the accountant, what is your role in this? If we knew what perspective you were coming from, it might help answer your question.

[wsp]

If you are not the actuary or the accountant, what is your role in this? If we knew what perspective you were coming from, it might help answer your question.

We are the accountants for the entity (and TPA of the salaried DC plan). However, the entity is part of a multi-employer Union DB Plan for at least 20 different companies (each with multiple locations). Owner of client company isn't part of the board of trustees of the plan nor does he really have much involvement other than sending his assigned portion of the liability to the plan. The letter was sent from the board of trustees to the various Local's Presidents. As a participating employer he was cc'd on it and simply wanted a plain-speak explanation of it.

Your explanation filled in most of the holes that I had....My understanding of it was about what you described...just got thrown a bit with this application. Figured that I must not have got it because this application wouldn't have been filed "just because".

Was the old 412(3) filing typically an annual thing for some plans? Or was it reserved for only when the unfunded liability got too large for the respective sponsors to pay? Seems to me that the sponsors would be pushing for this application every year, the participants want full funding, and the actuary is right in the middle.

Also, for my own personal knowledge...to keep the plans funding status within reasonable distance of being fully funded...I would think that the deficiency would be addressed earlier rather than later as the market growth is starting to slow and it's quite possible that they turn and the deficiency actually increases....thus placing a larger burden on the membership...correct?

btw thanks Effen for taking the time. It is much appreciated.

[Effen]

412(e) is a ONE TIME extension generally used to save a plan that will be deficient in the very near future (typically 1-5 yrs). It was a seldom used code section until recently when multi-employer funds got themselves in serious problems due to poor laws (forced to increase benefits to keep employer contributions deductible) followed by poor investment performance. Basically, many were forced to spend the excess assets they built up in the good market in order to keep the contributions deductible, then when the market fell, they were stuck with benefits that were higher than they could afford.

The IRS has only approved two 412(e) extensions that I am aware of. Many have been filed, but they have either been rejected or are sitting in DC waiting for IRS action. The IRS didn't like 412(e) since it was written long ago when interest rates were much higher. This is why it was changed in PPA 06 to something that is more reasonable in today's environment that requires less IRS involvement.

Many/most multis are heading for trouble. 2016 is a long way away and much can change. Your "entity" should be prepared for higher contributions and the union members should be prepared for lower benefits. PPA 06 had many multi-employer provisions that will require the Trustees to formally address this problem.

As a contributing employer he should be able to get a copy of the funds actuarial report. Once he has the report, he can hire his own actuary to review it and explain it to him. Make sure he hires one familiar with multi-employer plans since they can be quite different from a corporate plan.