Working Within the System to eliminate lump sums

[Andy the Actuary]

Any problems with the following? A DB plan that offers voluntary lump sum payment at time of termination was frozen 1/1/2004. The AFTAP as of 1/1/2008 was 63% (though not certified). Assets have tanked (surprise). The Plan Sponsor would like to defer payment of lump sums until Plan investments have healed. The Plan would be amended in 2008 to unfreeze the formula effective 1/1/2009. As of 1/1/2009, the AFTAP is now 52% so no benefits can accue during 2009. Further, no lump sums can be distributed in 2009. As of 12/31/2009, the Plan is amended to freeze benefits as of 1/1/2010. No lump sums can be paid until the AFTAP is certified to be 60% and full lump sums cannot be paid until the AFTAP is certified to be 80%.

[SoCalActuary]

If you eliminate lump sums, then you assume that someone will be around to make the annuity payments.

Further, you assume that long term investments will be managed wisely.

Finally, you assume that participants want a fixed steady payment stream, instead of a flexible stream that allows for debt buydown, emergency funds, more or less risky investment strategies, etc.

[Andy the Actuary]

If you eliminate lump sums, then you assume that someone will be around to make the annuity payments.

Further, you assume that long term investments will be managed wisely.

Finally, you assume that participants want a fixed steady payment stream, instead of a flexible stream that allows for debt buydown, emergency funds, more or less risky investment strategies, etc.

First and second points beg an optimistic perspective which agreed may be unrealistic. Third point needs to be expanded to address participant's lawyering up when they are told they cannot take a lump sum.

[david rigby]

I like the idea Andy. Can you see any possible 401(a)(4) issues?

Any 416 issues?

[Andy the Actuary]

I like the idea Andy. Can you see any possible 401(a)(4) issues?

Any 416 issues?

You would have to concerned about grants of past service, but this can be easily handled by not giving any. There shouldn't be any 401(a)(26) or 410(b) issues since no one benefits. Would agree (thanks for bringing it up) that 416 presents an issue. In the example, you wouldn't accrued a benefit in 2009, but you would continue to accrue years of service for top-heavy benefit calculation purposes so once the AFTAP was 60%, additional benefits could be accrued for the year of top-heavy service. Perhaps the way to prevent these accruals is is to refreeze the plan 12/31/2009 rather than 1/1/2010?

[Kevin C]

Andy,

For the amendment effective 1/1/2009, are the new benefits based on compensation? If so, wouldn't your 2009 AFTAP have to be at least 80% both before and after the amendment before the amendment could be effective 1/1/09?

It looks like the idea is to have no benefit accrual for 2009 even though the amendment is effective 1/1/09. With the plan frozen prior to 9/1/2005 and no benefit accruals for any participant from 9/1/2005 through 12/31/09, it looks to me that the plan would be exempt from the distribution restrictions for 2009.

I do find it interesting that the prohibition on amendments increasing benefits while the AFTAP is <80% does not apply to benefit increases using a formula that is not based on compensation if the rate of increase does not exceed the contemporaneous increase in average wages of the participants covered by the amendment.

[Andy the Actuary]

Andy,

For the amendment effective 1/1/2009, are the new benefits based on compensation? If so, wouldn't your 2009 AFTAP have to be at least 80% both before and after the amendment before the amendment could be effective 1/1/09?

It looks like the idea is to have no benefit accrual for 2009 even though the amendment is effective 1/1/09. With the plan frozen prior to 9/1/2005 and no benefit accruals for any participant from 9/1/2005 through 12/31/09, it looks to me that the plan would be exempt from the distribution restrictions for 2009.

I do find it interesting that the prohibition on amendments increasing benefits while the AFTAP is <80% does not apply to benefit increases using a formula that is not based on compensation if the rate of increase does not exceed the contemporaneous increase in average wages of the participants covered by the amendment.

Agree, we could provide a deminimis benefit $x/year of service. Even though no benefit accrual would be provided for 2009, the Plan would still be amended to provide for such accrual. Therefore, it would not be frozen as of 1/1/2009. It would seem that restrictions would apply.

We are in limbo. 436 didn't apply for 2008 so no certification was required. Presumably, we would either follow presumption as if 1/1/2009 were 1/1/2008 or we would certify AFTAP as of 1/1/2009. In any event, if we never certified the AFTAP thereafter, lump sums could never be paid.

(a) All of this discussion is theoretical and likely not what the law was intended to accomplish. I have no live case I'm agonizing over, but felt this process could appeal to some. If doable, it is an alternative at least to be considered.

(b) How you would communicate this to employees so they would understand that this is decision is based upon asset depletion and investment considerations is beyond me. If I were an employee, I might (if I understood anything) feel the entire act was a rouse to circumvent a vested right.

[Guest Sieve]

The Sieve ain't no actuary (some even question if he's a goalie), but aren't there 411(d)(6) cutback issues here?

[Kevin C]

Even though no benefit accrual would be provided for 2009, the Plan would still be amended to provide for such accrual. Therefore, it would not be frozen as of 1/1/2009. It would seem that restrictions would apply.

I don't read it that way. The terms of the plan also include the PPA benefit accrual restrictions, via a retroactive amendment at some point. If under the terms of the plan no one gets additional accrual from 9/1/2005 - 12/31/2009, then the benefit restrictions do not apply in 2009.

Now, if you could amend so that at least one person actually gets some additional accrual, the benefit restrictions would apply. Maybe an amendment effective late in 2008?

Sieve, I ain't no actuary either, but I think the 411(d)(6) exemption is in PPA section 1107

[Andy the Actuary]

The Sieve ain't no actuary (some even question if he's a goalie), but aren't there 411(d)(6) cutback issues here?

The Plan would be amended to freeze future benefits. There was no accrual because of depreciated assets rather than a plan amendment reducing benefits already accrued. As mentioned, we technically don't even have to freeze benefits. We simply don't certify the AFTAP. [i would walk away from this one or ask the Sieve to draft me a hold harmless agreement to prevent a penalty shot.]

I had lunch today with a litigator friend who has been involved in some ERISA actions [i apologize for associating with litagators; he apologizes for associating with actuaries]. His unresearched opinion is that ERISA preempts so this was not a legal issue. On the other hand, he was itching to represent the employee plaintiffs. When I told him this was all hypothetical, he let me pick up the lunch bill.

[Andy the Actuary]

Even though no benefit accrual would be provided for 2009, the Plan would still be amended to provide for such accrual. Therefore, it would not be frozen as of 1/1/2009. It would seem that restrictions would apply.

I don't read it that way. The terms of the plan also include the PPA benefit accrual restrictions, via a retroactive amendment at some point. If under the terms of the plan no one gets additional accrual from 9/1/2005 - 12/31/2009, then the benefit restrictions do not apply in 2009.

I apologize for bening obtuse but the terms of the Plan call for a benefit accrual effective 1/1/2009. There is no retroactive amendment. The Plan is amended prospectively to increase benefits. PPA just overrides. If you don't mind, please explain your thinking to this wooden-headed actuary from the Show-Me State.

[Guest Sieve]

Kevin C --

I read the OP as indicating that the elimination of lump sum payouts was a voluntary amendment. That's where I saw the 411(d)(6) issue--elimination of an optional form of benefit with respect to benefits already accrued.

If, however, the elimination of ls distributions in this circumstance is mandated by the funding status of the plan, then I think there's no anti-cutback issue (regardless of PPA Section 1107).

[Andy the Actuary]

Kevin C --

I read the OP as indicating that the elimination of lump sum payouts was a voluntary amendment. That's where I saw the 411(d)(6) issue--elimination of an optional form of benefit with respect to benefits already accrued.

If, however, the elimination of ls distributions in this circumstance is mandated by the funding status of the plan, then I think there's no anti-cutback issue (regardless of PPA Section 1107).

Yes, the whole thing stinks. You effectively eliminate an option by amending the plan to increase benefits and allowing PPA to do its convoluted thing. Good news folks: We're increasing your benefits. Bad news you won't get them. Worse, we're taking away your lump sum option. And it's all legal so go lobby congress who enacted this crud or call The Sieve before midnight tonight, who although his avitar shows that he has chubby thighs, will fight to the demise of his investment portfolio to get you your lump sum.

By the way, does anyone even have a wild guess what lobby benefited from the September 1, 2005 magic freeze date? Normally, these laws select the date the law was first proposed, date of enactment, or plan years beginning on or after mm/dd/yyyy.

[Kevin C]

Andy,

I'll try, but I'll warn you I only spent 3.5 years in Missourah and that was a long time ago.

436(d)(4) EXCEPTION. --This subsection shall not apply to any plan for any plan year if the terms of such plan (as in effect for the period beginning on September 1, 2005, and ending with such plan year) provide for no benefit accruals with respect to any participant during such period.

PPA 1107 that says we are deemed to have followed the terms of the plan if we operate in accordance with the law changes when they are effective and retroactively amend at some point in the future. To me, that says the PPA rules are a part of the terms of the plan now.

You have a 2009 amendment that adds benefit accrual and another plan provision that cancels that additional accrual before anyone actually accrues it. The net result is no additional accrual for anyone. To me, that means the plan provides no benefit accrual for any participant for 2009. It was frozen from 2004-2008, so there was no accrual for anyone for the entire period from 9/1/2005 - 12/31/2009 and the exemption applies.

If one person got additional accrual at any point from 9/1/2005-12/31/2009, then you would be subject to the distribution restrictions.

[Andy the Actuary]

Andy,

I'll try, but I'll warn you I only spent 3.5 years in Missourah and that was a long time ago.

You have a 2009 amendment that adds benefit accrual and another plan provision that cancels that additional accrual before anyone actually accrues it. The net result is no additional accrual for anyone. To me, that means the plan provides no benefit accrual for any participant for 2009. It was frozen from 2004-2008, so there was no accrual for anyone for the entire period from 9/1/2005 - 12/31/2009 and the exemption applies.

If one person got additional accrual at any point from 9/1/2005-12/31/2009, then you would be subject to the distribution restrictions.

Well, we're getting to it. I am not an attorney. Do the Plan provisions need to incorporate the provisions of 436? There are numerous provisions plans must comply with that are not in the plan, such as 401(a)(4) and 430. I did not see that in the language or in IRC 436(a) so I was not anticipating a retroactive amendment. If the case it is required, your logic makes sense. Otherwise, we're back to thumbwrestling.

3.5 years in Missourah is an eternity to a coaster.

[Kevin C]

Isn't there still a definitely determinable benefits requirement for DB plans? If so, I think you would have to include the accrual restrictions in the plan document.

Also, if you look at pg 28, Cessation of benefit Accruals, in the PPA Technical Explanation, it starts with "A Plan must provide that ...".

At the time, 3.5 years seemed an eternity to this Texan, too. Now when I look back at my college years, they went way too fast.

[Andy the Actuary]

Isn't there still a definitely determinable benefits requirement for DB plans? If so, I think you would have to include the accrual restrictions in the plan document.

Also, if you look at pg 28, Cessation of benefit Accruals, in the PPA Technical Explanation, it starts with "A Plan must provide that ...".

At the time, 3.5 years seemed an eternity to this Texan, too. Now when I look back at my college years, they went way too fast.

I see it now. Thank you for all your efforts to "show me."