A recent white paper discusses a strategy for reducing PBGC premiums and why it may have a cost of its own.
In “PBGC Staff Express Concern Over Premium Reduction Strategy,” Daniel Lennington, Director of Defined Benefit Advisory for Lockton Insurance Services, notes that some plans have adopted a strategy to reduce the premiums they must pay the PBGC in which they create a new plan and terminate the old, original one. But the PBGC is wise to the practice, he notes.
“Early on,” says Lennington,”the PBGC was mostly silent on the topic, but staff recently expressed concern.” He continues that their reaction was, “The federal common law under ERISA and cases that look to the substance and not the form of a transaction suggest that this two-step transaction, and similar types of transactions, should be disregarded and premiums assessed as if such transaction has not occurred.”
The transaction in question involves spinning off a majority of plan participants late in the plan year to a new plan that is almost the same as the original, and then terminating the now-smaller plan. Lennington says that this strategy takes advantage of two federal rules contained in 29 CFR 4006 that he says “were intended to reduce burdens when one-time events (such as a plan termination) take place.” These are:
1. Exemption from paying the variable rate premium (VRP) in the plan’s final year
2. Pro-rating premiums for new plans created as the result of a spinoff
If those rules apply, he says, no VRPs would be paid for the small plan; in addition, if the new plan is established late in the year and the VRP is pro-rated, the fee could be a small fraction of what it would be for an entire year.
PBGC Reaction
“It isn’t difficult to see why the PBGC staff has concerns over this type of transaction,” says Lennington. “It’s not surprising to hear the PBGC push back,” he says, against strategies that are intended to reduce PBGC premiums. It’s different if the goal is plan de-risking or decreasing obligations, Lennington says. In such cases, he says, “the PBGC has not indicated that the more traditional headcount reduction strategies, such as lump-sum offerings and annuity buyouts, are problematic.”
“It is not entirely clear,” says Lennington, “what actions, if any, the PBGC will take to prevent these types of transactions.” Further, he thinks considers it “unknown” whether the PBGC will challenge such transactions that have already taken place — not to mention “even if that would be possible.”
While there may be no official PBGC guidance on the two-step approach, Lennington also notes that the PBGC does have 60 days to review all completed terminations and spinoff transactions, which could delay approval until after the start of a new plan year and reduce or even negate any desired savings.
Bottom Line
Lennington notes that there is no official PBGC guidance regarding using such an approach to reducing PBGC premiums. Nonetheless, he cautions and that there is a risk of litigation with the use of the two-step approach. And he argues that the opinions about it that the PBGC staff enunciated should evoke a reassessment of whether to use such a strategy.
In “PBGC Staff Express Concern Over Premium Reduction Strategy,” Daniel Lennington, Director of Defined Benefit Advisory for Lockton Insurance Services, notes that some plans have adopted a strategy to reduce the premiums they must pay the PBGC in which they create a new plan and terminate the old, original one. But the PBGC is wise to the practice, he notes.
“Early on,” says Lennington,”the PBGC was mostly silent on the topic, but staff recently expressed concern.” He continues that their reaction was, “The federal common law under ERISA and cases that look to the substance and not the form of a transaction suggest that this two-step transaction, and similar types of transactions, should be disregarded and premiums assessed as if such transaction has not occurred.”
The transaction in question involves spinning off a majority of plan participants late in the plan year to a new plan that is almost the same as the original, and then terminating the now-smaller plan. Lennington says that this strategy takes advantage of two federal rules contained in 29 CFR 4006 that he says “were intended to reduce burdens when one-time events (such as a plan termination) take place.” These are:
1. Exemption from paying the variable rate premium (VRP) in the plan’s final year
2. Pro-rating premiums for new plans created as the result of a spinoff
If those rules apply, he says, no VRPs would be paid for the small plan; in addition, if the new plan is established late in the year and the VRP is pro-rated, the fee could be a small fraction of what it would be for an entire year.
PBGC Reaction
“It isn’t difficult to see why the PBGC staff has concerns over this type of transaction,” says Lennington. “It’s not surprising to hear the PBGC push back,” he says, against strategies that are intended to reduce PBGC premiums. It’s different if the goal is plan de-risking or decreasing obligations, Lennington says. In such cases, he says, “the PBGC has not indicated that the more traditional headcount reduction strategies, such as lump-sum offerings and annuity buyouts, are problematic.”
“It is not entirely clear,” says Lennington, “what actions, if any, the PBGC will take to prevent these types of transactions.” Further, he thinks considers it “unknown” whether the PBGC will challenge such transactions that have already taken place — not to mention “even if that would be possible.”
While there may be no official PBGC guidance on the two-step approach, Lennington also notes that the PBGC does have 60 days to review all completed terminations and spinoff transactions, which could delay approval until after the start of a new plan year and reduce or even negate any desired savings.
Bottom Line
Lennington notes that there is no official PBGC guidance regarding using such an approach to reducing PBGC premiums. Nonetheless, he cautions and that there is a risk of litigation with the use of the two-step approach. And he argues that the opinions about it that the PBGC staff enunciated should evoke a reassessment of whether to use such a strategy.
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