Plan Freezes: A Refresher

Editor’s Note: This is the first of a four-part series concerning a recent ASPPA webinar by Kelsey Mayo, ASEA Director of Regulatory Policy and Partner at Poyner & Spruill LLP, in which she took a look at the basics about plan freezes and terminations in the context of current circumstances and regulations. The discussion put a special emphasis on compliance, since knowledge of the procedures for these functions can be helpful in avoiding mistakes, complications and even penalties.

What exactly does freezing a plan mean? It varies, Mayo indicated. She further suggested that freezing is sometimes confused with termination. Plan sponsors sometimes say they want to ‘terminate’ the plan, but mean that they want to stop making contributions, she said, continuing, “Sometimes termination means ‘I’ve had a bad year, I don’t want to make contributions this year.’ In such a case, freezing is an option.” 

For DC Plans, it means that the employer no longer makes contributions and participants no longer make deferrals. “Freezing can just mean that an employer stops making contributions, but allows employees to make contributions,” Mayo said. For DB Plans, however, it means that participants no longer receive benefit accruals but contributions to fund plan continue. And even if a plan is frozen, the minimum funding requirements still must be met, she reminded.

And why freeze plan in the first place? For DC Plans, said Mayo, the number reason is that there are no successor plan rules; for DB plans, a freeze is a way to limit an increase in liabilities but to continue taking deductions for contributions. 

Implementation

The way to implement a plan freeze varies as well.  

For DC plans, first a plan must be amended. The amendment can be effective immediately, which stops future contributions from employees. However, the amendment cannot reduce contributions the participant has already earned, including the match for periods already passed and profit sharing if allocation conditions are already satisfied.  

Then a notice must be sent to participants. If it is a safe harbor plan, following are the mid-year cessation notice requirements: 

• the notice or economic loss requirement must be satisfied;
• supplemental notice must be provided at least 30 days in advance;
• participants must be given reasonable opportunity to change election; and 
• the plan is to use the ADP/ACP test for the entire plan year.

Participants also must be provided with a 204(h) notice on cessation/reduction of accruals if there are money purchase contributions, Mayo added. For plans with less than 100 participants, 15 days’ notice must be provided. For larger plans, 45 days’ notice must be provided; however, there is a 15-day exception for an amendment adopted in connection with an acquisition or disposition. And the content must permit participants to determine the approximate magnitude of the reduction; that can be satisfied with illustrative examples.

As with DC plans, the process for DB plans starts with a plan amendment. In this case, Mayo noted, timing matters—accrued benefits cannot be reduced. However, if the plan is frozen early in year, it may avoid that year’s accruals (assuming 1,000 hours of service is required for an accrual). Also like the process for DC plans, after a plan amendment is made, a section 204(h) notice must be sent to participants.

Vesting

In the case of a partial termination, a freeze may require vesting, Mayo noted. 

For DC plans, if there is a complete discontinuance of contributions requires 100% vesting, contributions must be substantial. “It can’t be $1,” Mayo said. If contributions are suspended but later are completely discontinued, vesting is required no later than the last day of the employer's tax year following the tax year in which the employer last made a substantial contribution. 

For DB plans, vesting is required when the reduction or cessation of accruals increases the potential of reversion to the employer. The exact rules unclear are unclear, Mayo said, but one view is that if a plan is underfunded when frozen, then likelihood of reversion is not increased; if a plan is overfunded when frozen, the likelihood of reversion is increased and vesting is required. 

Available on Demand

The ASPPA Webcast “Plan Freezes and Terminations” is available on demand. More information is available here. 

Next in this four-part series: terminating a plan.