While pension plans as a whole are heading toward extinction, many employers haven’t been able to terminate their plans for a variety of reasons – including collective bargaining mandates and underfunding status which precludes termination. Employers in this situation are left confronting the pressure to move the risk from the corporation’s balance sheet to the individuals covered by the plan. This risk mitigation concept is generally referred to in the industry as pension “de-risking”. One common de-risking strategy has been to offer a limited time period during which individuals in pay status can elect to forego future annuity payments and receive an accelerated lump sum payment that is the actuarial equivalent of their remaining annuity payments (sometimes referred to as a “lump sum risk transferring program”).
De-risking has been met with resistance from Congress and the agencies tasked with overseeing pension matters – PBGC, IRS, Treasury and DOL; these governmental entities express concern that shifting risk (both longevity and investment risk) from the employer sponsoring pension plans to the participants covered under those plans might not afford those individuals with enough “protection” in their retirement years. Attempting to assert additional protections over pension payment streams, last week, the IRS and Treasury issued a notice cracking down on lump sum risk transferring programs. In Notice 2015-49, Treasury and the IRS announced that they intend to amend the required minimum distribution (“RMD”) regulations under § 401(a)(9) of the Code for this purpose. This announcement represents a complete “about face” from the position that the IRS has taken in a series of private letter rules (PLRs) granted to pension plan sponsors in the past few years.
The notice indicates that, in effect, that a plan amendment allowing participants already in pay status to elect a lump sum distribution is an increase in benefits which will violate the amended RMD regulations. Thus, pension plans generally will not be allowed to replace (or offer to replace) any joint and survivor, single life, or other annuity currently being paid with a lump sum payment or other accelerated form of distribution. While we need to wait to see what the regulations will actually say, this may not be as significant as it first appears. Since the amendment is to the RMD regulations, it most likely will not impact offering lump sums to terminated vested participants who are not retirement eligible or even to retirees who are not receiving RMDs.
Once these revised RMD regulations are issued, they will apply retroactively back to the date of the notice – July 9, 2015. Only those employers grant a PLR before July 9, 2015 and other lump sum risk transferring programs either in effect (or approved by corporate action and/or collective bargaining efforts) or communicated in writing before that date will be “grandfathered” for purposes of this change. To rely on the employee communication, it has to state an “explicit and definite intent” to adopt the de-risking program. Therefore, plan sponsors will need to review their communications carefully to make sure they are sufficiently clear to qualify for this rule.