For over 20 years after ERISA’s enactment, the government did not make use of §4062(e), which requires an employer to provide security to the Pension Benefit Guaranty Corporation (PBGC) if the cessation of operations at a facility results in the separation of more than 20 percent of the participants in a defined benefit plan. The rationale for this rule was unclear: A company that closes a plant and lays off a substantial number of employees may be in financial trouble, but often it is merely shifting its investments to more profitable locations or lines of business.

In the mid-1990’s, as part of an agency initiative to monitor insurance risks more closely, PBGC officials began to talk about enforcing §4062(e). In 2006, the agency published regulations on how to calculate the required security (a matter omitted from the statute) and began looking for applicable situations. Since then, it has resolved 37 cases, obtaining bonds or escrows totaling $600 million. Now a new set of proposed regulations, published in the Federal Register on 8/10/10, will put flesh on the statutory bones, including for the first time, a reporting requirement for “§4062(e) events.”

The proposal’s approach to the statute is somewhat literal. Looking separately at each “operation” (“a set of activities that constitutes an organizationally, operationally, or functionally distinct unit of an employer”) at each “facility” (“the place or places where the operation is performed”), one must determine whether the cessation of an operation (discontinuance of “all significant activity at the facility in furtherance of the purpose of the operation”) is the proximate cause of the separation from employment of more than 20 percent of the participants in any of the employer’s defined benefit pension plans. If it is, the employer must file a report with the PBGC, calculate what its liability would be if the plan were to terminate, and place funds in escrow equal to a ratable percentage of that hypothetical liability, based on the percentage of participants who left employment as a result of the cessation. Alternatively, it may post a bond for 150 percent of that amount or may negotiate some other arrangement with the PBGC.

The bond or escrow must remain in place for five years. If the plan terminates during that period and does not have sufficient assets to cover all benefit liabilities, the security goes to the PBGC. Otherwise, it reverts to the employer.

The benefit to the government is that, if the plan sponsor goes bankrupt within a few years after a §4062(e) event, the PBGC’s insurance fund will (subject to the Bankruptcy Code’s restrictions on preferential transfers) get paid up front, without having to wait in line with other creditors. The drawback to the employer is that, whatever its financial condition, it must tie up cash or credit capacity for five years.

In some circumstances, the proposal will yield questionable results. For example –

  • Company A moves a major operation from New York to Texas. Workers are laid off in one state and hired in the other, resulting in no net change in employment or plan participation. Nonetheless, if the layoffs affect more than 20 percent of the plan’s participants, a §4062(e) event has occurred.
  • Company B does most of its widget-making in California but also has a small plant in Tennessee. It decides to transfer the whole operation to Tennessee. In this case, it arguably has only one “facility” (“the place or places where the operation is performed”). Since it hasn’t ceased an operation at that facility, it escapes §4062(e) entirely – a fine result, but why is Company A more of a risk to the PBGC?
  • Company C sells a loss-making operation to another corporation, reinvesting the proceeds in a profitable venture. The operation has its own underfunded pension plan, which the buyer is unwilling to assume. Under the proposed regulations, the sale of an operation is a “cessation”, just like a shutdown. The preamble states that the PBGC will consider waiving §4062(e) security for sales, but only where the buyer takes over the plan.
  • The facility at which Company D carries on one of its operations is destroyed by a hurricane, and all of its employees are laid off. The company rebuilds the facility and rehires all of the laid-off workers. According to the proposed regulations, that event is a “cessation” unless the employer “has resumed significant activity at the facility in furtherance of the purpose of the operation” within 30 days after the disaster. Obviously, there will be many cases in which the 30-day time frame will be unrealistic. Moreover, if one takes the words of the proposed regulation at face value, rebuilding anywhere except on the original site would lead to a “cessation.”

Aside from such anomalies, the proposal leaves a good deal of room for disputes about how many participants were affected by a cessation. For a voluntary cessation, the active participant base must be determined as of the date on which the decision to cease operations was made – potentially an issue subject to much dispute – and the departures of employees who leave before the cessation, or who work in other operations or facilities, may, under the proposal’s broad definitions, be attributable to the event.

One cannot fault a government agency for making use of authority granted by law. However, the rigorous application of §4062(e) may result in financial disruption and uncertainty to plan sponsors and their creditors.