Score one for the opponents of de-risking. The U.S. Internal Revenue Service has just announced that it will be amending its regulations on required minimum distributions to prohibit offering lump sum windows to retirees in pay status. This is a 180 degree about face for the IRS, which previously issued private letter rulings to large sponsors, including Ford and General Motors, permitting these lump sum cash outs.
This new approach follows a report from the General Accounting Office that found a sample of de-risking disclosures provided to participants to be deficient, as well as pressure from groups such as AARP to curb de-risking practices. The AARP has argued that de-risking practices cause retirees to lose PBGC insurance protection, singling out cash outs that require retirees to manage their own investments.
Plan sponsors who took specific steps to implement such programs prior to July 9, 2015, such as passing Board resolutions or sending out participant communications, will be grandfathered even if they have not applied for their own private letter rulings. Forthcoming IRS regulations may, however, contain further restrictions.
It is important to note that de-risking remains an important tool for plan sponsors to rein in asset volatility and balance sheet exposure. Overregulation has already contributed to the termination of many defined benefit plans.
The negatives of de-risking are often exaggerated in debate. Most of the rhetoric by opponents of de-risking fails to mention, for example, that annuitization of pensions through third party insurers is a long-standing practice, that plan sponsors often retain independent fiduciaries to represent participants when selecting a financially sound insurer, or that there are state guarantee funds available to provide varying protections if an insurer later becomes insolvent.
The new guidance does not impact programs that offer lump sums to participants who have not commenced benefit payments, whether for a window period or on an ongoing basis under their plans, annuitization of benefits with third party insurers, or liability-driven investment practices. At least not yet.
The ERISA Advisory Council met in 2014 to discuss possible new participant disclosure requirements for de-risking, and it is possible that these will be proposed by the Department of Labor.
I previously have written posts about Congressional concern about de-risking, and the request of two key Senators in 2014 for the agencies with jurisdiction over de-risking to issue new guidance. This could happen faster than any federal legislative changes.
Although the change to Republican control may make new legislation curbing de-risking less likely, state legislatures are trying to fill the void. Legislation was recently passed in Connecticut (Public Act 15-167) to provide creditor protections similar to ERISA’s for annuities purchased in de-risking buyouts effective October 1, 2015. A more comprehensive New York de-risking bill (S.1092A/AO 6796), which would have also imposed expanded disclosure and fiduciary requirements and required that all group annuity pension transactions be reviewed by an independent third party created by the State Superintendent of Insurance, died in committee.
The New York bill was based on best practices recommended by the National Conference of Insurance Legislators in 2014, but as it would have regulated activities which are currently legal under ERISA, it would have raised significant ERISA preemption issues. It does not appear that a carve-out from ERISA preemption for state insurance laws of general applicability would apply here. Similar legislation has been reported as under consideration in Florida, Massachusetts, Pennsylvania and Virginia. Any attempt by the states to regulate in the ERISA sphere will create confusion about plan sponsor obligations that may only be resolved after lengthy litigation.
It is too late for plan sponsors who have not taken the required steps to implement a lump sum window for retirees in pay status, but plan sponsors who are interested in other de-risking options that reduce accrued benefit obligations would be well-advised to take the risk of changes in the law into account in determining when to go forward.