Plan sponsors such as Ford, General Motors and more recently, Motorola, have made headlines for implementing strategies to remove liabilities from their balance sheets by cashing out participants and transferring their pension liabilities to third party insurers in accordance with existing law.
Verizon retirees attempted unsuccessfully to enjoin the transfer of their pension obligations to Prudential, and have failed to prevail in subsequent legal actions to undo the transactions. They argued, among other things, that their consent was required, and that they were being exposed to risk by the loss of PBGC insurance when insurers picked up the liabilities.
Others have been concerned that retirees offered the choice between a lump sum settlement and continuing ongoing annuity payments were ill-prepared to make informed choices or to manage the lump sum so as to provide adequate retirement income.
In response to these concerns, the ERISA Advisory Council has discussed whether additional legal requirements would be appropriate, and the PBGC will be requiring information about de-risking transactions as part of its reporting.
Senators Weigh In
Now two influential Senators have added their voice to this chorus of concern in a letter addressed to the heads of the IRS, Department of Labor, PBGC and the new Consumer Financial Protection Bureau. Ron Wyden, Chairman of the Senate Committee on Finance, and Tom Harkin, Chairman of the Committee on Health, Education, Labor and Pensions urge these agencies ‘to consider clarifying all of the circumstances and conditions under which de-risking strategies are permissible in the absence of a formal plan termination” and “to move forward expeditiously with rules to protect plan participants.” While acknowledging the right of employers to terminate parts of their plans, the Senators want guidance requiring advance notice and expanded disclosure of the risks to participants, and new rules to clarify the standards that apply to the choice of an annuity provider and other fiduciary duties involved.
Is This Guidance Necessary?
Purchase of annuities to remove participants from the plan books is not a new practice. When I first started practicing, it was fairly common for plan sponsors to purchase a fully paid up annuity contract to distribute to participants when they retired. Existing guidance provides that once the annuity is distributed or the accrued benefit is fully cashed out, a plan sponsor who has prudently selected the annuity provider is no longer responsible for benefits, and PBGC premiums are no longer required.
Plan sponsors typically provide notice to participants affected by these transactions, and those who have a benefit election are required to receive information on the relative value of the lump sum versus annuity payment options as well as to get spousal consent to payment in a form other than the qualified joint and survivor annuity. The private letter rulings that have permitted plan sponsors to offer a lump sum option to current retirees have required further spousal consent and stated that professional financial advice was made available to the participants. In our experience, employers typically already provide participants with the relevant information they would get if their plans were being terminated in full.
In addition, it is common for plan sponsors to hire experts, including independent fiduciaries, to assist them in the prudent selection of an annuity provider in accordance with the existing Department of Labor guidance on the factors that must be taken into account. Any plan sponsor that placed annuities with a provider in poor financial condition in order to save money would run afoul of existing authority.
Regarding the seriousness of the loss of PBGC coverage, it is important to remember that there are dollar caps on PBGC coverage. Further, all 50 states and the District of Columbia have insurance guarantee funds that are intended to provide protection in the event that an insurer becomes insolvent. Often, another insurer is found to assume the troubled company’s obligations, but a state fund will back up the obligations up to limits that vary in each jurisdiction if no successor is found.
Could This Be a Bad Idea?
Plan sponsors are not required to maintain pension plans, and onerous restrictions on de-risking could accelerate complete terminations of plans. Court decisions going back to the common law of trusts for authority have recognized that employer decisions to adopt, terminate, merge or amend plans are settlor rather than fiduciary functions, raising questions as to whether the agency recipients of this letter have authority to change those rules by ruling or regulation. Further, it is clear that at least in some cases, given the limits of PBGC coverage, the transfer of obligations to an insurer in much better financial condition than the plan sponsor will be beneficial to participants.
Plan sponsors who are considering de-risking activities may wish to accelerate them and complete them before any new rules would become effective.