United States: Market Turmoil And Increased Pension Liabilities

The recent turmoil in the market could well lead to a significant increase in company liabilities for all types of pension plans. In addition, companies should anticipate a significant increase in ERISA lawsuits as plan participants look for a way to deal with major losses in their retirement accounts. Prudent plan sponsors and administrators are taking a hard look at funding issues for all types of plans: multi-employer and single employer, defined benefit and defined contribution. What practical considerations top the list?

Employers contributing to multi-employer plans - withdrawals

Any employer contributing to a multi-employer (union) plan should be taking a hard look at the plan's funding. Any employer considering a plant closing and withdrawal from the plan should be aware that the cost of withdrawing could rise dramatically if the plant closing is delayed until 2009. One of the more significant factors in calculating withdrawal liability is the amount of plan assets as of the end of the plan year before the year of withdrawal. Thus, for calendar year plans, assets for a 2008 withdrawal will be calculated as of December 31, 2007 whereas assets from a 2009 withdrawal will be calculated as of December 31, 2008.

Employers contributing to multi-employer pensions plans - ongoing contributions

The Pension Protection Act of 2006 (PPA) imposes more stringent funding requirements on such plans. Multi-employer plan trustees and bargaining parties, such as contributing employers, must address serious funding issues well in advance of insolvency. The plan's actuary must certify the plan's funding status annually. Any "endangered "or "critical" plan must notify the participants, the bargaining parties, the PBGC and the Secretary of Labor of the plan's status. A plan is "endangered" if it is less than 80% funded or is expected to have an accumulated funding deficiency in the next six years. A plan is "critical" if the plan is less than 65% funded or fails one of three alternative tests. The trustees of an endangered plan must adopt a "funding improvement plan" and the trustees of a critical plan must adopt a "rehabilitation plan." These plans will have a major impact on both employers and employees. For example, funding options can include: (i) amendments to reduce or eliminate future benefit accruals or in the case of a critical plan, to reduce adjustable or ancillary types of benefits; and/ or (ii) increases in required employer contributions.

If the bargaining parties cannot agree on a funding plan, the PPA imposes increases on employer contributions to the extent necessary to meet the required funding benchmarks. Also, if the plan is in critical status, a 5% surcharge will be applied to employer contribution obligations for the first year of critical status, which will increase to a 10% surcharge per year in critical status if the rehabilitation plan is not agreed to by the parties.

Single employer defined benefit plans

The PPA reduced the ability of pension plans to "smooth" wide swings in asset values from year to year. While there are legislative proposals to mitigate some of the impact from this, there is no guarantee that that the legislation will pass this year. Contributions required for next year may be much higher than expected. To avoid unpleasant and unbudgeted surprises, plan sponsors should be reviewing possible funding positions now. Remember that under the PPA, "at risk" pension plans will be subject to certain benefit restrictions if the plan's "adjusted funding target percentage" (AFTAP) falls to less than 80%, and benefit accruals will need to be frozen if the plan's AFTAP falls to less than 60%.

Defined contribution plans

Employers sponsoring defined contribution plans may also face unpleasant consequences from the drop in equity values. "Stock drop" cases, where participants sue because they claim that they were not properly informed about whatever investment decision they made, have become increasingly popular in the past two years. It is reasonable to assume that such lawsuits will increase as the market turmoil sinks in and participants closer to retirement look for someone to blame for the fact that their retirement account has fallen dramatically.

Plan fiduciary committees should be consulting with their financial advisors to evaluate whether any investment funds available under their plans should be frozen or replaced given the current market conditions and possible exposure to mortgage-backed and other troubled securities. Plan committees are also advised to increase the frequency of their meetings throughout this period of financial crisis, as well as the frequency and availability of participant investment education.

The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.