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RISKVUE ARCHIVE | FEATURE STORIES
Pension Protection Act of 2006 Significantly Changes Pension Plan Funding and Reporting
By Kenneth M. Haneline
The Pension Protection Act of 2006 (PPA) is newly passed by Congress and signed by the President. Although some of the new law’s provisions will be effective immediately, most of the pension funding provisions are effective in 2008. The PPA not only makes sweeping changes to the funding of defined benefit plans, but there are significant changes being made to 401(k) defined contribution plans and executive non-qualified deferred compensation plans.
This article only highlights the major defined benefit plan funding changes being introduced by the PPA. Future articles will describe the expansive scope and complexities of this new law.
Single-Employer Defined Benefit Plans: “At-risk plans”
A plan is “at risk” if its funded percentage (the percentage of pension liability that is funded) for the preceding year is (a) less than 80 percent, determined without regard to the new at-risk rules, and (b) less than 70 percent, determined with regard to the new at-risk rules. The 80 percent test is phased in over four years beginning with 65 percent. Underfunded liabilities must be amortized over seven years. To minimize the risk of such plans to the Pension Benefit Guaranty Corporation (PBGC), the PPA includes a number of new rules that increase the minimum required annual contributions and imposes additional PBGC reporting requirements.
Obviously, the objective is to force additional funding in order to bring plans out of “at-risk” status more rapidly than under the current rules. To facilitate the faster funding before the new rules become effective, the employer’s tax deduction limits for 2006 and 2007 are increased from 100 percent to 150 percent of the plan’s unfunded current liability.
Limitations on Benefits Based on Plan’s Funded Status
The PPA imposes a variety of new benefit limitations on single-employer plans whose funded status falls below specified levels:
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Plan Restrictions Based on Funded Status
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| Less than 80% of Benefit Obligations Funded |
Less than 60% of Benefit Obligations Funded |
| No amendment that increases benefits |
No amendment that increases benefits |
| Limited accelerated forms of distribution |
No accelerated forms of distribution |
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No additional benefit accruals |
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No shutdown benefits |
Restrictions on Executive Deferred Compensation
The PPA restricts an employer’s ability to set aside assets in a trust or other arrangement (e.g., rabbi trusts) to fund nonqualified deferred compensation for the company’s top five executive officers during (1) the period that the employer’s defined benefit pension plan is considered at risk, (2) the period that the employer is in bankruptcy, and (3) the 12-month period beginning six months before the termination of an underfunded pension plan. If amounts are set aside in violation of these rules, the executive will be taxed on such amounts set aside. The tax will not apply to assets set aside before the restriction period. Any gross-up payment provided by the employer to defray an employee’s tax liability will be treated as deferred compensation subject to a 20 percent additional tax. The PPA also makes these gross-up payments non-deductible for the employer’s tax purposes.
Multiemployer Pension Plans: “Endangered Plans” and “Critical Plans”
The PPA preserves the current rules for funding multi-employer plans, with some revisions. The PPA does create a temporary set of rules, effective through 2014, for shoring up the funded status of multiemployer plans whose funding places them in “endangered” or “critical” status. The PPA provides that any new unfunded liabilities arising from benefit improvements and actuarial assumption changes must be amortized over 15 years, down from the current 30 years.
In general, a multi-employer plan is considered to be in “endangered” status if it is less than 80 percent funded or has (or is projected to have within the next six years) an accumulated funding deficiency. If both of those conditions are present, the plan is in “seriously endangered” status. A plan’s condition is “critical” if it is projected to fail to satisfy the minimum funding standards or to become insolvent within a period of three to six years (depending upon its current funding level and other factors).
The PPA requires an endangered (or seriously endangered) plan to adopt and implement a funding improvement plan, including contribution increases and benefit reductions, designed to increase its funding percentage over 10 years (15 years for seriously endangered plans). The funding improvement plan is intended to result in the elimination of one-third of the underfunding in an endangered plan or one-fifth of the underfunding in a seriously endangered plan.
A multiemployer plan in “critical” status must adopt a rehabilitation plan that sets forth actions to enable the plan to emerge from critical status by the end of a 10-year period. The PPA also imposes a 10 percent surcharge on each employer’s contribution during the “critical” status period (5 percent in the initial year). In addition, an employer that fails to make timely contributions required by the plan will now be subject to an excise tax equal to the delinquent contribution. 
ABOUT THE AUTHOR
Kenneth M. Haneline is a shareholder with the Akron, Ohio, law firm of Kastner Westman & Wilkins, LLC (www.kwwlaborlaw.com). He advises clients in all areas of employee benefits law, including compliance and tax issues, welfare and pension plans, and ERISA litigation. He represents clients in federal and state courts at the trial and appellate levels, and before the DOL, IRS, and the PBGC. He can be reached at 330-867-9998 or khaneline@kwwlaborlaw.com.
Reprinted with permission from the Summer 2006 issue of kwwlaborlaw.communicator, published by Kastner Westman & Wilkins, LLC.
riskVue | The webzine for risk management professionals
January 2007
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