The Pension Protection Act of 2006 (“PPA”) contains dozens of changes to multiemployer pension plan funding standards, most of which are effective for plan years beginning in 2008. Many of these provisions are applicable to all multiemployer plans, but Congress also included important relief for the construction industry. Employers, unions, and trustees of multiemployer plans should begin preparing now to meet the new standards. Funding “Zones”
The most important change made by the PPA is the imposition of limitations on plans that fall below specified funding thresholds. Adequately funded plans are considered to be in the “green zone,” while endangered or seriously endangered plans are in the “yellow zone,” and critical plans are in the “red zone.” Within 90 days of the start of each plan year, the plan’s actuary must certify whether the plan is endangered or in critical status for the year.
A plan is considered “endangered” if it is less than 80 percent funded or is projected to have an accumulated funding deficiency within seven years. If the plan is both less than 80 percent funded and projected to have a funding deficiency within seven years, it is “seriously endangered.” Plans that are less than 65 percent funded or face a serious risk of insolvency are considered “critical.” The restrictions and obligations that accompany a deficient funding status grow progressively more severe as funding status worsens. The trustees of a yellow zone plan must adopt a “funding improvement plan,” while the trustees of a plan in the red zone must formulate a “funding rehabilitation plan.” Underfunded plans also must impose mandatory restrictions on benefit options. “Yellow Zone” Plans
The trustees of an endangered plan generally cannot permit any benefit increases and cannot accept collective bargaining agreements that are likely to endanger future plan funding. They must also adopt a funding improvement plan that will reduce the plan’s funding deficit by 33 percent over 10 years, while avoiding an accumulated funding deficiency in any year.
Seriously endangered plans must comply with all the conditions to which endangered plans are subject, with the exception that the funding improvement plan must reduce the plan’s funding deficit by 20 percent over 15 years. The trustees must also take “all reasonable actions” that will increase the plan’s funded percentage and postpone an accumulated funding deficiency for at least one additional plan year. “Red Zone” Plans
Plans in critical status face a number of unpleasant requirements. As with endangered and seriously endangered plans, the trustees of a critical plan may not offer benefit increases or accept collective bargaining agreements that are likely to further jeopardize the plan’s funding. The trustees of critical plans also must discontinue any optional benefit forms that result in monthly payments greater than that of a single life annuity. This means that lump-sum payments and other “accelerated” distribution forms must be suspended.
Trustees of critical plans must adopt a “funding rehabilitation plan” that will take the plan out of critical status within 10 years. If reasonably necessary, the trustees must decrease future benefit accruals and “adjustable benefits.” Adjustable benefits include those that are not protected by ERISA’s anti-cutback rules, early retirement benefits and subsidies, optional benefit forms other than a qualified joint and survivor annuity, and all benefit increases adopted within the last 60 months. Critical plans may reduce these benefits even if they would otherwise be protected from cutbacks by ERISA.
Not surprisingly, employers that participate in a red zone plan face mandatory increases in their contribution requirements, in the form of automatic surcharges. All contributing employers are obligated to pay a 5 percent surcharge on contributions for the initial critical year, and a 10 percent surcharge in succeeding years. This obligation continues until the parties agree to a new collective bargaining agreement that satisfies the requirements of the funding rehabilitation plan. Other PPA Changes
In addition to imposing restrictions on underfunded plans, the PPA also tightens funding standards for all multiemployer plans. The period over which a plan may amortize unfunded past service liability is reduced from 30 years to 15 years for all new benefits. For example, the cost of a plan amendment that increases benefits for past service must be amortized over 15 years. Existing liability for past service, however, may continue to be amortized over 30 years.
A special rule requires faster funding of temporary benefits, such as 13th check programs. If a new benefit is designed to be paid over a period less than 15 years, it must be amortized over the payout period. For example, a post-retirement subsidy payable for three years must be amortized over three years.
Under the PPA, all actuarial assumptions must be individually reasonable, rather than merely reasonable in the aggregate. This change could cause actuaries to adopt more conservative assumptions, and thus reduce a plan’s funding level.
Fortunately, the PPA also relaxes the deduction limits applicable to contributing employers. The deduction limit for contributions was increased from 100 to 140 percent of the plan’s unfunded current liability. Furthermore, the PPA eliminates the 25 percent deduction limit for combinations of defined benefit and defined contribution plans. Both of those changes were effective for the 2006 tax year.
Another PPA change may make multiemployer plans more attractive for those in the building and construction industries. Plans for these industries are now permitted to adopt the 5 year “free-look” and “fresh-start” rules for withdrawal liability that have long been allowed in other plans.
Many other PPA provisions relate to multiemployer plans – far too many to fully recount here. These provisions affect required notices, Form 5500 filings, controlled group liability, withdrawal liability, and numerous other areas. Plan sponsors should act now to familiarize themselves with the impact of these new rules: the clock is ticking.