House Education and Labor Committee Proposes DB Funding Legislation

In June, the House Education and Labor Committee announced a bill (H.R. 2989) that, among other provisions, provides (limited) defined benefit (DB ) plan funding relief. Here we review the key elements of the bill, as well as recent IRS guidance related to the bill. Allow Sponsors to Reelect a Smoothed Yield Curve for 2010 The combination of new, stricter Pension Protection Act (PPA) DB funding requirements and the fourth quarter 2008 financial downturn (and related decline in asset values) has put considerable stress on many DB plan sponsors. And, obviously, that stress is in addition to the stress put on those sponsors’ businesses generally by the financial crisis.

In March, the Internal Revenue Service stated that it will allow, for 2009, the use of “spot rates” for any of the five “applicable lookback months” (rather than only for the month preceding the valuation date) to value 2009 defined benefit plan liabilities. Under this approach, calendar year plans can use the October 2008 PPA full yield curve for 2009 valuations, significantly reducing 2009 funding requirements. For many sponsors, this “rule” fixes DB funding concerns for 2009.

At the time H.R. 2989 was introduced, however, it was not clear if the IRS would allow a switchback to smoothing for plans that used October 2008 “spot rates” to value liabilities for 2009. H.R. 2989 would have provided for such a switchback, one time, in 2010. Since then, plan sponsors got that additional relief. In late September, the IRS announced that sponsors will be allowed, for 2010, to switch back to 24-month valuation interest rate smoothing. Doing so could be beneficial in a couple of ways. First, smoothing generally enhances predictability, reduces volatility and increases companies’ ability to plan. And second, in this particular case, smoothing will allow consideration, again (in the 24-month average), of the “super-high” October and November 2008 interest rates.

Reasonable Interpretation for 2009
The IRS has proposed rules implementing new PPA DB funding requirements, but it is not known when those rules will be finalized. There are a number of controversial areas, and a number of areas where practitioners generally regard the approach taken by the IRS as impractical. In Notice 2008-21, the IRS allowed (with certain limits) sponsors to adopt a reasonable interpretation of PPA rules for compliance in 2008.

Here’s the key language:

For plan years beginning during 2008, taxpayers must follow applicable statutory provisions and can rely on the proposed regulations for compliance with those statutory provisions. Taking into account [certain specific rules provided in the notice], the Service will not challenge a reasonable interpretation of an applicable statutory provision under [new PPA funding rules] or [new PPA funding-based benefit restriction rules] for plan years beginning during 2008.

Investment Expenses Not Part of Target Normal Cost
Included in the Worker, Retiree, and Employer Recovery Act of 2008 (WRERA) was a requirement that a plan’s target normal cost should be increased by “the amount of plan-related expenses expected to be paid from plan assets during the plan year.” After WRERA passed, a number of practitioners raised questions about the application of this provision, pointing out that investment-related expenses have not historically been included as part of normal cost and, further, may not be explicitly reflected in trust returns for some investments, potentially producing inconsistent recognition of these costs for different investments. In essence, while explicit investment-related expenses would show up in current year funding requirements as part of the target normal cost, implicit expenses would generally be amortized over seven years. H.R. 2989 would provide “clarification” that the WRERA provision intended to increase normal cost by “plan-related administrative expenses” only.

Expanding the 4010 Gateway
PPA changed the rules for ERISA section 4010 reporting. The old rule provided for a filing if at the end of the preceding plan year the “aggregate unfunded vested benefits” of the DB plans of a controlled group of corporations (considering only those plans which were underfunded) exceeded $50 million. PPA replaced that rule with a requirement for a 4010 filing if in the preceding plan year the funding target attainment percentage of a plan maintained by the contributing sponsor or any member of its controlled group is less than 80%.

H.R. 2989, essentially, adds to the new PPA test the old pre-PPA test: that is, under the bill, you have to make a 4010 filing if you would have had to under either the old test or the new one. The result: under the bill more companies will have to make 4010 filings.