March 19, 2008
IRS Proposes Regulations for Certifying a Multiemployer DB Plan Is in Endangered or Critical Status
On March 14, 2008, the Internal Revenue Service (IRS) released proposed regulations, Treasury Regulation sections 1.432(a)-1 and 1.432(b)-1,1 which cover the basic requirements for certifying that a multiemployer defined benefit pension plan is in either endangered or critical status. Once adopted in final form, the regulations are proposed to be effective as of the start of the 2008 plan year, which would be a retroactive effective date for most plans.
Most of the proposal is a restatement of the statutory language, with little embellishment. Perhaps because it does not venture much past what is evident on the face of the law, it is generally consistent with the approaches that The Segal Company has been using to determine its clients' zone status. This Compliance Alert notes the points on which the proposal provides some guidance.
Under the proposed regulations, an extension granted under Internal Revenue Code (IRC) §412(e) is to be treated as if it were under IRC §431(d). Accordingly, it must be disregarded in determining whether a plan is projected to have a funding deficiency within four or five years, for purposes of the red zone (critical status) tests. Since the law itself only mentions §431(d), which is a new section of the IRC, there has been considerable controversy over how the older extensions, provided under §412(e), should be handled for this purpose.
The proposal positions the statutory "emergence" rule for a plan in critical status as one of the zone certification tests applied annually (but only after the plan is already red) to determine whether a plan continues in the red zone.
Under the proposal, after the initial year in critical status, the actuary will determine each plan year whether, for that year, the plan:
- Fails any of the four tests that trigger entry into the red zone, disregarding any amortization extension in projecting funding deficiencies, or
- Is projected to have a funding deficiency within 10 years, taking into account any amortization extension.
If the answer to either of those questions is yes, the plan remains in critical status for that plan year. There is no opportunity for a plan with an amortization extension to exit and then rotate back in the following plan year. This is solely a result of the disparate treatment of the extension for the entry and exit tests, because the so-called emergence test is really a "stay-in" test.
LENGTH OF THE FUNDING IMPROVEMENT/REHABILITATION PERIOD
The proposal states that the funding improvement or rehabilitation period lasts until the last day of the 10th year of the period (the 15th year for most deep-yellow plans) unless the plan changes status before that. This appears to resolve the question of whether the correction program might need to be accomplished in time to be reflected in the certification and Schedule MB for the 10th year.
The proposed regulation requires only that the actuarial certification include information identifying the plan and the actuary2 and whether or not the plan is in critical or endangered status. This does not, of course, address the type of information required by the Actuarial Standards Board under Actuarial Standards of Practice for Actuarial Communications. However, the proposal notes that the IRS is likely to require additional information in subsequent guidance, including a description of the tests the plan failed and an explanation of the actuarial basis for the determination.
The certification is to be sent to the trustees at the address given for the plan on the Form 5500, unless they specify otherwise.
RED ZONE BENEFIT RESTRICTIONS
The restrictions on lump sums and related payment forms are effective when the notices are sent to participants (not when they are received). The red zone notice must describe both any applicable payment form limitations and the potential for reductions in adjustable benefits in order to be adequate. A plan can only limit payments and reduce those benefits after it has sent out an adequate notice. A notice sent before the deadline that was not adequate can be corrected by sending out the previously missing information by the deadline.
The proposal makes clear that even if a plan was certified during 2007 as likely to be in critical status in 2008, it could not stop paying lump sums and similar forms until the start of the 2008 plan year. If benefit payments are curtailed prematurely, that must be corrected.
PROJECTING FUNDING DEFICIENCY
The proposal confirms that the plan's regular funding method, not the unit credit method, is used when projecting the likelihood of a funding deficiency for purposes of the zone tests.
CRITICAL STATUS NOTICES
The proposal clarifies that plans sending an "early" critical status notice in 2007 must send out another notice after the 2008 actuarial certification is filed.
- To see the proposed regulations, Treasury Regulations sections 1.432(a)-1 and 1.432(b)-1, which were published in the Federal Register on March 18, 2008, click here. (To return to the Compliance Alert text, click here.)
- Include the name, address and telephone number of each actuary, the plan number and the actuary's enrollment number. (To return to the Compliance Alert text, click here.)
Compliance Alert, The Segal Company’s periodic electronic newsletter summarizing important developments affecting benefit plan compliance, is for informational purposes only. It is not intended to provide authoritative guidance. On all issues involving the interpretation or application of laws and regulations, plan sponsors should rely on their attorneys for legal advice.