Archived Insight | September 28, 2020

Updated PBGC Lump-Sum Methodology Will Affect Few Plans

When the PBGC takes over a plan in a distress or involuntary termination, it makes lump-sum payments and valuations. On September 9, 2020, the PBGC issued a final regulation changing its methodology for those calculations.

The PBGC’s updated methodology will have no impact on the vast majority of single-employer and multiemployer private plans. Most of those plans determine lump-sum payments based only on the Internal Revenue Code (Code) interest rate and mortality table, which pension professionals know as the 417(e)(3) rates (referred to here as the Code lump-sum rates).

The updated PBGC methodology will affect single-employer plans terminating in a distress or involuntary termination. It could also affect ongoing plans that provide:

  • A lump sum based on whichever provides a higher lump sum, the PBGC assumptions or the Code lump-sum rates
  • Other optional forms of payment that use the PBGC assumptions as the applicable actuarial assumptions for conversion from the normal form of payment
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When Section 417(e)(3) of the Code was first enacted in 1984, it referred to PBGC rates for purposes of setting a minimum lump-sum payout for ongoing plans. In 1994, that part of the Code was amended to determine minimum lump-sum payments using non-PBGC assumptions. (Existing plans were allowed to delay the effective date to the first plan year beginning after December 31, 1999.) However, some plans continued to pay as a lump sum the greater of the amount determined using PBGC assumptions or the Code lump-sum rates. Some plans also continued to use the PBGC assumptions to determine other optional forms.

In 2000, the PBGC split its monthly lump-sum rate regulatory tables into a table for PBGC trusteed-plan valuations (the Appendix B rates) and a PBGC table for private plan lump-sum payments (the Appendix C rates). The reason for this change was to allow the PBGC to update its trusteed-plan factors without having to impact ongoing plans. At that time, the PBGC advised plans to specify to which table they were referring. However, most of the few plans that continued to refer to PBGC tables did not specify a table. Until now, that was not a problem because the PBGC published identical tables for the Appendix B rates and the Appendix C rates.

The final regulation

The final regulation differentiates the two tables starting on January 1, 2021. PBGC removed Appendix B and set a basic rule that the rate when they take over a plan will be the Code lump-sum rates published by Treasury.

With respect to the Appendix C rate, the PBGC provides instructions for deriving a PBGC rate from a regularly published Treasury rate. Plans can follow those instructions to determine a lump sum that approximates the lump sum that would have resulted under the old Appendix C methodology. In most cases, the new methodology will provide results close to the old methodology, and frees the PBGC from having to publish monthly rates.

Implications for plan sponsors

For plans with language that does not specify which PBGC rate applies, the plan administrator will need to interpret the plan in consultation with its legal adviser to determine whether any amendments or clarifications are required and whether there are any anti-cutback issues.

In the preamble to the regulation, the PBGC addresses whether these changes in interest rate assumptions create an impermissible cutback to an employee’s accrued benefit. The PBGC cites its discussion with the IRS, which has jurisdiction over the cutback rules. The IRS advised that the anti-cutback rule is not violated merely because the application of the final rule results in a change in the underlying interest rates. This narrow statement does not appear to address other possible cutback issues.

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This page is for informational purposes only and does not constitute legal, tax or investment advice. You are encouraged to discuss the issues raised here with your legal, tax and other advisors before determining how the issues apply to your specific situations.