Administration Opposed Prepared to Sign Pension Protection Act Relief

UPDATE (12/15/08): The House and Senate both passed the Worker, Retiree, and Employer Recovery Act this week, and according to SHRM, the President has reversed course and is expected to sign it.  From SHRM’s article:

The House introduced and circulated a similar proposal in November 2008 during the start of the congressional lame-duck session following the presidential elections. The White House voiced initial opposition to the measure because of a controversial proposal to change the tax status of pension plans sponsored and operated by Indian tribal governments.

Bush dropped his objections to the pension relief proposal after House leaders stripped the Indian tribe provision from the final bill.

Our original reporting of the Bush Administration’s opposition is below.

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Recently, a number of groups consisting of well-known corporations with collective employees numbering in the millions, and employee benefit think-tanks, have been pleading with Congress to delay the requirements set forth in the Pension Protection Act of 2006 (“PPA”). The requests had received much congressional support, and the relief was seen as a necessary move to keep many businesses afloat and keep workers employed. However, the current administration disagrees and apparently sees funding these future obligations as more important than keeping current jobs.

In an effort to close loopholes through which employers were finding ways to avoid fully funding pension obligations to employees, the PPA generally requires that employer-sponsors of defined benefit plans achieve 92% funding this year on their way to 100% funding in 7 years. If a company does not satisfy the 92% requirement, and fails to stay on track with the 7-year plan, under the PPA, it will be required to have the plan 100% funded immediately (seriously).

Defined benefit plans are funded based on actuarial asumptions that determine the amount required to be contributed today in order to fund future promises. Such assumptions take into account mathematics that are well beyond the scope of us here at CE. But, we do know that an employer bears the risk of market fluctuations under such an arrangement. Therefore, when the economy is slumping and a defined benefit plan’s assets decrease as a result, the employer is on the hook to make up the deficiency. Obviously, requiring employers to fully fund these promises is necessary to ensure employees get promised benefits, but at what cost?

Financial Week published an article yesterday explaining that the administration has made clear its opposition to such a bill. This opposition stems from a concern that relaxing PPA requirements will allow plans that are already underfunded to become even more underfunded, thus increasing the liability of the Pension Benefit Guarantee Corporation (“PBGC”), which is already operating under a $11.2 billion deficit (note, the PBGC does currently have $61.6 billion in assets). However, what the administration seems to have missed is that the PBGC, like a defined benefit plan, is funded with an eye toward the future. It does not require full funding tomorrow in order to pay benefit obligations 30 years from now. Therefore, although desirable, it is not absolutely necessary that it acheive full funding immediately.

There is, however, an immediate need for companies to have cash and for workers to keep their jobs. It is likely that if the PPA requirements are not pushed back, or eased, many companies with such obligations will fail, and those that make it may be required to cut jobs anyway in order to comply with the PPA. In passing the PPA it certainly was not Congress’s intention to require defined benefit plans be fully funded if it meant putting the employees that were accruing the benefits under these plans out of work.

Proponents of the PPA relief are not proposing that the funding requirements go away completely so as to avoid the PPA altogther, but rather are simply asking for a bit of a break in light of the current economic downturn that is making funding these obligations for many companies a near impossiblity.

IRS Issues More Proposed Regulations under 409A

If you’ve been tuning in to CE lately, you may remember a post a couple weeks ago mentioning the fact that the IRS had yet to publish the income inclusion regulations under 1.409A-4 of the Treasury Regulations that had allegedly been complete for some time. On Friday, December 5th, the proposed regulations were finally published.

Essentially, the proposed regulations, over the span of 90 pages, explain how to determine the amount of deferred compensation that must be included in income if the requirements of Code section 409A are not satisfied. Simply put, this calculation goes as follows: [(1) the total amount deferred] minus [(2) the portion of deferred compensation that is non-vested or has been included in the previous year] = (3) Currently Includible Income. In addition to being subject to income taxes, the includible income is also subject to the Draconian excise tax provided for under the statute of 20%. The IRS has scheduled a public hearing regarding the proposed regulations and requests comments be received by March 9.

Please note, however, that as the proposed regulations provide, “taxpayers may rely on these proposed regulations only to the extent provided in further guidance.” In other words, stay tuned…

A few hours after the proposed regulations were published on Friday, the IRS dropped Notice 2008-113, which succeeds the previous 409A correction guidance provided under Notice 2007-100. This successor Notice sets forth guidelines for an updated 409A corrections program. This program provides methods to be used to correct inadvertant 409A operational failures, and to avoid the full application of the income inclusion rules referenced above. The program does not provide relief for documentation failures, so employers must continue to be diligent in ensuring that all nonqualified deferred compensation arrangements subject to 409A are in writing by the end of 2008, and that those written plans comply with the requirements of 409A.

1.409A-4 Still “(reserved)”

Although we generally prefer to report news, and not a lack thereof, it is worth mentioning that the IRS has still not published the income inclusion regulations under section 409A of the Internal Revenue Code. The word on the employee benefits street is that these regulations have been complete since  July, and they have been expected since that time, but have yet to get the green light from the powers that be at the IRS. Undoubtedly, our current economic crisis has complicated matters, and the IRS likely is hesitant to provide such guidance when Treasury is in such a state of disarray. But, this guidance certainly would be appreciated as soon as possible in light of the pending effective date of the new rules.

Section 409A, which was a part of the American Jobs Creation Act of 2004, sets forth requirements limiting, among other things, elections, distributions, and accelerations of compensation that has been deferred under non-qualified deferred compensation arrangements. In other words, these rules generally do not apply to your 401(k) plans, but rather they apply to executive compensation arrangements under which an individual is deferring current income into future tax years.  After a couple of extensions resulting from the sheer scope of the rules and their complicated and onerous nature, the effective date of 409A has been pushed to January 1, 2009, and nobody is anticipating any further extensions.

Benefits practitioners will continue to be perched on the edge of their seats, anxiously awaiting this next round of regulations regulations, which will be found under 1.409A-4. The new regulations will provide rules regarding the calculation of income inclusion for amounts subject to 409A. The IRS has provided guidance regarding withholding from amounts includible in income under 409A in the form of Notices, but that guidance does not provide any help in determining how to withhold penalties resulting from noncompliance with 409A. Until now, the IRS has only required good faith compliance with 409A, but as of January 1, 2009, all deferred compensation arrangements subject to 409A must be in compliance, or those deferred amounts will be included in current income and subject to a 20% excise tax.  Hopefully, benefits practitioners will have some guidance as to withholding such amounts by that time.

We will be sure to provide an update and explanation as soon as the regulations are published.