BI’s Article search uses Boolean search capabilities. If you are not familiar with these principles, here are some quick tips.

To search specifically for more than one word, put the search term in quotation marks. For example, “workers compensation”. This will limit your search to that combination of words.

To search for a combination of terms, use quotations and the & symbol. For example, “hurricane” & “loss”.

Login Register Subscribe

Defined benefit landscape changes


Q: As a plan sponsor, how will the Pension Protection Act affect our plans and what should we be doing to prepare?

A: The past few months have brought a flurry of significant changes to the retirement plan arena. Funding rules have been revamped, financial accounting is expected to change considerably and significant court decisions have been made.

President Bush signed the Pension Protection Act of 2006 into law on Aug. 17. This act arguably represents the largest change in employee benefit plans since the Employee Retirement Income Security Act. The whole landscape of defined benefit plans has changed and defined contribution plans did not escape its far-reaching effects. Interpretations and guidance on the act are likely to take years to complete. The outline that follows is based on early interpretation of the act, and our understanding may change as guidance is forthcoming in the next few months.

Defined benefit funding

The good news for defined benefit plan sponsors is that the interest rate relief offered in the Pension Funding Equity Act of 2004 has been extended for 2006 and 2007. Without this extension, current liability would have been calculated based on 30-year U.S. Treasury bond rates, as was required prior to 2004, and cash contributions for many plans would have increased. With the extension, current liability will be computed under much more favorable corporate bond rates, as was done in 2004 and 2005.

In 2008, a major change will occur. Some plan sponsors are likely to see higher required cash contributions sooner than expected. The new rules will also impose benefit increase, benefit accrual, lump sum and executive deferred compensation restrictions when plan funding falls below certain percentages. Plan sponsors should talk to their actuarial consultant to see how their plan will be affected as this will vary significantly based on plan specifics. These rules will provide strong incentives to fully fund defined benefit plans. Plan sponsors should begin work now on their future contributions and understand the implications of funding at various levels.

PBGC premiums

Due to the underfunded plan liability that threatens the Pension Benefit Guaranty Corp.'s solvency, legislation earlier this year increased the annual flat rate per participant premium from $19 to $30. In addition to this, the PPA will increase variable rate premiums for some plans. Beginning in 2008, there no longer will be a full funding limit exemption for this type of premium. With this exemption, plans could have had assets less than vested current liability, and still avoided the variable rate premium. In 2008, plan assets will need to exceed the new vested funding target to avoid a variable rate premium. Plans currently using this exemption may have variable rate premiums under new rules.

Cash balance plans

The PPA has clarified that cash balance plans are not age-discriminatory for plans created since June 29, 2005, and has specified standards for plan conversions. New rules were also set for vesting and interest crediting. The full impact of the requirement that interest credits not exceed a reasonable market rate of return will depend on the definition of "reasonable" expected in future regulations. The new vesting rules will require all participants to be vested after three years.

In addition, for most plans whipsaw calculations are no longer required. As a result of these calculations, many plan sponsors were paying out lump sums much larger than the account balances defined under the plan. Under new rules, the account balance can be used as the lump sum amount instead of the more complicated and costly lump sum calculated under whipsaw. Cash balance plan sponsors need to plan how to implement these new rules.

Cooper vs. IBM

On Aug. 7, the 7th U.S. Circuit Court of Appeals overturned a 2003 district court ruling, which had found IBM's cash balance pension plan age discriminatory. This decision stopped nearly all cash balance plan formation since plan sponsors did not want to touch a plan type deemed age discriminatory. The reversal of this ruling, which was the first time an appeals court ruled on the age discrimination issue, combined with the new hybrid plan rules under the Pension Protection Plan may have reopened the door to cash balance plans. If your company is considering a plan change, a hybrid-type plan may be a viable, if not desirable, option that you may not have considered previously.

DC plans

Several provisions of the PPA make it easier for 401(k) plan sponsors to implement auto enrollment, including new rules for ERISA pre-emption of state wage garnishment and other laws, quick distributions for employees who don't want to be enrolled and a new ADP/ACP Actual Deferral Percentage/Actual Contribution Percentage test safe harbor. The act also directs the secretary of labor to issue default investment regulations for participants not electing investments. This will not relieve all fiduciary liability, but may help fiduciaries sleep better at night. Rules requiring diversification when plans hold company stock are also specified in the new law. Defined contribution plan sponsors should be reviewing these new rules to determine what changes, if any, they will need to make to their plans.

Seek specifics

This column barely scratches the surface of the profound changes mandated by the PPA. Plan sponsors should seek more detailed specifics on the act, so they can respond appropriately to the new environment and reduce the likelihood of any surprises.

Ask A Casualty Actuary, Ask A Benefit Actuary and Ask A Risk Manager answer written questions from readers on risk and benefits management issues and actuarial problems.

This month's column on actuarial questions in the benefits field is written by William J. Miner, an actuary with Watson Wyatt Worldwide in Chicago. For more information about the retirement plan changes, please contact Watson Wyatt Worldwide at 312-525-2169. Mr. Miner was assisted in the preparation of this column by Christy Meehleis, a consultant in Watson Wyatt's Chicago office.

Address your questions to ASK, Business Insurance, 360 N. Michigan Ave., Chicago, Ill. 60601. Please give us your name, title and employer; however, Business Insurance will consider unsigned letters.