TAX NEWS - 2010

Temporary pension funding relief bill signed into law

President Obama on June 25 signed legislation that offers companies sponsoring defined benefit retirement plans temporary relief from their statutory pension funding obligations. The pension relief provisions, which are estimated to raise $2.1 billion over 10 years, will pay for a delay in the scheduled reduction in physician payments under Medicare. The temporary changes to the pension funding rules are designed to help businesses facing recession-related financial constraints that, in the worst case, could force them to choose between terminating benefit plans or reducing operational costs by cutting expenses or jobs.

The Preservation of Access to Care for Medicare Beneficiaries and Pension Relief Act of 2010 cleared the House of Representatives on June 24 and the Senate on June 18.


Amortization options

The legislation permits companies sponsoring single-employer defined benefit plans to elect one of two options to spread out the timing of their pension funding obligations:

- 'Two plus seven' schedule – Using a "two-plus-seven amortization schedule," plan sponsors would amortize pension funding shortfalls over the usual seven years, but the seven-year amortization period would start two years late. During the first two years of the so-called two-plus-seven period, companies would be required to pay only the interest on the pension funding shortfall.

- 15-year rule – Alternatively, using the 15-year rule, the plan sponsor would amortize the shortfall in level annual installments over 15 years.

The relief is available if elected by the plan sponsor, and in either case, is generally available for no more than two of the four plan years that begin in 2008, 2009, 2010, or 2011. An election may be revoked only with the consent of the Treasury Secretary.

Plans subject to rules in place before the enactment of the Pension Protection Act of 2006 would use modified versions of the two-plus-seven and 15-year amortization schedules. The legislation also provides relief to plans maintained by charities by modifying the credit balance look-back rule.


Cash flow rule

Plan sponsors electing the relief must also comply with a "cash flow rule," which requires additional contributions if the business pays an employee compensation in excess of $1 million or extraordinary dividends and redemptions during the plan year. The additional contribution is based on the amount exceeding the compensation threshold ($1 million, indexed) or, in the case of dividends and redemptions, the excess of the amount of aggregate extraordinary dividends declared and fair market value of stock redeemed during the plan year over the greater of the plan sponsor's (1) adjusted net income for the proceeding plan year or (2) the historical dividend amount.

If the sponsor elects the two-plus-seven amortization period, the cash flow rule will apply for three years, starting with the later of (1) the year for which the relief is elected, or (2) the first plan year beginning after December 21, 2009.

In the case of sponsors using the 15-year amortization period, the cash flow rule applies for five years, beginning with the later of (1) the year for which the relief is elected, or (2) the first plan year beginning after December 21, 2009.

Contributions made under the cash flow rule are subject to certain caps – for example, at an amount sufficient to pay off the present value of the unamortized portion of the shortfall amortization base for which the sponsor elected relief or at an amount to prevent the sponsor from being in a worse situation on a cumulative basis than if the sponsor had not elected the relief.


Reporting requirement

Plan sponsors who elect to use the extended amortization relief must give notice of the election to participants and beneficiaries of the plan, as well as the Pension Benefits Guaranty Corporation.