IRS has released Notice 2012-61, providing guidance on the application of new MAP-21 funding/valuation interest rate rules. In this article we highlight significant elements of the guidance. (For a detailed discussion of MAP-21 please see our article Pension Funding Relief / PBGC Premium Increases.)
1. Treatment of lump sum valuations. There had been concern that traditional defined benefit plans offering lump sums would be required (to some extent at least) to reflect Tax Code section 417(e) rates in valuing benefits for funding purposes. 417(e) uses first, second and third segment rates, but it uses spot rates instead of 24-month average rates. In the current environment of rapidly declining interest rates, those spot rates are significantly lower than the 24-month average; and, obviously, the difference in the two rates is much greater when you apply the MAP-21 25-year floor to the 24-month average. Thus, if sponsors were required to use 417(e) rates to value lump sums, much of the funding relief provided by MAP-21 would be eliminated.
The Notice provides that sponsors generally do not have to use different rates to value lump sums. That is very good news for sponsors of plans that provide a lump sum option.
2. 2012 transition issues. A number of questions have been raised about the application of MAP-21 to 2012, especially in view of the adoption of the new law halfway through the year. Beginning with what is likely to be the most common situation:
A. Where there was no 2012 actuarial certification under the old (pre-MAP-21) rules:
Whatever adjusted funding target attainment percentage (AFTAP) and resultant restrictions applicable in 2011 applied through March of 2012, for a calendar year plan.
On April 1 the 10% “haircut” (again, based on the 2011 AFTAP), and any resulting benefit restrictions (e.g., if this presumed AFTAP goes below 80%), applied. If, to avoid the application of such a restriction, the plan’s credit balance was reduced or the sponsor made a contribution, under the Notice the sponsor cannot “un-reduce” that credit balance or re-designate that contribution (apply it for some purpose other than avoiding the application of a restriction).
If use of MAP-21 rates in the calculation of the minimum required contribution for 2012 reduces required quarterly contributions, those required quarterly contributions are retroactively reduced. As a practical matter this means that a retroactively “un-required” quarterly contribution can either be re-designated as a 2011 contribution or used in 2012 (e.g., to satisfy October or January quarterly contribution requirements). A sponsor may not, however reverse an election to use a plan’s credit balance to offset the minimum required contribution for the 2012 plan year, except to the extent the credit balance used exceeds the minimum required contribution.
The actuarial certification using MAP-21 rules has whatever effect it has under the regular benefit restriction rules. For instance, if after the application of the April 1 haircut, the plan’s presumed AFTAP was below 80%, then, until the actuarial certification is made, restrictions on lump sum payments and amendments would apply. If, after certification using the MAP-21 rules, the plan’s AFTAP is at or above 80%, then from the date of the certification no restrictions would apply.
B. Where there has already been a certification that does not use the MAP-21 rules, the sponsor has a more complicated set of choices. Generally, under the Notice, it can retroactively correct the certification, prospectively correct it or not correct at all (by electing to have the MAP-21 rules not apply for benefit restriction purposes in 2012). The Notice provides rules for making these elections, correcting payments, and other issues that arise where one of these elections is made. Sponsors that have a “pre-MAP-21” certification should consult with counsel and with the plan’s actuary to evaluate their choices and obligations.
3. Elections. The Notice provides rules for making elections, e.g., with respect to whether MAP-21 rules will not apply in 2012 generally or for purposes of the benefit restriction rules and with respect to the “un-reduction” of credit balances and re-designation of contributions. Generally these rules require written notice to the enrolled actuary for the plan and to the plan administrator. The election is irrevocable. The timing is a little tricky — generally notices must be sent no later than the deadline for filing the 2012 Form 5500 (including extensions) for a plan year beginning in 2012, or the date the 5500 is actually filed, if earlier. There are, however, numerous exceptions to this rule; again, sponsors should consult with counsel.
The election to change from using a full yield curve to using segment rates (to opt in to funding relief) is made by providing written notice to the enrolled actuary for the plan and to the plan administrator no later than July 5, 2013.
* * *
The Notice also includes rules for hybrid plans using a funding segment rate as the plan’s interest crediting rate and for the calculation of the value of plan assets where interest is imputed based on funding segment rates.
On some key issues — the treatment of lump sums and the ability in some cases to “un-reduce” credit balances and re-designate contributions — the Notice is good news. Most of the guidance is very technical and its application will be fact-dependent; again, we recommend consultation with counsel and the plan’s actuary to determine how the rules in the Notice will affect your plan.