Update on Plan Document Compliance for Defined Benefit Pension Plans (Including Cash Balance Plans)

By Gary Gunnett

In the past few years, the IRS rules governing the manner in which defined benefit pension plans comply with plan document requirements have changed dramatically. This update summarizes the current rules and the options for employers sponsoring these plans.

Historical Rules:

Traditionally, in order for a pension plan sponsor to be sure that the form of its plan document met IRS requirements for tax-qualification, the sponsor had to have a letter from the IRS evidencing compliance. Generally, this "reliance" was secured by a plan sponsor in one of two ways:

1. Pre-Approved Document. A plan sponsor using a form of plan document that was pre-approved by the IRS (e.g., a prototype or volume submitter document) is entitled to rely on the opinion letter issued by the IRS to the provider (law firm, third-party administration firm, etc.) of that document. Generally, pre-approved documents are required to be updated on regular 6-year cycles. The current cycle for pre-approved defined benefit plans ends April 30, 2020.

2. Individually-Designed Document. A plan document that is not in the form of a pre-approved document is "individually-designed." Prior to 2017, individually-designed documents were on 5-year cycles based on the last digit of the employer's federal employer identification number. For example, the plan of an employer with an EIN ending in 5 was in "Cycle E," with cycles ending January 31, 2011 and January 31, 2016. In order to have reliance, the sponsor of an individually-designed plan had to take two steps prior to the end of each cycle: (a) adopt an updated plan document, and (b) file the document with the IRS for an individual determination letter issued to the sponsoring employer. (Prior to the current cycle for pre-approved plans ending April 30, 2020, all cash balance plans were automatically considered individually-designed. Now, cash balance plans are available in the form of pre-approved documents.)

Changes in the Availability of Individual Determination Letters:

Effective January 1, 2017, the IRS announced that it would no longer issue an individual determination letter for an individually-designed plan except for (a) a brand new plan, (b) a plan termination, or (c) such other special circumstances as would later be determined by the IRS. This change was primarily due to limited resources at the IRS, i.e., a decrease in the number of

agents available to review determination letter applications. To date, only two "special circumstances" have been announced by the IRS. The first exception is for individually-

designed cash balance plans (i.e., cash balance plans that do not fit onto a pre-approved plan document). These plans can be submitted for a determination letter during a limited window running from September 1, 2019 through August 31, 2020. The second exception is for plans that are merged in connection with a corporate merger or acquisition. This exception is available on an ongoing basis, but the application must be filed by the end of the first plan year that begins after the corporate transaction.

Current Options for Employers:

In light of all of the foregoing, the big question facing a defined benefit plan sponsor is how best to secure reliance with regard to the form of its plan document, thereby preserving the tax-qualified status of its plan? For many employers, the answer is easy; if the terms of the plan document fit within the parameters of a pre-approved document, it makes sense to use the pre-approved document and rely on the opinion letter issued to the document provider. In other cases, sponsors of individually-designed plans should take advantage of the opportunity to apply for a determination letter under the latest "special circumstances" exceptions, where those exceptions are available (individually-designed cash balance plans and merged plans).

For sponsors of other defined benefit plans, the question is more difficult. Options include the following:

1. Rely on Latest Determination Letter. If a plan document is highly-customized, and does not include cash balance or merged plan provisions, the employer may have no choice but to update the plan for law and regulation changes as they occur, but otherwise simply continue to rely on the latest determination letter issued prior to the 2017 change in the IRS system, even if that determination letter is now several years old. However, under this option, a plan sponsor may become less comfortable as time goes on and the determination letter becomes more and more stale.

2. Law Firm Opinion. Some law firms (generally, larger firms with larger clients) will issue opinion letters on the form of an individually-designed plan document, but that option can be expensive and still does not offer the same protections as a determination letter or opinion letter from the IRS.

3. Options for Those Plans "In Between." If most but not all of a plan's provisions fit within the parameters of a pre-approved document, the plan sponsor can either follow the approach described above for highly-customized plans (i.e., simply continue to rely on the latest determination letter), or update the plan document using pre-approved language, with some modification. Technically, reliance on the opinion letter issued to the pre-approved document provider is lost with any deviation from the pre-approved language, but if the deviations are not inconsistent with the requirements applicable to qualified plans, an argument could be made (e.g., in the event of a plan audit) that practical reliance on the opinion letter is still available, even if total reliance is technically not available. Whether this approach is viable may ultimately depend on an analysis of the extent (number and nature) of the deviations from the pre-approved language.

Any questions regarding any of the above can be directed to Gary Gunnett at (412) 288-2210 or [email protected].