Revenue Ruling 2008-45 Says Company Cannot Transfer Frozen Defined Benefit Pension Plan to Independent Investment Firm

Treasury and the Internal Revenue Service have issued Revenue Ruling 2008-45 stating that a transfer of sponsorship of a company’s frozen tax-qualified pension plan to an unrelated taxpayer, such as an investment firm, violates the exclusive benefit rule of Internal Revenue Code Section 401(a) when the transfer is not connected with a transfer of significant business assets. At the same time, Treasury proposed principles to guide Congress in passing legislation to permit such transactions when they are in the best interest of plan participants, the company, and the federal pension insurance system.

Representative Earl Pomeroy (D-ND), a senior member of the House Ways and Means Committee, praised the revenue ruling as good news for the 3.3 million workers whose benefits under defined benefit pensions plans are frozen. "While the Department of Labor has tried to water down the employer responsibility to employees covered under a pension plan, he said, the ruling has ``slammed the door on those efforts.’’

Under the scenario sketched in the ruling, a company transfers sponsorship of its frozen under funded defined benefit pension plan to a wholly-owned subsidiary with no business, no employees, and nominal assets. As part of the transfer, the subsidiary is substituted as the plan sponsor and assumes the company’s responsibilities under the plan. In connection with the transfer, the company also transfers cash and marketable securities to the subsidiary equal to the amount of the plan’s under funding. Later, 80 per cent of the subsidiary’s stock is transferred to an unrelated company, which means that the subsidiary is no longer controlled by the parent company.

IRC Section 401(a) conditions qualification of a pension plan on it being maintained by the company for the exclusive benefit of its employees. When the subsidiary ceased being a member of the parent company’s group, said the ruling, the plan ceased to satisfy the exclusive benefit rule of § 401(a) because it was no longer being maintained by an employer to provide retirement benefits for its employees.

Under the legislative framework proposed by Treasury, a frozen pension plan could be transferred to an entity unrelated to the company, such as an independent investment firm, provided that certain conditions are met. First, plan participants and ERISA regulators would have to receive advance notice of a plan transfer; and the regulators must be given information necessary to review and approve the transaction. Also, only financially strong and well-regulated entities would be permitted to acquire a pension plan in a transfer transaction.

Moreover, the parties to the transaction would be required to demonstrate that employee benefits and the pension insurance system would be exposed to less risk as a result of the transfer; and that the transfer would be in the best interests of the employee participants. In addition, limitations on transfers would be imposed to limit undue concentration of risk; and the transferees must assume full responsibility for the liabilities of transferred plans and also comply with post-transaction reporting and fiduciary requirements.

Congressman Pomeroy and Ways and Means Chair Charles Rangel, have been concerned about the possibility of transferring frozen defined benefit plans to independent investment firms, which might have unfavorable consequences for the retirement security of American workers. The congressman looked askance at the legislative proposal to allow such transfers, noting that "Democratic majorities are highly skeptical of pension buyouts."