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Aon Retirement and Investment Blog

About Face - IRS Reverses Position on Lump Sum Window Cashouts

On July 9, 2015 the IRS issued Notice 2015-49, which effectively eliminates the ability for defined benefit plan sponsors to offer lump sum cashouts to retirees unless formal action had been taken to make such an offer before that date. This Notice was a surprise to the employee benefits community, and indicates a reversal in the recent IRS position on retiree lump sum windows. 
Other strategies for settling pension liabilities, such as lump sum windows for terminated vested (TV) participants not in payment and annuity purchases, are unaffected by the Notice and continue to be viable approaches for plan sponsors to consider. In addition, it appears that plan sponsors would still be able to offer a lump sum option to retirees in connection with a plan termination.
New Guidance

Notice 2015-49 indicates that the Treasury Department and IRS intend to amend the regulations under section 401(a)(9) of the Internal Revenue Code (Code) to provide that qualified defined benefit plans generally are not permitted to replace any joint and survivor, single life, or other annuity currently being paid with a lump sum payment or other accelerated form of distribution.  The Treasury and IRS intend that these amended regulations will apply as of July 9, 2015, excluding retiree lump sum windows in the following situations:

  • Adopted (or specifically authorized by a board, committee, or similar body with authority to amend the plan) prior to July 9, 2015;
  • With respect to which a Private Letter Ruling (PLR) or determination letter was issued by the IRS prior to July 9, 2015;
  • With respect to which a written communication to affected plan participants stating an explicit and definite intent to implement the lump sum risk-transferring program was received by those participants prior to July 9, 2015; or
  • Adopted pursuant to an agreement between the plan sponsor and an employee representative (with which the plan sponsor has entered into a collective bargaining agreement) specifically authorizing implementation of such a program that was entered into and was binding prior to July 9, 2015.
 Historical Background

In recent years, many corporations have focused on managing the size and risk of their sponsored pension plans in light of factors such as market volatility, increased longevity, higher administrative costs including PBGC premiums, and a shift towards defined contribution plans as the primary retirement program. As a result, many plan sponsors have actively sought out ways to de-risk pension plans with respect to both plan assets and liabilities.
Lump sum windows became prevalent beginning in 2012, as the basis for determining minimum lump sums was changed under the Pension Protection Act of 2006. Since then, hundreds of plan sponsors have offered TV lump sum windows. In Aon Hewitt’s recent 2015 Hot Topics in Retirement survey, 44% of companies reported recently having offered a TV lump sum window, with another 47% very or moderately likely to implement a window during 2015.
Prior to 2012, it was generally believed that pension plans were prohibited from offering lump sum windows to retirees. This was due to regulations under Code section 401(a)(9), which were generally interpreted as prohibiting changes in the period or form of payment after annuity benefit payments commenced, except in very limited circumstances.
This view changed beginning in 2012 due to a series of PLRs issued to companies including Ford Motor Company and General Motors Corporation. These PLRs interpreted a section of the regulations under Code section 401(a)(9), which permits increases in benefit payments due to plan amendments, as permitting an offer to convert annuity payments to a single lump sum payment.
While a number of plan sponsors have since offered retiree lump sum windows, certain groups have expressed concerns over these windows, including representatives of regulatory agencies and consumer advocacy groups such as the AARP and the Pension Rights Center. Further, the Government Accountability Office (GAO) issued a report in February 2015 which recommends additional government oversight intended to ensure retirees and terminated vested participants make an informed decision when electing a lump sum cashout.
The Road Ahead

As noted above, settlement strategies such as TV lump sum windows and annuity purchases continue to be viable, and we expect that plan sponsors will continue to consider and utilize these strategies as they manage their pension plan risks and obligations.
We expect that there may be pushback from the benefits community regarding the guidance issued in the Notice in the context of the voluntary nature of lump sum windows and the ability to provide additional choice to plan participants who may not have been previously offered a lump sum cashout prior to commencement of annuity benefit payments.
In the meantime, there appear to be limited options for plan sponsors interested in providing a lump sum window to retirees. However, a lump sum window could still be offered in the context of a plan termination.
One thing is for certain – the IRS Notice has made the pension settlement landscape more complex, and it is critical for plan sponsors to obtain expert guidance as they navigate it.

Eric Keener is a Partner and Chief Actuary of Aon Hewitt’s U.S. Retirement Practice and works out of the Norwalk office.
Alan Parikh is an Associate Partner in Aon Hewitt’s U.S. Retirement Practice and works out of the Lincolnshire office.
Justin Kear is an Actuarial Associate in Aon Hewitt’s U.S. Retirement Practice and works out of the Waltham office.

Content prepared for U.S. subscribers, but available to interested subscribers of other regions.

The information contained above should be regarded as general information only. That is, your personal objectives, needs or financial situation were not taken into account when preparing this information. Accordingly, you should consider the appropriateness of acting on this information, particularly in the context of your own objectives, financial situation and needs.Nothing in this document should be treated as an authoritative statement of the law on any particular issue or specific case, nor should it be treated as investment advice. Use of, or reliance upon any information in this post is at your sole discretion. It should not be construed as legal or investment advice. Please consult with your independent professional for any such advice. The blog content is intended for professional investors only.

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