February 26th, 2013 - Milliman

By Tim Bleick

On February 11, the IRS released the Moving Ahead for Progress in the 21st Century Act (MAP-21) interest rates that will be used to compute minimum contribution requirements for single-employer defined benefit plans for 2013 plan years: 4.94%/6.15%/6.76%. These rates are down about 0.70% from 2012. What does this mean for the typical pension plan? Even with good asset returns during 2012, most pension plans will see their funded status worsen significantly. And this in turn means increased funding requirements, for both minimum funding requirements for 2013 and potentially for avoiding benefit restrictions.

If benefit restrictions are an issue for your plan, then a lot depends on the plan’s funded status for 2012. If the plan was between 80% and 90% funded for 2012, additional funding could be due as early as March 31, 2013 for calendar year plans. In addition, any remaining required funding for 2012 may need to be accelerated from September 15, 2013 to March 31, 2013. If the plan was over 90% funded for 2012, additional funding may be due by September 15, 2013, for calendar year plans.

If benefit restrictions are not a concern for your plan, the minimum funding rules allow you to put off the increased funding requirements until 2014. Holding off until then will likely translate into a hefty increase from 2013. Now is the time to look ahead and perhaps smooth out the contribution requirements over the next 24 months. Not only will this alleviate some of the volatility, but a second benefit is lower Pension Benefit Guaranty Corporation (PBGC) premiums for 2014, as the trust assets will be higher on January 1, 2014.

Speaking of lowering PBGC premiums, there may also be an opportunity to lower the 2013 premium with just a little planning and no extra funding. Here’s how. First step is to satisfy the 2012 funding requirement prior to or at the same time that the first quarterly contribution is due for 2013 (April 15, 2013, for calendar year plans), instead of waiting until the last possible day (September 15, 2013, for calendar year plans). Second step is to contribute whatever amount you planned at the first quarterly requirement date for 2013, and classify that contribution as for the 2012 plan year. Because the 2012 minimum funding requirement has already been satisfied, this creates an excess amount for 2012 that can be added to the prefunding balance. The prefunding balance can then be immediately used to satisfy the first quarterly requirement for 2013. The best part is that the process can be repeated for the second quarterly requirement (July 15, 2013, for calendar year plans), doubling the premium savings. Only caveat to this process is that the plan needed to be at least 80% funded for 2012 in order to use the prefunding balance in 2013. Most plans that adopted the MAP-21 rates for 2012 should be eligible.

While MAP-21 provided some welcome relief to defined benefit plan sponsors regarding plan funding, it is always a good time to assess the situation and see if any strategies beyond simply contributing the minimum required amounts might be worthwhile.