The Pension Benefit Guaranty Corporation (PBGC) published a final rule (Final Rule) on September 9 providing that effective January 1, 2021, it will use the interest and mortality assumptions under Internal Revenue Code (Code) Section 417(e)(3) when determining de minimis lump sum benefits for single-employer defined benefit plans undergoing distress or involuntary terminations. The Final Rule does not apply to multiemployer plans.
This change is part of the PBGC’s ongoing modernization initiative. To that end, the Final Rule also discontinues the PBGC’s monthly calculation and publication of interest rate assumptions. Acknowledging that many plans use the PBGC’s lump sum interest rates in the calculation of their own lump sum distributions, the Final Rule provides a table for plans to use to determine interest assumptions in accordance with the PBGC’s historical methodology.
When an underfunded single employer defined benefit plan terminates either through a distress termination or involuntary termination, the PBGC is appointed trustee and charged with paying guaranteed benefits. This process requires the PBGC to determine the present value of each participant’s benefit to identify which benefits may be paid in lump sum because they are less than $5,000 and thus considered “de minimis.”
The Final Rule provides that the PBGC will no longer use its historical methodology for calculating lump sum distributions, noting that its current methodology was outdated and typically resulted in lower interest rates than the rates used by most private sector plans. As a result, effective for covered plans terminating on or after January 1, 2021, the PBGC will use the “applicable interest rate” specified in Code Section 417(e)(3)(C) and the “applicable mortality table” under Code Section 417(e)(3)(B) for purposes of determining de minimis lump sum benefits.
Moreover, the Final Rule states that the PBGC will no longer issue monthly interest rate assumptions. The PBGC acknowledged that there are a number of plans—likely more than the “relatively small number” referenced in the preamble to the proposed rule that preceded the Final Rule—that still use the PBGC’s legacy interest rates for purposes of determining lump sum distributions (which was required before the Retirement Protection Act of 1994 was enacted) as well as for other purposes. As a result, the PBGC has published a table in “Appendix C” of the Final Rule that provides a final set of interest rates and methodologies for private sector plans to use for valuation dates on or after January 1, 2021. Note, however, that in PBGC’s view, the Appendix C rates only apply to plans that either specifically reference the Appendix or that reference the rates PBGC publishes for use by private sector plans. Plans that simply reference the rates “used” by PBGC for determining lump-sum distributions would begin using the 417(e) rate effective January 1, 2021. Using the 417(e) rate would generally result in lower lump-sum amounts for participants than the historical rates used by PBGC or the Appendix C rates.
Helpfully, the PBGC checked with Treasury and the IRS to determine whether the Final Rule presents any anti-cutback violations if a plan provision refers to the rate used by PBGC to determine lump-sum distributions, now that the PBGC will no longer be using its own rates. Treasury and the IRS confirmed that there is no violation of the anti-cutback rules just because the Final Rule results in a change in the method of determining the interest rate used to determine lump-sum distributions, even if that results in lower lump-sum amounts.