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Underfunded pension plans put contractors at risk
Contractors
who contribute to pension funds of unions and other multiemployer entities
are well aware of the payments they make to these plans. They may not be
aware, however, that some of those pension funds could be putting them at
risk.
As the economy continues to stagnate and the stock market languishes, more
and more multiemployer pension plans are underfunded, meaning the market
value of the plans’ assets won’t cover 100% of the benefits employees have
accrued.
For contractors, underfunding may mean exposure to excise tax penalties for
which they are unprepared. The problem is serious enough, especially with
single-employer plans, to also have prompted a review of Financial Accounting
Standards Board Statement No. 87, Employers’ Accounting for Pensions.
Excise tax
Under Internal Revenue Code Section 4971, employers who fail to meet minimum
pension funding obligations on multiemployer plans must pay an excise tax of
5% of their portion of the underfunding for each year the plan is not fully
funded — regardless of whether the underfunding was intentional.
If the deficit continues, and the excise tax is not paid, the penalty goes to
100% of each party’s portion of the underfunding per year. That sum, though
considerable, is only a penalty. It does not help the plan meet its funding
requirements.
Employee Retirement Income Security Act (ERISA) rules apply only to defined
benefit plans, which are the more traditional programs that pay annuities to
retirees based on the benefits they accrued during their years of service.
Costs and liability
The employers’ costs for those plans and liability for underfunding vary
according to the value of eligible benefits that have been accrued.
By contrast, employers’ costs for today’s more commonly used defined
contribution plans are very straightforward. Employees and employers
contribute certain pre-determined amounts to investment plans such as
401(k)s, and the benefits depend
on portfolio performance. Because employees or trustees determine where their
contributions are invested, employers have no liability once their
contributions to the plans are made.
The ERISA penalty provision for defined benefit plans has not generally been
a concern to contractors in the past. Today, however, union pension funds
face a sagging stock market at the same time they have more retirees — who
are living longer — than current employees who are paying into their plans.
As a result, more union pension funds are underfunded, and more contractors
may share the liability.
Contractors who are signatories to more than one union pension plan may be
liable for all that are underfunded. If the trustee in charge of the plan
doesn’t notify all participants of a shortfall, the liability may come as a
particularly unpleasant surprise.
Time bombs
To prevent that, contractors should consult their certified public
accountants, their ERISA attorneys and possibly their labor attorneys to
ascertain which plans are adequately funded and which are potential time
bombs.
One bright note is that there is a construction industry exemption that
contractors may be able to use when ending an agreement with a collective
bargaining unit in a geographical area. The exemption, however, must be
reviewed to determine whether it applies to the union agreements to which a
contractor is signatory.
It is critical that contractors work with their financial and legal advisors
to determine the extent of any exposure and to decide how to minimize that
exposure now and in the future.
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