New Executive Compensation Model Being Advocated

From Knowledge Wharton–“Incentives for the Long Run: An Executive Compensation Plan That Looks Beyond the Next Quarter.” Excerpt:

In a working paper titled, “Dynamic Incentive Accounts,” Edmans, along with Xavier Gabaix and Tomasz Sadzik of New York University, and Yuliy Sannikov of Princeton University, outline a system that escrows compensation for a set period of years stretching into the executive’s retirement. The longer time frame is designed to prevent the executive from taking short-term actions that may enrich the manager at the expense of the firm’s future profits. The plan also provides a rebalancing mechanism to maintain a constant percentage of compensation in cash and stock, so that the executive always has sufficient equity in the firm to provide performance incentives — even if the stock price falls.

The Mind-Numbing Aspects of ERISA Drove Justice Souter to Retire?

I am sorry to have missed this one, but am grateful to xtremERISA for pointing it out:

The following is from an article in The Wall Street Journal on May 1, 2009, discussing possible bases for Justice Souter’s impending retirement:

. . . Justice Souter has complained about life in Washington and even about aspects of the court’s work, such as the numbingly technical cases involving applications of pension or benefits law.

IRS Provides Copy of Internal Controls Questionnaire Online

At the Joint Meeting of the Pension Liaison Councils held earlier this year, the IRS in several presentations to practitioners discussed how, in an examination of a qualified plan, the examiner’s primary focus initially will be on the “internal controls” that a plan sponsor has in place to ensure that the plan is being run in accordance with its terms and the law. If the IRS finds that the “internal controls” are not in place, officials indicated that this will lead to further examination and inquiries into the plan’s practices and may lead to sanctions if issues are uncovered.

So, just what questions will the IRS be asking in order to found out what “internal controls” the plan sponsor has in place? You can now view the questionnaires online at this link here. (You can also find the links in this recent IRS newsletter here.)

The posting of these questionnaires is helpful to plan sponsors because they now have a “heads up” as to what to anticipate in an IRS examination and can use these questionnaires to be better prepared. Please note that, while the IRS has stated informally that it no longer asks for a copy of formal or informal self-audits conducted by the plan sponsor, some of the questions that the IRS asks in its questionnaires does appear to be aimed at extracting information that would normally be obtained from such audits, i.e. “Do you know of any operation or form failures with the plan” and “What are the failures and how many years did it occur?” In the past, practitioners were critical of any attempts by IRS to obtain copies of formal self-audits for several reasons, one of which was the attorney/client privilege, and another of which was the “chilling effect” this would have on self-audits, as plan sponsors would be hesitant to perform their own audits if they thought IRS was going to ask for the results in an examination. My guess is that practitioners will likely be critical of these particular questions in the Internal Controls Questionnaire for some of the same reasons.

Sixth Circuit: Anti-Cutback Rule Does Not Apply to Ad Hoc Post-Retirement Benefit Increases

The “anti-cutback rule” under ERISA and the Internal Revenue Code is well-known to benefits lawyers and involves the idea that, once benefits are promised under a qualified plan and participants vest in those benefits, those benefits cannot be taken away from the participant. However, in determining what “benefits” are protected by this rule, one must understand the definition of “accrued benefit” which was the focus of this recent Sixth Circuit opinion–Thornton v. Graphic Communications Conference of the International Brotherhood of Teamsters Supplemental Retirement and Disability Fund, et

The case involved a multi-employer plan that provided retirement benefits to employees in the graphic communications industry. The plan’s Board of Trustees served as the plan’s sponsor and administrator. Certain individuals retired and began receiving benefits under the plan. During their retirement, on several occasions and on what appears to be an ad hoc basis, the Board amended the plan to provide increases in benefits for all active and retired participants. However, five years later, the Board then voted to rescind those benefit increases due to a funding shortfall which threatened to jeopardize the plan’s long term financial viability.

The retirees filed a class action, claiming an improper cut-back of accrued benefits in violation of the anti-cutback rule under ERISA and a breach of fiduciary duty by the Board in passing the amendment. The district court ruled that the action by the Board of rescinding the increase did not violate the ERISA anti-cutback rule because the plan amendment granting the increase was adopted after the individuals retired, and that the Board did not breach their fiduciary duty.

In affirming the decision of the district court, the Sixth Circuit provides a classic 15-page discussion on the definition of “accrued benefit” under ERISA and the Code that is a ‘must-read’ for benefits lawyers (IMHO).

Some key points of the decision:

(1) The court agreed with the Fourth Circuit that “Congress did not consider a post-retirement increase in pension benefits to be an ‘accrued benefit'”:

We believe the Fourth Circuit’s thorough analysis of the text and context of IRC § 411(a)(7)(A)(i) demonstrates that Congress did not consider a post-retirement increase in pension benefits to be an accrued benefit. Section 411’s repeated emphasis on the accrual of benefits during service makes plain that the terms of pension plan document(s) in effect while a participant worked for a covered employer dictate his or her accrued benefits. We do not find, and Thornton has not offered, any indication in the language of § 411(a)(7)(A)(i), or statutory construction thereof, that even remotely suggests that a given participant may amass accrued benefits after he or she permanently separates from covered employment. Consequently, we hold that a postretirement increase in benefits does not create an accrued benefit for a given participant under IRC § 411(a)(7)(A)(i) unless it is in accordance with the plan in effect while the employee works in the service of the employer. . .

(2) The most interesting aspect of the opinion, however, is the discussion by the court of the Code’s parallel anti-cutback provisions contained in Section 411(d)(6) of the Code and the Treasury’s resulting regulatory guidance regarding the definition of “accrued benefit” for purposes of the anti-cutback rule. The court notes that the Treasury’s 2005 Regulation Section 1.411(d)-3 interprets the definition of “accrued benefit” to include post-retirement increases, which Regulation states in part:

The protection of section 411(d)(6) [anti-cutback rule] applies to a participant’s entire accrued benefit under the plan as of the applicable amendment date, without regard to whether the entire accrued benefit was accrued before a participant’s severance from employment or whether any portion was the result of an increase in the accrued benefit of the participant pursuant to a plan amendment adopted after the participant’s severance from employment.

However, the court refused to consider the Regulation as determinative of the outcome because of the Regulation’s effective date, which stated that the Regulation was only effective as to amendments “adopted on or after August 12, 2005”, and the Board’s adoption of the amendment rescinding the benefit increase took place before the amendment became effective. The court also rejected the plaintiffs’ argument that the Regulation reflected Treasury’s long-standing position on the issue. After a very long discussion of the Treasury’s treatment of this issue, the outcome appears to have boiled down to an IRS letter contained in the record on appeal, dated December 5, 2008 (unrelated to the plan at issue):

The record on appeal includes a recent IRS letter, dated December 5, 2008, discussing the agency’s audit of the Graphic Artists Industry Joint Pension Trust Plan (JPT), a multi-employer pension benefits plan entirely separate from the Defendant in this case. Letter from Monika A. Templeman, Director Employee Plans (EP) Examinations, Internal Revenue Service, to Graphic Arts Industry Joint Pension Plan Trust (Dec. 8, 2008). The letter indicates the IRS had initially considered a JPT amendment to eliminate a COLA benefit, previously granted to retirees, to be a violation of the anti-cutback rule under the 2005 Regulation, consistent with its litigation position in Sheet Metal WorkersId. But the letter goes on to state that the IRS abandoned this position after realizing JPTs amendment occurred prior to August 12, 2005, the effective date of the 2005 Regulation. As a result, the IRS advised JPT that rescinding the COLA previously granted to plan participants who were already retired at the time the COLA was introduced did not violate the anti-cutback rule:

However, the Service recognizes, in light of the 2005 final section 411(d)(6) regulations, the plan should not be considered as failing to satisfy [the anti-cutback rule of IRC § 411(d)(6)] as a result of the amendments eliminating the retirees benefit increases, because the amendments were adopted before the effective date of the final regulations.

Id. (emphasis added). We can logically deduce from this declaration that the IRS did not consider the post-retirement COLA an accrued benefit under the 2002 Regulation, which was unquestionably applicable prior to August 12, 2005. This position is diametrically opposed to Treasury’s proffered interpretation in Sheet Metal Workers.Because Treasury has abandoned the litigation position it took in that case, the Court is relieved of any obligation to defer to it under AuerCf. Rust v. Sullivan, 500 U.S. 173, 186-87 (1991) (holding that a longstanding agency interpretation was no longer entitled to Chevron deference given that the agency had changed its position on the issue).

(3) There was also a very interesting discussion of the “Pattern Regulation” which says:

if an employer establishes a pattern of repeated plan amendments providing for similar benefits in similar situations for substantially consecutive, limited periods of time, such benefits will be treated as provided under the terms of the plan, without regard to the limited periods of time, to the extent necessary to carry out the purposes of [the anti-cutback rule].

The plaintiffs tried to argue that the increases were protected under this Pattern Regulation, but the court rejected the argument because the increases occurred on a post-retirement basis.

(4) Finally, the court also takes note of the defendants’ argument that when they had submitted the plan document for IRS review, they had clearly indicated in the application that they had amended the plan to rescind the benefits increase and the IRS issued a favorable determination letter. However, the court said the Determination letter did not “carry any weight” for two reasons:

First, it is not clear that Treasury in fact endorsed the December 2002 Amendment in light of the anti-cutback rule. The letter merely provides a summary conclusion regarding the Plans tax-exempt status and does not make any specific findings regarding the anti-cutback rule. See Hickey, 980 F.2d at 469 (citing the informal nature of [IRS determination] letters, the express limitations included in the IRS letter, and the absence of any reasoning in refusing to accord a favorable IRS tax-exempt status determination letter any weight in interpreting the anti-cutback rule). Second, even if we assume Treasury found that the December 2002 Amendment complied with the anti-cutback rule, the absence of a rationale explaining how the agency arrived at this conclusion militates against granting deference under MeadSee 533 U.S. at 228. Thus, the IRS Determination letter lacks the power to persuade this Court in our construction of the statutory definition of accrued benefit and the corresponding scope of the anti-cutback rule.

Conclusion: Employers faced with difficult decisions in this economy may find themselves evaluating their options and will most certainly look to this Sixth Circuit decision as important in their decision-making. Certainly, for benefits increases granted before the effective date of Treasury’s 2005 regulations, the result is more clear than for benefits increase granted after the effective date.

Employee Benefits Research Tips and Techniques

You can access a copy of the outline I prepared for a presentation given to the Louisville Employee Benefits Council on March 10, 2009 here.

Announcing a New Blog. . .

For some time now, I have had a great interest in starting a website devoted to following legal developments related to ERISA fiduciary law as the whole area seems to be exploding with developments and it is difficult to cover them all at this site. The new site can be found at and is called “The Fiduciary Guidebook.” It is, of course, a work in progress. . .

White House Memo on Preemption

The White House has issued a general Memo here to “Heads of Executive Departments and Agencies” relating to the issue of federal preemption of state law. ERISA lawyers will want to read it and reflect on how the policy might or might not impact an already complicated and tangled ERISA preemption regime. Excerpt from the Memo:

1. Heads of departments and agencies should not include in regulatory preambles statements that the department or agency intends to preempt State law through the regulation except where preemption provisions are also included in the codified regulation.

2. Heads of departments and agencies should not include preemption provisions in codified regulations except where such provisions would be justified under legal principles governing preemption, including the principles outlined in Executive Order 13132.

3. Heads of departments and agencies should review regulations issued within the past 10 years that contain statements in regulatory preambles or codified provisions intended by the department or agency to preempt State law, in order to decide whether such statements or provisions are justified under applicable legal principles governing preemption. Where the head of a department or agency determines that a regulatory statement of preemption or codified regulatory provision cannot be so justified, the head of that department or agency should initiate appropriate action, which may include amendment of the relevant regulation.

PBGC Deficit at $33.5 Billion

At a hearing today before the Senate Special Committee on Aging, the PBGC Acting Director Vince Snowbarger will speak about how the PBGC will post a $33.5 billion deficit for the first half of fiscal year 2009. The Hearing is entitled “No Guarantees: As Pension Plans Crumble, Can PBGC Deliver?”

More from this press release here about his testimony:

The increase in the PBGCs deficit is driven primarily by a drop in interest rates and by plan terminations, not by investment losses, Snowbarger states in his written testimony. The PBGC has sufficient funds to meet its benefit obligations for many years because benefits are paid monthly over the lifetimes of beneficiaries, not as lump sums. Nevertheless, over the long term, the deficit must be addressed.

Supreme Court Issues Decision in AT&T Corp. v. Hulteen

The Supreme Court has issued its opinion in the case of AT & T Corp. v. Hulteen. The case focuses on calculation of pension accruals under the Pregnancy Discrimination Act.

The district court decision, which had been affirmed by the Ninth Circuit and held for the employee, is reversed in a 7-2 opinion by Justice Souter. Justice Stevens filed a concurring opinion. Justice Ginsburg filed a dissenting opinion, joined by Justice Breyer.

IRS Proposes Rules Allowing Employers to Suspend or Reduce Safe Harbor Nonelective Contributions

The IRS has come up with some new rules to “ease the pain” of these dire economic conditions and has issued some proposed regulations allowing employers to reduce or suspend their 401(k) or 403(b) safe harbor nonelective contributions mid-year in the case of a “substantial business hardship described in section 412(c) [of the Internal Revenue Code].” The IRS notes in the preamble to the proposed regulations (in today’s Federal Register) that the new rules will “provide an employer an alternative to the option of terminating the employer’s safe harbor plan in such a situation” (i.e. better to ease the rules a bit, than have employers ditch the plans altogether in an attempt to get rid of the mandatory contribution). There is a 30-day advance notice requirement and a requirement that employees be allowed to change their salary deferral elections in order to take advantage of the new rules.

Please note the following regarding the proposed effective date of the new rules:

These regulations are proposed to be effective for amendments adopted after May 18, 2009. Taxpayers may rely on these proposed regulations for guidance pending the issuance of final regulations. If, and to the extent, the final regulations are more restrictive than the guidance in these proposed regulations, those provisions of the final regulations will be applied without retroactive effect.

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