Previously, we wrote about the First Circuit decision that a private equity fund constituted a “trade or business” under ERISA as amended by the Multeimployer Pension Plan Amendments Act (“MPPAA”). That dry description is actually very significant since it would mean that private equity funds and their other portfolio companies could be responsible for withdrawal liability, potentially in the millions of dollars, when a portfolio company withdraws from a multiemployer plan. Based on a recent District Court case in that same dispute, it may be even harder for private equity funds and their portfolio companies to escape liability, which could have implications for those companies and the companies that buy them.
By way of background, multiemployer pension plans are pension plans into which (as the name implies) many employers contribute pursuant to collective bargaining agreements. If a multiemployer plan is underfunded, and an employer withdraws, the plan is allowed to assess liability on that employer pursuant to a formula to help make up the underfunding. As we detailed previously, MPPAA imposes liability on any “trade or business” that is under “common control” with the withdrawing employer.
In prior iterations of this case, Sun Capital Partners had alleged that none of the three investing funds (Sun Fund IV, Sun Fund III, and Sun Fund III QP) was a trade or business since each was merely a passive investor. The First Circuit rejected this approach and applied an “investment plus” analysis (without giving much in the way of a standard) to Sun Fund IV based on certain economic benefits it received in connection with the management of the portfolio company by its affiliated advisors that were different from benefits a merely passive investor would usually receive. However, it remanded the case back to the District Court to determine if the other funds were also trades or businesses.
It turned out that the facts on which the First Circuit relied were twisted around and it was actually Sun Fund III and Sun Fund III QP that received economic benefits. However, that turned out not to matter to the District Court.
As noted above, most of the analysis by the courts had been focused on the “trade or business” prong, but the District Court, on remand, also examined whether the Sun Funds were under “common control.” On its face, based on corporate formalities, the answer was no. Sun Fund IV owned 70% of the ultimate parent of the withdrawing company and the other two funds together owned 30%. None of them owned the requisite 80% necessary to be treated as a parent entity under the “common control” test. The Sun Funds actually admitted that they kept their ownership percentage below 80% specifically to avoid withdrawal liability.
However, looking at actions of the Sun Funds, the Court concluded that the Sun Funds had formed a partnership-in-fact. The Court found that the Sun Funds created an ultimate parent LLC to invest in the withdrawing company and, prior to investment, engaged in joint activity leading to the two funds’ decision to coinvest. These actions were sufficient, under the Court’s analysis, to form a partnership-in-fact. The fact that their organizing documents disclaimed any intent to form a partnership was not sufficient to overcome the Court’s view of the existence of the partnership. Further, given the First Circuit’s conclusion that an “investment plus” test should apply, it was easy for the District Court to conclude that the partnership was a “trade or business.”
The distinction is important because, as partners in a partnership invested in a withdrawing company, each Sun Fund would be liable for its proportionate share of the liability. This is because the partnership itself would be under “common control” with the withdrawing company (as a parent) and its liability would pass through to its partners.
Private equity funds should examine this decision closely. While this dispute may not be over, this precedent casts significant doubt on the long-standing position of private equity funds that they are not liable for the withdrawal liability of their underlying portfolio companies.
Acquirers of portfolio companies from private equity funds should also take note. If the funds are under common control with their portfolio companies, then under the applicable ERISA and tax rules, those portfolio companies could also be considered under common control with one another. This would mean a withdrawal liability in Portfolio Company A, for example, could be assessed against Portfolio Company B and Portfolio Company C. Depending on the structure of any sale of Portfolio Company B or C, that liability could follow the sold portfolio company to its new owner.
Unlike the 1967 film, Cool Hand Luke, where the prison warden delivers the above line shortly after giving a beating to prisoner Luke (Paul Newman) for making a sarcastic remark, employers may be worried about a beating from the IRS if they aren’t able to communicate with multiemployer health funds or staffing companies.
Under the Affordable Care Act (“ACA”), employers are required to report on the offers of coverage made to their common law employees. Employers have to provide statements to the employees on Form 1095-C and submit them to the IRS. The reporting includes data elements such as the months coverage was offered, the lowest cost premium for self-only coverage for each month, whether spouses and dependents are eligible, and confirmation that the plan is affordable and provides minimum value. The problem is this: if an offer of coverage is made on behalf of a staffing company or multiemployer plan, how will the employer have this information?
For employers participating in multiemployer plans, the rules allow the multiemployer plan to report on the employers behalf as described in Q&A-24 here. However, even if an employer goes this route, the fund will still need certain data elements from the employer, such as the employee’s compensation or the safe harbor that the employer is using to determine affordability under the ACA. So either way, communication is necessary. Additionally, there is no similar rule for staffing companies.
The key for employers is to work with their staffing firms and their multiemployer plans now to facilitate the transfer of necessary information to conduct the reporting. Staffing firms and multiemployer plans may or may not be aware of these reporting rules, or of the scope of data needed for reporting. If they aren’t, they will need some lead time to be able to assemble the data in time for reporting in early 2016. Employers will also need some lead time to integrate the data they receive into their reporting systems.
At the moment, the IRS has not provided any relief for a reporting failure due to the inability to get the information from a multiemployer fund or staffing company. Such relief would be welcome, but it appears unlikely at this point, so employers would be well-advised to get working on this soon.
They’re here! The 2015 IRS plan limitations arrived a full week earlier than last year. Most of the limitations have been adjusted upwards. See the chart below (after the jump) to see the new limits as well as a summary of the limits over the preceding three years. (more…)
In a decision issued on January 15, the Supreme Court clarified that a pending motion for attorney’s fees does not prevent a judgment on the merits from becoming final for appellate purposes under 28 U.S.C. §1291, even when those fees are contractually provided for.
Ray Haluch Gravel Co. v. Central Pension Fund of the International Union of Operating Engineers & Participating Employers involved the timeliness of an appeal of a judgment against an employer in an ERISA case. The employer was sued by a union for failing to make contributions, required under a collective bargaining agreement, to various benefit funds. The agreement included a provision requiring the employer to pay any attorney’s fees incurred by the union in collecting payments owed to the benefit funds.
The district court entered judgment on the merits, awarding the union far less than it had requested, and more than a month later issued another order awarding attorney’s fees pursuant to the agreement. The union appealed the judgment on the merits, but waited until after the district court entered its fee award to do so.
On appeal to the First Circuit, the employer contended that the union’s appeal was untimely, as it had not filed its notice of appeal until almost two months after the entry of the merits judgment. Although the Supreme Court had held in Budinich v. Becton Dickinson & Co., 486 U.S. 196 (1988), that outstanding petitions for attorney’s fees do not prevent judgments from becoming final for §1291 purposes, the union argued that this rule was inapplicable as the fees claimed were contractual and not statutory. The First Circuit adopted the union’s position, 695 F.3d 1 (1st Cir. 2012), in line with precedent from the Third, Fourth, Eighth, and Eleventh Circuits, but thereby deepening a circuit split with the Second, Fifth, Seventh, and Ninth Circuits.
The Supreme Court granted certiorari and in a unanimous opinion reversed the First Circuit, conclusively establishing that pending fee petitions—whether derived from statutory or contractual rights—do not prevent a merits judgment from becoming final for §1291 purposes.
Because the circuit courts have no jurisdiction to consider untimely appeals, Ray Haluch Gravel Co. has immediate practical consequences in the circuits that had previously adopted the position rejected by the Court.
In Revenue Ruling 2013-17, the Internal Revenue Service provided clear guidance to define “spouse” for all purposes under the Internal Revenue Code. A “spouse” includes a same-sex spouse whose marriage is recognized by the state in which the marriage occurred. Use of this “state of celebration” rule will greatly simplify employee benefit plan administration for employers. However, the IRS indicated in this guidance that it will provide more direction on the impact of this definition on employee benefit plans.
How Did the IRS Define the State of Celebration Rule?
These are the bottom line holdings from the IRS guidance, which apply for all purposes under the Internal Revenue Code:
- The terms “spouse,” “husband and wife,” “husband,” and “wife” include an individual married to a person of the same sex if the individuals are lawfully married under state law, and the term “marriage” includes a marriage between individuals of the same sex.
- A marriage of same-sex individuals that was validly entered into in a state whose laws authorize the marriage of two individuals of the same sex will be recognized for Federal tax law purposes even if the married couple is domiciled in a state that does not recognize the validity of same-sex marriages. For example, same-sex marriage is not recognized in Missouri. However, a same-sex couple that marries in Iowa but lives in Missouri will be considered married for Federal tax purposes because the marriage is valid in Iowa where the marriage occurred.
Are Domestic Partnerships, Civil Unions or Similar Arrangements Considered Marriage?
No. For purposes of Federal tax laws, the IRS guidance is clear that these types of relationships are not considered marriage. Marriage for Federal tax law purposes does not include a registered domestic partnership, civil union, or other similar formal relationship recognized under state law that is not denominated as a marriage under the laws of that state, and the term “marriage” does not include such formal relationships.
What Does This Mean for Employee Benefit Plans?
The IRS indicated that it will issue additional guidance to address this issue. However, in the meantime, employers should begin to address the impact of this guidance on the taxation of benefits and the administration of spousal benefits under their plans. Here’s a brief issue list:
- Qualified Plans – Retirement plans are required to provide spousal death benefit protections. A same-sex spouse must receive these mandated spousal benefits. Administration of retirement plans should conform to this new definition of spouse immediately.
- Review definition of spouse in your plans. Amendments may be required to conform to this new guidance. We suspect that the next wave of IRS guidance may provide a retroactive amendment period and provide additional guidance on how to craft these amendments.
- Issue a new Summary Plan Description or Summary of Material Modifications. Amendments to the plans will likely require changes to the summary plan descriptions. Participants should be timely advised of the changes.
- Beneficiary Designations. In light of these changes, consider a campaign to have participants review and update beneficiary designations. The campaign could include information on this law change. For example, an employee who has a same-sex marriage must have the consent of his spouse to designate someone else, such as a child, as the beneficiary of his 401(k) account.
- Cafeteria Plans – Additional IRS guidance should provide more information on how cafeteria plans should be amended and administered. There are plan administration changes that should be implemented now.
- For purposes of paying premiums for health benefits for a same-sex spouse, the premiums may be made on a pre-tax basis. If your plan extends coverage to same-sex spouses, employees in a same-sex marriage should be permitted to pay for the coverage on a pre-tax salary reduction basis just as employees in opposite sex marriages do. Applying this change mid-year in 2013 may be challenging. However, efforts should be made to comply as soon as possible. This includes stopping the imputing of income outside a cafeteria plan on premiums paid by an employee for same-sex spousal coverage.
- Claims for reimbursement of medical care expenses for a same-sex spouse may be permitted under health flexible spending account plans.
- When applying the rules regarding reimbursements under a dependent care assistance plan, a same-sex spouse should be recognized.
- Health Savings Accounts – A same-sex spouse will be recognized for purposes of determining eligibility to contribute and the contribution limit. This may catch some employees off guard since a marriage will be recognized retroactively. Additional guidance on this issue would be welcomed.
Open enrollment would be a great time to start educating employees on these issues and adjusting employer payroll and benefit administration systems. If that opportunity is passed, communication with employees on these issues may have to occur when new summary plan descriptions or summaries of material modifications are issued. Stay tuned for more information on this fast-developing area.
On July 24, 2013, in a case of first impression (Sun Capital Partners III LP vs. New England Teamsters & Trucking Indus. Pension Fund, No.12-2312), the First Circuit held that a private equity fund was a “trade or business” under ERISA as amended by the Multiemployer Pension Plan Amendment Act (“MPPAA”), and thus potentially liable for withdrawal liability incurred by its portfolio company if that company was under common control with the fund.* The court applied an “investment plus” test and found that the private equity fund was not merely a “passive investor” but had sufficient management and operational involvement with its portfolio company so as to make it a trade or business.
Sun Fund IV and Sun Fund III (collectively, the “Sun Funds”) are two funds held by private equity firm Sun Capital Advisors, Inc. Together, the Sun Funds held 100% of the interests of Scott Brass, Inc. and planned to turn around the struggling company within two to five years and sell it. Scott Brass contributed to a multiemployer pension plan. When declining copper prices created a credit crisis about a year and half after its purchase by the Sun Funds, Scott Brass ceased making its required contributions to the pension plan, and was forced into Chapter 11 bankruptcy. Withdrawal liability for Scott Brass was assessed in the amount of $4.5 million, and the pension fund demanded payment from the Sun Funds, which prompted the Sun Funds to seek a declaratory judgment in Massachusetts federal district court that they were not “trades or businesses” under common control with Scott Brass and therefore could not be liable.
The MPPAA imposes liability on an organization other than the organization that is required to contribute to the pension fund only if two conditions are met: the organization must be under common control with the organization required to contribute, and the organization must be a “trade or business.” The district court issued summary judgment in favor of the Sun Funds, finding that they were not “trades or businesses” because they do not have employees or offices and do not report income other than investment income on their tax returns.
There is a dearth of guidance from the Pension Benefit Guaranty Corporation (“PBGC”) on the definition of “trade or business” – so much so that the court lamented, “(w)e express our dismay that the PBGC has not given more and earlier guidance on this ‘trade or business’ ‘ investment plus’ theory to the many parties affected.” No regulations have been issued, and the sole guidance is a 2007 opinion letter in which the PBGC applied a two-part test to determine if a private equity fund is a “trade or business” that could be subject to withdrawal liability. The two elements of the so-called “investment plus” test are whether the fund was engaged in an activity for the primary purpose of making a profit, and whether it conducted the activity with continuity and regularity. The fund that was the subject of the PGBC letter was determined by the PBGC to be a trade or business because the fund had a profit motive and met the continuity and regularity prong due to the size of the fund, the size of its profits and management fees paid to the general partner.
Although the First Circuit found that the PBGC opinion letter was due a limited amount of deference, it essentially disregarded it, employing its own “investment plus” standard in determining whether a private equity fund was a “trade or business.” The court explained that the “plus” portion of the analysis was very fact-dependent, with no one factor being dispositive.
The court noted that the Sun Funds had extensive activity in the management and operation of Scott Brass, Inc., as confirmed in the language of the funds’ partnership agreements (a “principal purpose of the partnership is the management and supervision of its investments”). Employees of Sun Capital Advisors, Inc. “exerted substantial operational and managerial control over Scott Brass,” attending company meetings during which Scott Brass employees were hired and the company’s capital expenditures and possible acquisitions were discussed. Sun Capital Advisors employees were also included in email chains regarding liquidity, revenue growth and potential mergers. Employees of Sun Capital Advisors, Inc. held two of the three director positions at Scott Brass.
Another crucial factor that led the court to conclude that Sun Fund IV was a trade or business was that it was able to offset management fees that it would have otherwise paid its general partner to manage the investment in Scott Brass. This was a “direct economic benefit” to Sun Funds IV that the court noted would not have been available had Sun Fund IV been a passive investor. The court remanded to the district court the question as to whether Sun Fund III was a trade or business due to its inability to determine from the record whether Sun Fund III received an economic benefit from this offset. The court also remanded for a determination as to whether the Sun Funds were under common control with Scott Brass.
The court’s opinion also addressed a policy argument made by the Sun Funds, that Congress never intended this type of result, wherein business owners would be required to “dig into their own pockets” to cover withdrawal liability for a portfolio company. In response, the court wrote, “We recognize that Congress may wish to encourage investment in distressed companies by curtailing the risk to investors in such employers of acquiring ERISA withdrawal liability. If so, Congress has not been explicit, and it may prefer instead to rely on the usual pricing mechanism in the private market for assumption of risk.”
This case serves as an effective admonition to an acquirer that is considering the purchase of 80% or more of the interests in a company which contributes to a multiemployer plan or maintains an underfunded defined benefit plan. Before consummating such a transaction, the acquirer should carefully consider the extent to which other entities in the acquirer’s controlled group might be held liable for any underfunding of the multiemployer or single employer plan.
*The MPPAA requires employers withdrawing from a multiemployer pension fund to contribute a share of the fund’s unfunded but vested pension liability.
Internal citations have been omitted from this article.
Among many other things, the MOVING AHEAD FOR PROGRESS IN THE TWENTY-FIRST CENTURY ACT (“MAP – 21″), which became law last month, changes the minimum funding rules for single-employer defined benefit pension plans. Your actuary can help to determine the effect of these changes on your company in the short and long run.
Background. Since 2001, the IRS has published rates for determining minimum contributions for each month. These rates are based on the prior month’s current short-, medium- and long-term corporate bond yields. Until enactment of MAP-21, a plan could either apply the current month’s full yield curve or use a smoothing technique that blends the rates published over the prior 24 months. In the current low interest rate environment, these rules require very high minimum contributions. This has been mitigated so far by means of short-term patches.
What MAP-21 does. MAP-21 gives longer-term relief by permitting use of rates based on 25-year averaging. There is no change in the plan sponsor’s overall funding obligation, but now the obligation can be spread over a longer time period.
How the new rules work. A plan can still use the IRS’ current yield curve with no averaging. For plans that use the averaged rates, MAP-21 creates a collar for the minimum and maximum rate in each range (short, medium and long), based on a 25-year average of the IRS published rates, as follows:
After 2015 70%-130%
If a 24-month rate is lower than the low end of the 25-year collar for the rate for a year, the rate at the low end of the collar applies, and if a 24-month rate is higher than the high end of the collar for the rate for a year, the rate at the high end of the collar applies. If a 24-month rate falls within the collar, it is not adjusted. The 25-year collar gets wider from 2012 through 2016, and the wider it gets, the more likely that the 24-month rates are to fall within it.
Knock-on effects. The new methodology affects only calculation of minimum contributions and the plan actuary’s annual certification of the plan’s funded status (AFTAP Certification) used to determine whether there are restrictions for a year on lump sum distributions, annuity contract purchases, future benefit accruals and shutdown or other unpredictable contingent event benefits.
The new methodology does not apply to calculation of minimum and maximum lump sum benefits, maximum deductible contributions, calculation of the amount of excess pension assets that can be applied to purchase of retiree health and life insurance benefits, the plan sponsor’s financial reporting obligations or the plan’s PBGC reporting obligation under ERISA section 4010. The new methodology does not apply to calculation of PBGC variable premiums, but it will affect the amount of PBGC variable premiums because lower current contributions result in higher unfunded liabilities and higher PBGC variable premiums, which will be made even higher by increase in the variable premium rate over the next few years under other provisions of MAP-21.
Required participant disclosures. Some underfunded plans will have to include information in their annual participant disclosures for plan years beginning in 2012, 2013 and 2014, comparing the funded status of the plan under the new rules and the prior rules, including a table showing the differences.
Effective dates. These changes are generally effective for plan years beginning in 2012 and later. Plan sponsors have some flexibility with respect to application of the new rules in the plan year beginning in 2012 and whether to apply the blended rate or the current rate.
IRS and DOL guidance required. Since the IRS has published the monthly rates only since 2001, it will have to develop those rates for the prior 13 years in order to calculate the 2012 25-year average. It will also have to provide guidance on plan sponsor elections regarding use of the new method for 2012 and other transition issues.
The DOL is required by the statute to include language in its model annual disclosure notice addressing the new requirements that apply to underfunded plans.
Other MAP-21 changes that affect pension plans. Other MAP-21 changes that affect single-employer defined benefit pension plans are extension of the ability to fund retiree health benefits from excess pension assets through 2021, addition of the ability to fund retiree group term life insurance benefits from excess pension assets, increase in PBGC premiums and PBGC governance reform, including appointment of an ombundsman. Multiemployer plans will be affected by their own PBGC rate increases and the PBGC governance changes.
Update 8/17: IRS Notice 2012-55 providing guidance on the above-described changes has been released and is available here.
Update 9/11/12: IRS Notice 2012-61 on pension funding stabilization has been released. In addition, PBGC Technical Update 12-1 addresses the effect of MAP-21 on PBGC premiums and PBGC Technical Update 12-2 addresses the effect of MAP-21 on 4010 reporting for pension plans.
In a recent decision, the Sixth Circuit Court of Appeals upheld an indemnification of multiemployer plan withdrawal liability in an collective bargaining agreement.
In the case, the employer and labor union had bargained that the union would indemnify the employer for any withdrawal liability from the multiemployer plan. The union, however, subsequently disclaimed its representation of the employees. As a result of that disclaimer, the union was no longer the exclusive bargaining representative of the affected employees and the collective bargaining agreement terminated. As a result, the employer effected a withdrawal from the multiemployer pension to which it had been obligated to contribute and incurred a substantial withdrawal liability.
It so happened that the pension fund in question was the Central States Southeast and Southwest Areas Pension Fund, which is known to have had funding problems for some time. When the pension fund assessed withdrawal liability on the employer, the employer sought indemnification from the union. Upon a challenge on the enforceability of that indemnification provision, the court upheld the provision reasoning that it was analogous to purchasing fiduciary liability insurance, which is expressly permitted under ERISA Section 410.
While this case may be unique on its facts, it may prove helpful to contributing employers to multiemployer pension plans who wish to have the labor union they are negotiating with share some or all of the pain of a withdrawal liability from a multiemployer plan. The holding could also potentially be used to support passing along surcharges or other costs of multiemployer plan participation to the union, assuming the union is willing to agree. Employers entering into union negotiations should consider whether this protection (or something like it) is worth pursuing.
Department of Labor regulations provide that deductions for an employee’s wages are assets of an ERISA fund as soon as these amounts can be segregated from the employer’s general assets. While no similar regulations exist regarding unpaid employer contributions, a recent district court case concluded that case law has developed the following general rule in the context of a multiemployer plan: “unpaid employer contributions are not assets of a fund unless the agreement between the fund and the employer specifically and clearly declares otherwise.” West Virginia Laborers’ Pension Trust Fund v. Owens Pipeline Service LLC, S.D.W.Va., No. 2:10-cv-00131, Nov. 18, 2011 (citing ITPE Pension Fund v. Hall, 334 F.3d 1011, 1013 (11th Cir. 2003)).
In the Owens case, the defendant, the company president and sole shareholder of the corporation, decided to make payments on a piece of equipment instead of making contributions to four multiemployer pension plans. Four pension trust funds sued claiming he was a fiduciary and personally liable for the missed contributions, which the funds argued were plan assets. The pension trust agreement stated that contributions “due and owing” to the fund were considered to be plan assets. While the defendant argued otherwise, the judge found the “due and owing” language mirrored several similar district court decisions in which the unpaid contributions were deemed to be plan assets. The judge held the agreement clearly provided “that once the various contributions were ‘due’ to the funds based upon the number of hours worked by union employees, the employer ‘owed’ the money and the money was a plan asset.”
What does this mean for employers? An employer which is delinquent in its contributions could be liable under ERISA for failing to timely remit assets to a plan. In addition, the individuals who control corporate resources may also be held personally liable under ERISA’s fiduciary provisions since they may be deemed to be controlling plan assets. Employers should review their plan and trust documents for the “due and owing” or similar binding language before halting employer contributions to an employee benefit plan. Employers should also be aware that some courts construe plan assets even more broadly. For example, the Tenth Circuit views a contractual right to unpaid contributions as a plan asset, regardless of the language in plan documents. See In re Luna, 406 F.3d 1192 (2005).