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Employee Benefits

Employee Benefits Developments January 2010

January 27, 2010

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RULINGS, OPINIONS, ETC.

IRS Issues 409A Document Correction Program

New guidance issued January 4, 2010, permits employers to correct certain inadvertent documentation errors in their nonqualified deferred compensation arrangements without incurring a penalty under Internal Revenue Code Section 409A (409A). Under a special transition rule, Notice 2010-6 provides that if certain plan document failures are corrected by December 31, 2010, no current income tax or penalties will be imposed on affected participants. More limited correction relief applies to corrections made after 2010. The Notice generally permits the correction of certain plan provisions without penalty or current income inclusion so long as the corrected provisions do not affect the operation of the plan within a one-year period following the date of correction. Reduced penalties may apply under other circumstances. The Notice also clarifies that certain commonly used but ambiguous terms, such as a statement that payment will be made “as soon as reasonably practicable” after a permissible payment event, generally will not automatically result in a violation of 409A. The Notice provides important guidance and a key opportunity for employers to review their nonqualified plans and arrangements one more time in 2010 to ensure that the documents are fully compliant with 409A, and, if amendments are necessary, to minimize or eliminate potential 409A penalties.

US DOL Issues New ARRA Premium Subsidy Notices

As we reported in our January 5, 2010, Client Alert, the Department of Defense Appropriations Act, 2010 (2010 DOD Act):

• extended the American Recovery and Reinvestment Act (ARRA) premium subsidy to COBRA enrollees who are involuntarily terminated after December 31, 2009, and on or before February 28, 2010,
• extended the premium reduction eligibility period from a maximum of 9 months to a maximum of 15 months, and
• retroactively eliminated the requirement that both the involuntary termination and the COBRA start date occur during the window period (September 1, 2008, through February 28, 2010); under the 2010 DOD Act, an individual   may qualify for premium assistance if the involuntary termination occurs by the last day of the window period even if COBRA would begin after that date.

To comply with the 2010 DOD Act, plans must once again revise their COBRA notices. On January 14, 2010, the U.S. Department of Labor (DOL) published three model notices containing the information needed to satisfy the content requirements for ARRA’s notice provisions, as modified by the 2010 DOD Act. They are:

Premium Assistance Extension Notice
The Premium Assistance Extension Notice is designed for use by plans and other entities that are subject to federal COBRA or state mini-COBRA. It is designed to serve as notice of the extension of the premium assistance from 9 to 15 months for the following individuals:

• Assistance-eligible individuals (AEIs) who were receiving premium assistance as of October 31, 2009, and
• Individuals who become AEIs or lost coverage as a result of a termination-of-employment qualifying event (voluntary or involuntary) on or after October 31, 2009, who were not provided an ARRA COBRA election notice updated for the 2010 DOD Act

As a general rule, the Premium Assistance Extension Notice must be provided by February 17, 2010. However, AEIs who were receiving premium assistance as of October 31, 2009, but whose 9-month COBRA subsidy period expired before December 19, 2010, must be provided the notice no later than January 30, 2010.

This notice also serves to notify individuals in a “transition period” of their new right to make a retroactive, reduced payment. An individual’s transition period begins immediately after the end of the maximum number of months of premium reduction available under ARRA prior to its amendment (i.e., 9 months).These are individuals who have received the full 9 months of premium assistance provided under ARRA and either did not make any payment for subsequent periods of coverage, paid less than the full premium, or made a payment of the full unsubsidized premium.

The Premium Assistance Extension Notice advises that if an individual dropped coverage following the end of the 9-month subsidy period and is otherwise eligible for premium assistance (i.e., the individual is not eligible for group health coverage or Medicare), he or she will have an extended grace period in which to make retroactive subsidized payments for coverage periods that begin after the 9-month subsidy period was exhausted. The subsidized premium must be paid by the latest of (a) February 17, 2010, (b) 30 days after the Premium Assistance Extension Notice is provided, or (c) the end of the otherwise applicable grace period.

On the other hand, if an AEI continued COBRA and paid one or more unsubsidized premiums, the plan may either (a) refund the excess payment or (b) credit the excess payment against future premiums provided. It is reasonable to assume that the credit will be provided within 180 days.

Example: Sue started COBRA on March 1, 2009, and received premium assistance through November 30, 2009, the full 9 months. Sue’s transition period began December 1, 2009. Therefore, Sue must be provided the Premium Assistance Extension Notice by January 30, 2010. If Sue discontinued COBRA coverage effective December 1 because she could not afford to pay the unsubsidized premium, Sue would need to be given the right to reinstate coverage by paying premiums retroactively for December and January. If Sue had continued to pay the COBRA premium at the full rate for the months of December and January, she would be entitled to a credit against future COBRA premium payments or a refund as applicable.

Updated General COBRA Election Notice
The DOL has updated the earlier ARRA model COBRA election notice to include all of the information related to the premium reduction and other rights and obligations under ARRA, as amended by the 2010 DOD Act. Plans subject to federal COBRA must provide this notice to all qualified beneficiaries who experienced any qualifying event (18-month and 36-month qualifying events) at any time from September 1, 2008, to February 28, 2010, if:

• They have not yet been provided a COBRA election notice or
• They have been provided a COBRA election notice that was not  ARRA-compliant with the law before the changes made by the 2010 DOD Act.

The Updated General COBRA Election Notice does not need to be provided to individuals who are provided the Premium Assistance Extension Notice.

According to the DOL, the Updated General COBRA Election Notice must also be provided to any qualified beneficiary who experienced a termination of employment during December 2009 if the individual did not become eligible for COBRA until January 2010, even if the individual was already provided a COBRA election notice. According to the DOL, the individual would have a new 60-day election period running from the date the new notice is provided.

Example: In December 2009, Sue experienced a qualifying event that was a termination of employment. If elected, her COBRA coverage would begin January 1, 2010. The plan provided Sue the earlier version of the ARRA COBRA election notice which correctly noted that under ARRA, before the amendments made by the 2010 DOD Act, Sue could not be an assistance eligible individual because her COBRA start date was after December 31, 2009. The DOL believes that Sue (and all others who are similarly situated) must be provided an updated COBRA election notice that is fully compliant with the premium subsidy provisions as amended by the 2010 DOD Act. In addition, according the DOL, the plan must afford Sue a new 60-day election period which would run from the date the updated COBRA election notice is provided.

Updated State Law Notice
Plans and insurers that are not subject to federal COBRA but who are subject to state mini-COBRA must send the Updated State Law Notice to individuals who experience a qualifying event under state law on or before February 28, 2010, including individuals whose qualifying event occurred before the enactment of the 2010 DOD Act (December 19, 2009). Continuation coverage requirements vary among states, so the notice will need to be modified to conform to the requirements of applicable state law.

Investment Advice Regulations Delayed

Controversy continues to follow the statutory provisions adopted in the Pension Protection Act of 2006 (PPA) that permit investment advice to be given to 401(k) plan participants in directing the investment of a participant’s plan account. The statute provides an exception under the prohibited transaction rules to allow plan fiduciaries or other service providers to provide investment advice to participants that might typically give advice on investments in which the advisor has a direct or indirect financial interest. The statutory provisions, adopted in 2006, anticipated regulatory action by the DOL. The DOL completed a set of proposed regulations prior to the installation of the new federal administration in 2009. A set of final regulations was published January 21, 2009, but the regulations never went into effect. Implementation of the regulations was then postponed by the new administration. In a release published in the Federal Register on November 20, 2009, the DOL has withdrawn the January 2009 regulations and has further delayed implementation of the investment advice rules. It is now expected that the department will repropose a new regulation. The statute and the regulations must achieve a delicate balance involved in opening the door to plan service providers to the captive audience of plan participants and establishing operational protections and disclosures to preclude service providers from enhancing their own income. The regulatory safeguards and disclosure requirements are intended to make participants aware of the inherent conflicts of interest that exist in most situations. Delays in completing the regulations mean that widespread investment advice will not be generally available in most 401(k) plans for some time. (DOL EBSA Notice, 74 Fed. Reg. 60156, November 20, 2009)

IRS Extends Certain PPA Amendment Dates

In Notice 2009-97, the Internal Revenue Service (IRS) extended the deadline for making certain amendments under the PPA. The amendment deadline was moved from the last day of the plan year beginning in 2009 to the last day of the plan year beginning in 2010. This limited extension relates to certain areas where IRS guidance either has not been finalized or where final regulations were only recently issued. For example, in Announcement 2009-82, the IRS extended the effective date for future final regulations dealing with the interest crediting rates for cash balance and other hybrid plans to be the first day of the plan year beginning in 2011. Under regulations to be finalized, cash balance and other hybrid plans may not credit interest at an “above market” rate. The IRS has yet to finalize these regulations, and therefore an extension of the effective date was necessary. Notice 2009-27 coordinates this delayed effective date to postpone the date for any amendments that might be required under final regulations. Also, the requirement to amend a plan for the funding benefit restrictions under Internal Revenue Code § 436 was also postponed because the regulations were not finalized until the later part of 2009. Plan sponsors should carefully monitor the developments to be certain that any required amendments are timely adopted in the 2010 plan year.

Final Regulations Issued Under § 204(h) Notice Rules

The IRS has issued final regulations regarding certain notices that must be provided under ERISA § 204(h) for amendments that reduce benefits under the terms of a pension plan. The final regulations primarily address issues raised by certain law changes under the PPA. The revised regulations except from the requirement to issue an advanced notice certain changes that are required changes under PPA that may reduce benefits under pension plans. Sponsors of pension plans should carefully consider whether any required law changes would reduce benefit accruals under a plan and consider whether a § 204(h) notice is required in order to make it operationally effective. (T.D. 9472; 74 Fed. Reg. 61270)

CASES

Recent “Anti-Cutback” Rulings

In a series of recent rulings, various courts around the country decided cases involving ERISA’s “anti-cutback” rule, which generally prohibits plans from reducing or eliminating a participant’s accrued benefit by plan amendment. Under that same rule, a plan may not permit the employer, through the exercise of discretion, to deny a participant a protected benefit to which the participant is otherwise entitled. In each of the following cases, the courts found that the plan change at issue did not result in a violation of the anti-cutback rule.

In Tasker v. DHL Retirement Savings Plan (D. Mass. 2009), a federal district court addressed an issue of first impression when it ruled that the defendant/plan sponsor did not violate ERISA’s anti-cutback rule by implementing a plan amendment that eliminated the right to transfer funds between the defendant/plan sponsor’s defined benefit and defined contribution plans. The plaintiff/employee was a participant in the defined contribution and defined benefit plans of a company acquired by the defendant/plan sponsor. Under the terms of the acquired plans, the defined contribution benefit reduced the benefit received under the defined benefit plan, but participants were permitted to transfer their defined contribution funds to the defined benefit plan so they could maximize their combined benefit. Following the acquisition, the defendant/plan sponsor merged the acquired plans into the defined benefit and defined contribution plans of the defendant/plan sponsor. In connection with the plan mergers, the option allowing a transfer of funds between plans was eliminated by the defendant/plan sponsor. The plaintiff/employee sued and claimed the plan amendment eliminating the right to transfer benefits between the plans would result in a reduction of his expected combined benefit under the plans because he could no longer execute transfers that would maximize benefits. The court disagreed and granted the defendant/plan sponsor’s motion to dismiss. In support of its decision, the court pointed to Treasury regulations interpreting the anti-cutback rules that specifically allow plans to eliminate provisions permitting the transfer of benefits between and among defined contribution plans and defined benefit plans, regardless of whether the elimination results in a reduced participant benefit.

In Thomas R. Wetzler v. Illinois CPA Society & Foundation Retirement Income Plan (7th Cir. 2009), the defendant/plan sponsor was found not to have violated the anti-cutback rules when it amended its defined benefit plan to make it clear that highly compensated employees could not receive lump sum distributions when the plan is not adequately funded. The plaintiff/employee claimed the amendment was an impermissible cutback of a previously available form of benefit (i.e., a lump sum distribution) when the plan amendment was adopted. Because the plan was underfunded and a lump sum distribution is not allowed under relevant Treasury regulations, the plaintiff/employee, as a matter of law, was not entitled to a lump sum distribution at the time it was requested. An amendment that does not render anyone ineligible for benefits for which he or she was previously eligible does not violate the anti-cutback provision. Accordingly, the plan amendment did not eliminate an “optional form of benefit” and did not violate ERISA’s anti-cutback provision.

Finally, in Anderson v. Suburban Teamsters of Northern Illinois Pension Fund Board of Trustees (9th Cir. 2009), the plaintiff/participant, among other things, claimed that a 1999 amendment to the pension fund in which he was a participant was improper because the amendment resulted in a reduced disability pension benefit that violated the anti-cutback rules. The pension fund provided disability benefits for employees who became “totally and permanently disabled.” Agreeing with similar rulings made in the Second, Sixth, and Eleventh Circuits, the Ninth Circuit Court of Appeals concluded that ERISA specifies that a plan is a welfare plan “to the extent” that it provides “benefits in the event of . . . disability.” The court also concluded that the “to the extent” language in the statute evidences Congress’s intent that the welfare plan definition encompass any portion of a plan in which the employee’s disability triggers the right to the benefit. Accordingly, the court held that the plaintiff/participant’s disability retirement pension under the pension fund is not subject to the anti-cutback rule because it is an employee welfare plan benefit.

Court Permits “Scrivener’s Error” Correction in Enforcement Action

A traditional defined benefit plan, providing monthly annuity benefits to retirees, was converted to a “cash balance” plan in 1995. While a cash balance plan is a form of a defined benefit plan, the cash balance structure normally allows lump sum distributions, and it defines its benefit primarily in the form of a cash lump sum. The conversion of this particular plan into a cash balance plan was evidenced by a written plan document that unfortunately contained some drafting errors. The plan sponsor discovered the errors in 1997 and corrected them in 1998 without notifying participants. In 2005, a lawsuit was commenced by a participant to enforce the erroneous provisions. Use of the improperly drafted cash balance provisions would increase the claimant’s benefit by over $400,000. For all potential claims based on the erroneous provisions, the increased benefits would have cost the plan nearly $1 billion spread among 6,000 participants. Because a pension plan must generally be administered “in accordance with” written plan documents, the plan sponsor argued that the drafting errors, or “scrivener’s errors,” could be reformed through the equitable powers of the court to avoid paying the unexpected benefits to participants. The plan administrator had viewed the relevant plan language as erroneous, and the plan was never administered or communicated to participants based on the increased benefit levels that could be interpreted under the pre-1998 plan terms. In a lengthy decision, the Federal district court declined to enforce the plan error and permitted a reformation of the scrivener’s error through its equitable power. (Young v. Verizon’s Bell Atlantic Cash Balance Plan) (N.D.Ill. 2009)

Failure to Notify Participants of a Plan’s Provision Makes the Provision Unenforceable

The U.S. District Court for the Southern District of Illinois held that a cash balance pension plan’s forum selection amendment could not be enforced because the plaintiff employees were not given timely notice of the clause. In this case, a group of participants brought a federal lawsuit against the plan sponsor claiming that the sponsor had violated ERISA anti-cut back and anti-discrimination provisions when the plan was converted from a defined benefit plan to a cash balance plan. The plan sponsor moved to have the lawsuit transferred to the U.S. District Court for the District of Minnesota based on the fact that the plan contained a forum selection clause that required all ERISA lawsuits to be filed in the District of Minnesota. Although the clause was added to the plan in January 2009, the plaintiff employees were not notified of the change until May 2009, after their lawsuit had been filed. In denying the plan sponsor’s motion to transfer the case to Minnesota, the court reasoned that enforcement of the forum selection clause under such circumstances would be “manifestly unjust.” This case highlights the importance of distributing summary plan descriptions, summary of material modifications, and other participant communications in a timely fashion. Until plan participants are informed of a plan’s provisions, a court may find those provisions unenforceable. (Mezyk v. U.S. Bank Pension Plan, S.D. Ill. 2009)

Voluntary Insurance Policy Offered Through Cafeteria Plan Subject to ERISA

The U.S. District Court for the Southern District of Georgia held that a cancer insurance policy, endorsed by the plaintiff’s deceased husband’s employer, was governed by ERISA and should be tried in federal court. In this case, a plaintiff filed a breach of contract claim in state court against an insurance company when the insurance company denied her claim for benefits. The defendant insurance company removed the case to federal court, asserting that the plaintiff’s claim was preempted by ERISA. The U.S. District Court for the Southern District of Georgia denied the plaintiff’s motion to remand the case back to state court.

Generally, welfare plans are governed by ERISA and subject to federal jurisdiction. However, under a DOL safe harbor regulation, group insurance is not considered an ERISA plan if (1) the employer does not make contributions to the plan, (2) participation in the plan is voluntary, (3) the employer does not endorse the plan (the employer’s only functions are to permit the insurer to publicize the plan and to collect premiums through payroll deductions and remit them to the insurer), and (4) the employer does not profit in connection with the plan beyond reasonable compensation for remitting payroll deductions.

In this case, the court held that the cancer insurance policy did not meet the DOL’s safe harbor requirements because the employer endorsed the program. The employer failed to maintain sufficient neutrality in its involvement with the insurance plan because the employer did more than simply allow the insurer to publicize the program and collect premiums. In addition, the employer determined eligibility for the program based on the number of hours worked, acted as plan administrator, and maintained a cafeteria plan with the single function of allowing participants to pay for their cancer insurance premiums on a pre-tax basis. Also, the plan documents distributed to employees referenced the employees’ rights under ERISA.

In addition to finding that the safe harbor provision did not apply, the court held that the insurance policy is part of an ERISA plan because it was “established” by the employer to provided beneficiaries benefits through an insurance policy. The court noted the same factors (i.e., determining eligibility, acting as plan administrator, and setting up a single benefit cafeteria plan) in determining that the cancer insurance benefit was established by the employer and therefore is an ERISA plan and subject to federal jurisdiction. Employers offering voluntary benefits to employees should be careful when allowing employees to pay for those benefits on a pre-tax basis. Although it is not clear how a court would rule if there were other pre-tax benefits available under the cafeteria plan, such employer involvement may cause an otherwise voluntary non-ERISA plan to become an ERISA plan. Being an ERISA plan, employers would be required to comply with ERISA’s reporting and disclosure rules. (Lee v. Liberty National Life Ins. Co., S.D.Ga. 2009)