IRS addresses transfer of excess pension plan assets

The IRS recently released a ruling (PLR 202230006) addressing the proper treatment of a transfer of a portion of excess assets from a defined benefit pension plan that is terminating to three ongoing defined contribution plans under Section 4980 (collectively, the “receiving plans”).

Section 4980(a) provides for a 20% excise tax on any reversion from a qualified retirement plan. An employer reversion is generally defined as the amount of cash and the fair market value of any other property received—directly or indirectly—by an employer from a qualified retirement plan. The excise tax is increased to 50% unless the employer either establishes or maintains a qualified replacement plan (QRP), or the terminating plan provides for certain benefit increases.

A QRP must meet certain conditions including, but not limited to: 

• Maintaining at least 95% of the active participants in the terminating plan who remain as employees of the employer after the termination as active participants in the QRP
• Transferring at least 25% of the total excess assets from the terminating plan to the QRP

To the extent the excess assets are transferred to a QRP, including assets in excess of the 25% minimum amount, the excess assets:

• Are not includible in the taxable income of the employer
• Are not deductible by the employer
• Are not treated as an employer reversion subject to either the 20% or 50% excise tax under Section 4980

In contrast, any excess assets received by the employer (i.e., not transferred to the QRP) would be subject to the 20% excise tax and includible in the employer’s taxable income.

The IRS ruled, among other things, that the three receiving plans collectively met the conditions to be treated as a QRP even though they did not separately meet the conditions. For example, each of the receiving plans had less than 95% of the active participants in the terminating pension plan, but collectively had at least 95% of the active participants in the terminating plan. Similarly, the total amount transferred to the three receiving plans would exceed 25% of the total amount of the excess assets of the terminating plan.

The IRS also addressed the allocation of the excess assets among the three receiving plans. The IRS explained that the excess assets would be allocated to three receiving plans based upon the projected future obligations for nonelective employer contributions under each of the receiving plans. In the case of QRPs that are defined contribution plans, the excess assets transferred must be either fully allocated to the participants in the year of transfer, or credited to a suspense account and allocated from such account to accounts of the participants in the QRPs no less rapidly than ratably over the seven-plan-year period beginning with the year of transfer (this latter method was the approach proposed in the ruling). The IRS ruled that this method of allocating the excess assets to each of the receiving plans was reasonable and consistent with the treatment of the receiving plans as a single QRP.

Contact: