If a merger or acquisition is in your company’s future, or your client company’s future, here’s something to add to the due diligence list: How will the buyer handle the seller’s qualified retirement plans?
A critical aspect of any merger or acquisition—and one that sometimes remains unexamined until late in the deal process—is the handling of qualified retirement plans. According to a practice note from Thomson Reuters’ Practical Law:
“Typically, the structure of the transaction will determine what approach the parties take regarding their qualified retirement plans and associated liabilities. However, there are certain circumstances where the liabilities or obligations associated with these plans are so great that their existence determines the structure of the deal. For example:
- A target that is a contributing employer to a multiemployer plan and is potentially subject to significant (or difficult to determine) withdrawal liability as a result of the transaction may require a stock deal.
- A buyer that cannot gauge the extent of the liabilities associated with the seller’s plans during the due diligence process may require an asset sale so that it can negotiate responsibilities for the liabilities and protect itself against unknown future liabilities.”[1]
In general, buyers can assume sellers’ qualified retirement plans, merge sellers’ plans into the buyers’ plans, require the seller to terminate its plans (as a condition of closing), or require the seller to freeze its plans. The decision can be made on a case-by-case basis or a blanket solution can be implemented.
One of our clients typically requires companies it is acquiring to terminate their plans before the acquisition can be completed. The blanket solution was adopted, in part, because many companies’ qualified retirement plans have poorly maintained participant data. And that can make it more difficult to terminate a plan after an acquisition closes.
According to the Department of Labor (DOL), terminating a plan is a business decision not governed by ERISA, so a company is not acting in a fiduciary capacity when it determines the future of its qualified plan(s). However, once the decision has been made, the plan’s administrator or, in some instances, another party dons the fiduciary hat and proceeds to terminate the plan while acting on behalf and in the best interests of participants. [2]
One requirement is that plan administrators notify all participants of the changes taking place, and request and receive distribution instructions from all participants. The quality of plan data can have a significant effect on these communications if plan administrators discover that a significant number of participants are missing or non-responsive. Former employees may have changed residence or marital status and failed to notify the employer.
Mark Sweatman of Risk Compliance Performance Solutions has estimated that 10 to 15 percent of a typical defined contribution plan’s participant data has some type of issue, making it difficult to contact all participants.
The DOL and IRS require terminating 401k plans to distribute assets as quickly as administratively feasible. The time frame permitted, typically, is within one year after plan termination. Otherwise, the plan is considered to be an ongoing plan and must continue to meet qualification requirements.
Fortunately, there are options for plan sponsors when participants cannot be found. The DOL’s Field Assistance Bulletin (FAB) 2014-01 states that administrators of terminating plans can choose to rollover assets to individual retirement accounts (IRAs), interest-bearing bank accounts, or a state’s unclaimed property fund.
Automatic rollovers to an IRA are the DOL’s preferred distribution option because interest bearing bank accounts may not keep pace with inflation, and escheatment means a participant’s assets may be claimed by the state. In addition, IRA rollovers are more likely to preserve former participants’ funds than any other option because the assets remain tax-deferred, and any earnings continue to grow tax-deferred, according to FAB 2014-01.
IRA rollovers appeal to plan sponsors, too, since they make it possible for plan fiduciaries to preserve missing and non-responsive participants’ assets in tax-advantaged accounts, and make it possible for plan sponsors to successfully terminate qualified plans before a merger or acquisition is completed. These benefits have made rollovers an invaluable part of the termination process for qualified retirement plans.
Terminating a plan is a way to handle sellers’ qualified retirement plans during M&A. Before deciding on an approach, buyers should work with ERISA counsel and complete thorough due diligence to identify potential risks and liabilities, compliance issues that may be expensive to correct, and any other plan issues. Once due diligence has been completed, buyers can formulate a strategy for managing the seller’s plans.
Terry Dunne is Senior Vice President and Managing Director of Retirement Services at Millennium Trust Company, LLC. Dunne has over 35 years of extensive consulting experience in the financial services industry. Millennium Trust Company, LLC acts as a directed custodian, and does not provide tax, legal, or investment advice.
1 Practical Law Employee Benefits & Executive Compensation, Qualified Retirement Plans in Mergers and Acquisitions (Thomson Reuters/Westlaw, 2017)
2 U.S. Department of Labor, Meeting Your Fiduciary Responsibilities .February, 2012
Before retirement, Terry Dunne was the senior vice president and managing director of Retirement Services at Millennium Trust Company, LLC. Mr. Dunne has over 40 years of consulting experience in the financial services industry. He has written extensively on retirement planning, industry trends, technology, and legislation. Millennium Trust performs the duties of a directed custodian, and as such does not sell investments or provide investment, legal or tax advice.
