Employee benefit plans are often an afterthought in a business transaction. Consider your options before closing the deal.
What happens to the employee benefit plan in an entity acquisition, merger, or business closure? Many times it is an afterthought. So what should the buyer and seller consider in relation to benefit plans prior to a merger or termination?
Both buyer and seller have options during a transaction in terms of how it impacts the employee benefit plan. Plan sponsors should consider notification requirements and be aware of anti-cutback rules when going through the plan transition process, and an understanding should be reached before the transaction is finalized so that both parties understand their responsibilities to their plans.
Identifying the best option before your transaction
Employee benefit plans are often handled in three different ways during a merger, acquisition, or business closure:
- The surviving entity elects to become the sponsor of plan.
- One plan merges into the other, with the post-merger entity sponsoring the resulting plan.
- An election terminates all or some plans and pays out benefits to employees. If one plan is terminated, all post-merger employees are permitted participation in the continuing plan, or both plans may terminate and start a new benefit plan for the post-merger entity. This may also result in no benefit plan being offered in the post-merger entity.
Accepting the risk of acquired plans
When two plans are merged, the emerging entity must determine if it will accept the risks of the acquired company’s plan. Due diligence should be completed on the plan to explore fiduciary issues. Compliance and qualification errors should be given a particularly close examination. If such defects are found, they must be thoroughly understood to determine the extent of the liabilities.
If the prior plan’s issues are not addressed, they will most likely become the responsibility of the surviving entity. This could result in obligations to fund unexpected costs. In an asset purchase transaction, the plan remains the responsibility of the prior entity, but in this case the plan may become orphaned or sponsorless if there are no employees remaining at the prior entity.
Employee morale should also be considered. Employees may expect certain benefits, and changing the structure may cause a morale issue, particularly if there are differences across locations or divisions. Communication to employees regarding the changes expected in the benefit structure, or structuring the benefits for a period of time that is most beneficial to both groups, can help bridge the morale gap.
Even if a plan is terminated, the Internal Revenue Service (IRS) has the ability to audit a qualified plan back three years. Thus, records (e.g., payroll, demographic, etc.) should be maintained to support plan operations, benefits, and compliance matters, including a favorable plan termination letter.
Properly filing the final Form 5500
A recent IRS Employee Plans Compliance Unit (EPCU) project noted errors when filing the final Form 5500 for terminating plans. The EPCU noted instances where plan sponsors erroneously marked the Form 5500 as final prior to all assets being distributed, filed more than one final Form 5500, or failed to mark the final filing as a short plan year return if the period covered in the filing was less than 12 months.
A final Form 5500 should not be filed for the terminated plan until all assets have been distributed from the plan, and the final Form 5500 shows a zero balance for ending assets. The final Form 5500 is due seven months after the date of termination or merger and may accelerate the filing deadline for terminated or merged plans. In a merger, the merging plans can report the transfer out and transfer in on the effective date of the merger on the respective Form 5500s, rather than the date the assets actually transferred, because the merger date is the legal date the prior plan is terminated.
Locating lost plan participants
When a plan is terminated or orphaned, it may be difficult to locate some employees with benefits under the plan if they left the firm many years ago and have not provided their updated address. Locating lost participants and paying out benefits can be time consuming and costly. The Department of Labor (DOL) provides guidance for a fiduciary in locating lost participants in a defined contribution plan in Field Assistance Bulletin No. 2014-01. Steps include sending a notification via certified mail, checking records of related employers for contact information, inquiring with a beneficiary of the missing participant, and using free electronic search tools. It also provides distribution options when a terminated plan cannot locate a participant.
How we can help
Acquisitions, mergers, or termination transactions are complicated, and there are many employee benefit plan choices and considerations to navigate. Care should be taken to document the decisions and outcomes of the benefit plan. CLA’s employee benefit professionals audit more than 2,500 plans across the country and can help discuss the impact your merger or acquisition may have on your plan’s operations, and consult and develop a plan that meets the needs of all entities involved.