Washington, D.C. – U.S. Senators Ben Cardin (D-MD) and Rob Portman (R-Ohio) sent a letter to U.S. Secretary of the Treasury Jacob Lew expressing concern with a regulation that could unintentionally weaken the retirement security of many American workers. This flaw undermines and runs counter to the original intent of the Treasury regulation—strengthening retirement security. Fortunately, Secretary Lew has the power to prevent the unintended consequences of this regulation without new legislation.
In the letter, Cardin and Portman, both members of the Senate Finance Committee, warn that this technical glitch might inadvertently incentivize companies to hard-freeze the defined benefit pension plan of long-time employees and urge Lew to fix it, stating, “This is clearly not the intended effect of the nondiscrimination rules, which were written to strengthen retirement security, rather than to force many older employees into new pension plans that may not provide enough time to accumulate sufficient benefits before retirement.”
The full text of the letter is below. Read a signed copy here.
November 21, 2013
The Honorable Jacob J. Lew
Secretary of the Treasury
Main Treasury Building, Room 3330
1500 Pennsylvania Avenue, N.W.
Washington, D.C. 20220
Dear Secretary Lew:
We write to request action concerning a Treasury regulation that could unintentionally weaken the retirement security of many American workers. The regulation in question was created in order to strengthen retirement security, so repairing this flaw would support the Treasury’s original intent. It’s a regulation that can be improved without new legislation.
Over the past several years, many companies have transitioned from defined benefit to defined contribution retirement plans. In doing so, many have elected to grandfather existing employees into the defined benefit plans in order to avoid disruptions and save them from having to build retirement savings in a new pension model mid-career. After “soft freezing” the existing pension plan, the company places new hires within a new defined contribution pension system.
Over time, the existing employees grandfathered into the old system typically build seniority and become more highly-compensated than the younger, newer employees who also are more likely to have greater job turnover. This widens the income gap between the two pension groups.
Unfortunately, soft freezes may cause plans to inadvertently violate a Treasury rule that requires qualified plans to meet certain nondiscrimination testing requirements. These requirements are intended to enforce a degree of pension benefit parity between higher- and lower-compensated employees. The split between having mostly higher-compensated employees in a defined benefit plan and mostly lower-paid employees in a defined contribution plan may trigger the nondiscrimination rules even if the level of pension benefits between the two groups is comparable. This is because current nondiscrimination rules do not adequately allow for the comparison between defined benefit and defined contribution benefits in these circumstances.
Companies failing their nondiscrimination tests risk losing their pensions’ qualified status, resulting in immediate taxation of their employees’ pension benefits. To avoid this expensive outcome, many companies feel compelled to instead implement a “hard freeze” that completely closes the defined benefit plan and forces all employees into the new plan.
This is clearly not the intended effect of the nondiscrimination rules, which were written to strengthen retirement security, rather than to force many older employees into new pension plans that may not provide enough time to accumulate sufficient benefits before retirement.
Some companies are already facing the prospect of triggering the nondiscrimination rules, and nearly every company that wishes to soft freeze its defined benefit plan will face this problem over the next several years. The sooner Treasury can implement a practical, non-regulatory solution to this issue, the sooner companies can avoid having to hard freeze their pensions when they would prefer a soft freeze.
We greatly appreciate your attention to this matter.