PBGC Proposes Changes to Participant Notice Penalties

By Peter S. Alwardt and Alan Jacobs

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Under ERISA section 4011, certain underfunded defined benefit plans are required to issue a notice to participants regarding the plan’s funding status and the limits on the PBGC’s guarantee. The participant notice is designed to ensure that participants understand the financial status of their plans and the potential consequences of underfunding on their promised benefits.

Current Penalties

Under ERISA section 4071 and the related regulations, the PBGC may assess a penalty of up to $1,100 per day for certain failures to provide notices or other material information in a timely manner, including failure to provide a participant notice. The penalty is assessed against the plan sponsor, and may not be paid from plan assets.

In 1995, the PBGC established a penalty policy with guidelines on penalty amounts, facts-and-circumstances adjustments on those amounts, and penalty waivers for reasonable cause. The PBGC issued a proposed rule in 2001 to codify the 1995 penalty policy. The proposal maintained the 1995 guidelines and provided additional guidance on whether there is “reasonable cause” that would justify a waiver of penalties.

Proposed Penalty Policy

Based on its experience in enforcing the participant notice requirements, the PBGC has reconsidered the 2001 proposal. The PBGC has concluded that penalties should be tied primarily to the number of plan participants rather than to the number of days a notice is delinquent, because the significance of a delinquent notice increases with the number of plan participants affected. Accordingly, the PBGC has issued a supplemental proposal regarding the delinquency of participant notices that still allows for facts-and-circumstances analyses to ensure that the penalty fits the violation.

Under the proposed policy, the penalty equals the number of participants in the plan multiplied by the applicable per-participant information penalty rate. The per-participant rate depends upon whether the failure is a repeat violation and whether the correction is related to a PBGC audit.

If the correction is made on or before the date that the PBGC issues written notice that it is or may be auditing compliance with the participant notice requirements, the per-participant information penalty rate would be $5 ($20 for repeat violations). If the correction is made afterwards, the per-participant information penalty rate would be $40 ($100 for repeat violations).

If the plan administrator corrects the violation within one year after the participant notice was originally due, the PBGC would prorate the penalty based on the number of days before correction, regardless of whether the correction was pre- or post-audit. Thus, the formulas would be as follows:

• One year or more: Number of participants x per-participant penalty rate
• Less than one year: (Number of participants x per-participant penalty rate) x (Number of days late/365).

Although the PBGC provides for a reduction in the penalty for failures of less than one year, it will not increase the penalties for corrections made after a year.

Participant count. The PBGC generally uses the number of plan participants that is used for premium payment purposes for the plan year for which the participant notice is required. Accordingly, participant count is normally the number of participants on the last day of the prior plan year. The PBGC may make an appropriate adjustment if this participant count is significantly higher or lower than the number of persons entitled to receive the participant notice.

Repeat violations of notice requirement. A repeat violation occurs when failure to issue a participant notice for a plan year occurs after the date the plan administrator knows, or should have known, that there was notice failure for a previous plan year that was not de minimus. The PBGC would disregard a failure for any of the following:

• A plan year more than six years before the one in question;
• A 2002 or 2003 plan year, provided the 2002 or 2003 participant notice failure meets the requirements for penalty relief under the PBGC’s voluntary compliance program (VCP); and
• A pre-2002 plan year, except where there is a 2002 or 2003 participant notice failure covered by the VCP that does not meet the requirements for penalty relief under that program.

Valid corrective notice. Corrections prior to a PBGC audit would be valid if the PBGC determines that the notice serves the statutory purposes of the notice requirement. The PBGC proposes a correction safe harbor under which the notice would be valid if it included, in addition to the information required in the delinquent notice, all information required in all later notices that were due on or before the corrective notice is issued, and if it was issued to the persons entitled to receive the most recent notice that was due on or before the date the corrective notice was issued.

If the plan was not required to issue a notice for a particular plan year, the safe harbor would apply just as if the plan had been required to issue the notice for that year. Although the PBGC would like corrections to be made as soon as possible, it recognizes that plan administrators may choose to combine a “safe harbor” corrective notice and a required participant notice in the same document. The PBGC would not treat such a document as violating the notice requirement in ERISA regulations section 4011.10(d), which states that additional information may be included only if it is in a separate document.

For corrections made in conjunction with a PBGC audit, the corrective participant notice would be valid only if the PBGC approves it.

Penalty adjustments. The PBGC would decrease the penalty when there is a partial failure to comply with the participant notice requirements, other than the late issuance of an otherwise valid notice. The penalty would be increased when the PBGC determines upon audit that there was a failure to comply with the notice requirements and the plan administrator does not promptly issue a corrective notice approved by the PBGC. This “upward adjustment” is expected to be significantly higher than the regular penalty.

Applicability

This participant notice penalty policy would apply to participant notices for 2004; 2002–2003 notices that do not meet the penalty relief requirements under the PBGC’s VCP; and pre-2002 notices when there is a 2002 or 2003 notice failure that is covered by the VCP but that does not meet the program’s requirements for penalty relief.

The PBGC will not enforce the new policy until the final version becomes effective (at least 30 days after it is published in the Federal Register). The PBGC intends to apply a transition rule for failures that start before the effective date of the new policy that are corrected no later than one year after that effective date, including delinquencies corrected before the new penalty policy becomes effective. For these delinquencies, the guideline penalty amount would be the lesser of the amount calculated under the current policy and that calculated under the new policy.

In an economic environment that has recently seen defined benefit plan funding issues, this new enforcement initiative underscores the PBGC’s efforts to ensure that plan participants are apprised of any funding problems. Plan sponsors that fail to provide the requisite participant notices should be aware of this new enforcement policy and the availability of the PBGC’s VCP.