October 3, 2002
COMPANY BANKRUPTCY AND PENSION PROTECTION
By: John Moran, Associate Analyst
You asked whether the law protects employees' retirement funds when their company goes bankrupt and particularly (1) is the pension interest or investment earnings also protected, and (2) can employees remove their money from the pension plan before age 55 without penalty if the employer goes bankrupt.
The federal Employee Retirement Income Security Act of 1974 (ERISA) protects employee pension funds when a company goes into bankruptcy. But ERISA does not govern whether a pension plan continues to operate after a bankruptcy. It depends on the individual plan policy whether a particular pension plan continues or if all accrued benefits are paid out.
Interest or earnings on pension money is protected if under the particular plan it is considered part of the pension assets available to pension participants. Similarly, whether an employee may remove their pension assets from a pension without penalty before age 55 also depends upon the policy of that individual plan. ERISA requires pension benefits to be paid out at normal retirement age, usually 65, but it does not require that pensions make the money available at 55 or any other earlier age in bankruptcies.
ERISA AND EMPLOYER BANKRUPTCY
ERISA sets minimum standards for private employers who choose to offer pension and other benefit programs, such as health insurance plans, to their employees. It does not require that employers provide pensions. Pensions may be defined benefit plans (traditional company pensions that provide a specified monthly amount at retirement) or defined contribution plans (individual pension accounts made up of contributions and investment gains and losses such as 401(k) or profit-sharing plans).
ERISA also preempt's state laws regarding private employee pension and welfare plans (see Office of Legislative Research report 2002-R-0670).
ERISA requires that the parties administering the pension plan (the fiduciaries) act solely in the interest of the plan participants and beneficiaries, and it makes these parties personally liable to restore plan losses made through the improper use of assets. An overview of ERISA is provided on the federal Department of Labor's (DOL) web page: http: //www. dol. gov/dol/topic/retirement/erisa. htm.
The law includes specific requirements on how pensions funds are held, which becomes especially important when a company declares bankruptcy. Pension funds should not be at risk when a company goes bankrupt because ERISA requires that (1) pension plans be properly funded to meet promised benefits and (2) pension money be kept separate from the company's business assets and held in trust or in some other separate means. Holding the pension separately should protect it from creditors in a bankruptcy proceeding.
While ERISA sets minimum standards for pension plans, many of the important provisions such as the level of benefits and what happens in case of a bankruptcy are left up to the employer and are detailed in the pension summary plan description, a document ERISA requires to be distributed to all employees and plan participants. ERISA also requires the employer to uphold any plan obligations stated in the summary plan description. U. S. DOL advises plan participants, especially in bankruptcy cases, to become familiar with their summary plan descriptions.
Bankruptcy can take two forms: (1) reorganization under Chapter 11 of the federal bankruptcy code, or (2) liquidation under Chapter 7. Usually under Chapter 11 the company remains in business under court protection while it attempts to resolve its financial problems. A Chapter 11 may or may not affect the company's pension or health plan. Sometimes the existing pension plan continues under Chapter 11.
Under Chapter 7, it may depend on whether the existing pension plan addresses what will happen in the event of a bankruptcy. For example, while ERISA protects the money in the pension fund, a bankruptcy can lead to the plan termination, which in turn could mean accrued benefits will be paid out.
In the Enron Corp. case, the DOL took action to remove the company from administering its employee pension plans. Enron filed for Chapter 11 last year. Earlier this month a federal bankruptcy court approved an agreement between Enron and DOL appointing Boston-based State Street Bank and Trust Company as the new independent fiduciary in charge of three employee pension plans. The deal removed several Enron administrative committees as the fiduciaries. DOL's Pension and Welfare Benefits Administration (PWBA) is investigating Enron for possible ERISA violations.
Pension Benefit Guaranty Corporation
If a defined benefit pension plan (traditional company retirement) is terminated because the employer has financial problems and cannot fund the plan, then the Pension Benefit Guaranty Corporation (PBGC), a government corporation formed under ERISA, will assume responsibility for the plan. The PBGC pays benefits after termination up to a certain maximum amount. Defined contribution plans (such as 401(k) plans) are not insured by PBGC.
DOL's PWBA enforces ERISA and its web page provides specific information on how employer bankruptcy can affect pensions: http: //www. dol. gov/pwba/pubs/bkrupfs. htm.