The Reorganization Test of ERISA 4041 Applies to Pension Plans in the Aggregate

Journal Issue

Sep 2006

Column Name

Code to Code

Citation

ABI Journal, Vol. XXV, No. 7, p. 26, September 2006

Topic Tags

Labor/Employment

Practice and Procedure

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The Third Circuit Court of Appeals in In re Kaiser Aluminum Corp. recently
issued an opinion addressing an important issue with respect to voluntary terminations
of pension plans under the Employee Retirement Income Security Act of 1974 (ERISA).
In In re Kaiser Aluminum Corp., No. 05-2695, 2006 WL 2061337 (3d Cir.
July 26, 2006), the court held that when a debtor seeks a distress termination
of multiple pension plans simultaneously under Title IV of ERISA, a bankruptcy
court should apply the reorganization test of ERISA §4041 to pension plans
in the aggregate rather than make a separate determination for each and every
pension plan. This decision is significant as a practical matter because debtors
may find it easier to terminate pension plans that are actually affordable.
As such, more workers will lose fully vested pension benefits and receive only
the benefits guaranteed under Title IV of ERISA. Further, this decision will
negatively impact the Pension Benefit Guaranty Corporation (PBGC) itself in
that it may trigger more plan terminations and thereby increase its financial
burden.
The PBGC 
Title IV of ERISA establishes a mandatory government insurance program for
defined-benefit pension plans that are administered and enforced by the PBGC,
a wholly owned U.S. government corporation established under 29 U.S.C. §1302(a).
The PBGC currently insures the pensions of 44.1 million American workers and
retirees in 30,330 private defined-benefit pension plans and is financed entirely
through premiums paid by plan sponsors, investment income, the assets of terminated
plans and recoveries from the sponsors of terminated plans.1
The PBGC guarantees the payment of certain, but not all, pension benefits.
The PBGC insures only defined-benefit pension plans.2 A defined-benefit
plan is one that promises to pay employees, upon retirement, a fixed benefit
under a formula that takes into account factors such as final salary and years
of service with the employer.3 Defined-benefit plans pay benefits
from a pool of assets, as opposed to defined-contribution plans (such as 401(k)
plans) that establish an individual account for each plan participant.4
There are two types of defined benefit plans: single-employer plans and multi-employer
plans. A single-employer plan is maintained by one contributing employer; multi-employer
plans are collectively bargained and maintained by two or more contributing
employers.

Voluntary Terminations under ERISA 
An employer/debtor can initiate a voluntary termination of its plan at any
time,5 unless its plan is collectively bargained (in which case modification
of the plan depends on the collective bargaining agreement and applicable labor
law). ERISA §4041 sets out the means for voluntarily terminating a single-employer
defined-benefit pension plan.6 Such a plan may be terminated in a
standard termination under ERISA §4041(b) or a distress termination under
§4041(c).7 A standard termination is a termination initiated
by the plan administrator (which is frequently the employer/debtor) in which
the employer/debtor's plan has sufficient assets to cover all the obligations
to the plan participants.8 A standard termination does not implicate
the PBGC's insurance function.9

A distress termination is a termination initiated by an employer with an underfunded
defined-benefit pension plan. If a terminating plan's assets are not sufficient
to cover all of a plan's benefit liabilities, the employer must demonstrate
that it is in financial distress. To meet this test, one of the following must
be met: (1) the employer must establish that it is liquidating through bankruptcy
or an insolvency proceeding; (2) the employer must establish that it is reorganizing
in bankruptcy or under a similar law, and the court has found that the reorganization
cannot succeed unless the pension plan is terminated (the reorganization test);
or (3) the PBGC must determine either that there is an inability to pay debts
when due and an inability to continue in business unless the pension plan is
terminated, or that pension costs have become unreasonably burdensome as a result
of a declining workforce.10
A distress termination implicates the PBGC's insurance function, unless the
plan is sufficient to cover all of the benefits guaranteed by the PBGC. When
a plan terminates with insufficient assets to satisfy all pension obligations
guaranteed by the PBGC, the PBGC takes over the plan's assets and liabilities.11
The PBGC then uses the plan's assets to cover what it can of the benefit obligations12
and must add its own funds to pay the remaining benefits guaranteed by the PBGC.13
In such instances, the PBGC will file claims relating to the asset shortfall
in the debtor/employer's bankruptcy proceeding and is often one of the largest
creditors.14
In re Kaiser Aluminum Corp.

In In re Kaiser Aluminum Corp., Kaiser and 25 of its affiliates were
debtors in a chapter 11 bankruptcy proceeding. As part of its reorganization,
Kaiser sought approval from the bankruptcy court to terminate six of its defined-benefit
pension plans through a distress termination. Under such circumstances, a prerequisite
to termination was that Kaiser satisfy one of the distress criteria under ERISA
§4041(c), in particular the reorganization test of ERISA §4041(c)
(2)(B)(ii). The issue before the bankruptcy court was whether a court should
apply the reorganization test to each pension plan independently (a plan-by-plan
analysis) or to all of the pension plans in the aggregate when a chapter 11
debtor seeks to terminate multiple pension plans simultaneously.
The PBGC acknowledged at the hearing that Kaiser satisfied the reorganization
test with respect to two (the KAP and inactive plans) of the six pension plans
even under a plan-by-plan analysis. These two plans were much larger than the
remaining pension plans and clearly imposed an unsustainable burden on Kaiser.
However, the combined, ongoing funding obligations for the four remaining pension
plans were insubstantial—less than 6 percent of the estimated $230 million
required to fund all of Kaiser's pension plans for 2004-09. The PBGC contended
that if a plan-by-plan basis was applied to these four plans on an individual
basis, rather than aggregating such plans with the burdensome KAP and inactive
plans, Kaiser could continue funding some or all of them and still emerge successfully
from chapter 11. Thus, under this plan-by-plan approach, Kaiser would not be
able to satisfy the reorganization test for the remaining four pension plans,
which therefore could not be terminated.
The bankruptcy court applied the reorganization test with respect to all six
of the pension plans in the aggregate and concluded that termination of these
plans was required for Kaiser to emerge from chapter 11. The PBGC appealed to
the district court, arguing that the bankruptcy court erroneously applied the
reorganization test to the six plans in the aggregate rather than on a plan-by-plan
basis. The district court affirmed the bankruptcy court's decision, and the
PBGC appealed.
On appeal, the PBGC contended that the bankruptcy court erred in not making
separate determinations as to whether Kaiser satisfied the reorganization test
with respect to each pension plan that Kaiser sought to terminate. In other
words, the PBGC argued that the bankruptcy court should have determined whether
the contributions required for each individual pension plan, considered independently
and without regard to the obligations under the other pension plans, jeopardized
Kaiser's ability to reorganize successfully. Further, the PBGC contended that
the text and the legislative history of ERISA required a plan-by-plan analysis.
To support its textual argument, the PBGC turned to several provisions of Title
IV of ERISA wherein Congress chose to use the terms "single-employer plan"
or "plan" in the singular, thus evidencing that Congress intended
to create a plan-specific statutory scheme to govern the single-employer plan-termination
insurance program. The PBGC urged the Third Circuit to conclude that Congress
intentionally defined the reorganization test in terms of a singular "plan"
and that this scheme reflected Congress's intent that a plan-by-plan analysis
should be implemented.15
The Third Circuit disagreed with the PBGC because such a "linguistic argument
makes too much out of too little."16 Further, the Third Circuit
concluded that Congress did not intend that its use of the term "plan"
in the singular would require a plan-by-plan approach to the reorganization
test because, as the statute is currently written, such an approach is unworkable
as a practical matter.17 This is because a plan-by-plan analysis
would require a court to make basic assumptions about the order in which the
plans should be considered and the status of the other plans that the debtor
is seeking to terminate, and ERISA conspicuously failed to provide any ground
rules with respect to how courts should employ a plan-by-plan analysis.18

The Third Circuit found additional support in the fact that a plan-by-plan
analysis would disrupt the bankruptcy courts in their traditional, equitable
role.19 Such an analysis would require a bankruptcy court to terminate
some pension plans while leaving the others in place, seemingly without a principled
basis on which it could make the determination, thereby treating some of a debtor's
workers unfairly and inequitably.20 In this instance, had the bankruptcy
court applied the reorganization test on a plan-by-plan basis, it would have
had to determine which of the six plans that Kaiser sought to terminate would
remain active.21 Ultimately, some of Kaiser's workers would receive
their full pension benefits as provided for under the pension plans that were
not terminated, while others in the terminated plans would receive only the
amount guaranteed by the PBGC.22
The PBGC also contended that the legislative history of ERISA required a plan-by-plan
analysis.23 It pointed to the enactment of the Single-Employer Pension
Plan Amendments Act (SEPPAA) in 1986 and the Pension Protection Act of 1987
(PPA), which severely restricted an employer's ability to terminate its pension
plans.24 The PBGC further contended that SEPPAA and PPA, taken together,
reflected a clear congressional purpose to limit distress terminations of pension
plans to instances where the employer is suffering "severe hardship."25
In addition, the PBGC argued that the purpose of these enactments was to reduce
the financial burden on the PBGC and increase the chance that a plan's participants
will receive their promised pension benefits.26 In the context of
applying the reorganization test, the PBGC argued that these objectives can
only be achieved by employing a plan-by-plan analysis, which prevents terminations
that are economically unnecessary.27

<blockquote>
<blockquote>
<h3 align="center"> Essentially, this decision may make it much easier
for debtors to terminate affordable pension plans that they would otherwise
maintain along with undesirable pension plans. Ultimately, more pensioners
may lose their promised pension benefits and receive only the benefits guaranteed
by the PBGC. </h3>
</blockquote>
</blockquote>
The Third Circuit rejected this argument, stating that the legislative history
was not persuasive support that Congress mandated a plan-by-plan analysis under
the reorganization test of ERISA §4041.28 The court found that
at most, the legislative history demonstrated that Congress had a general intent
to make it more difficult for employers to terminate pensions.29
The court also noted that this legislative history was hardly determinative
of whether, or how, the reorganization test should be applied in the context
of an employer that maintains more than one defined-benefit plan;30
the court viewed the absence of any such guidance in the text of ERISA as more
indicative of congressional intent that a plan-by-plan analysis should not be
employed.31

Practical Implications 
The Third Circuit's mandate that a bankruptcy court must apply the reorganization
test of ERISA §4041 to pension plans in the aggregate rather than make
a separate determination for each and every pension plan is significant as a
practical matter. This is because an aggregate analysis under the reorganization
test may make it easier for a debtor to terminate affordable pension plans that
they would otherwise maintain along with undesirable pension plans. This decision
has a negative impact on the employees and retired employees who are participants
in these plans in that it potentially subjects them to plan terminations that
are arguably economically unnecessary. Ultimately, more pensioners may lose
their promised pension benefits and receive only the benefits guaranteed by
the PBGC.
This decision may also negatively impact the PBGC itself. First, it may trigger
more plan terminations and thereby increase its financial burden. Second, the
PBCG, which is already experiencing the impact of a diminishing universe of
defined benefit plans, would not receive the mandatory premiums that these potentially
affordable pension plans pay to the PBGC to support the termination insurance
system overseen by the PBGC.
Conclusion
Given that the PBGC's reported deficit was $22.8 billion in 2005 and may balloon
with the possible transfer of pensions from some of the large airlines in bankruptcy
and the increasingly troubled automotive industry, it is making every effort
to reduce its exposure to unpaid pension obligations. In In re Kaiser Aluminum
Corp., the PBGC was unsuccessful with its argument that when a debtor seeks
a distress termination of its pension plans under Title IV of ERISA a bankruptcy
court should apply the reorganization test of ERISA §4041 to each pension
plan on an individual basis. Ultimately, this decision will assist debtor employers
in their attempts to offload affordable pension plans onto the PBGC and thereby
increase its financial burdens.
<blockquote>
<blockquote>  </blockquote>
</blockquote>

<hr>
<h3>Footnotes</h3>

1 Ass'n. of Flight Attendants-CWA, AFL-CIO v. Pension Ben. Guar. Corp.,
No. Civ.A. 05-1036ESH, 2006 WL 89829, at *4 (D. D.C. Jan. 13, 2006). 
2 See ERISA §4021(a) (West 2006). 
3 See ERISA §4021(a), (b)(1) and (c)(1) (West 2006).
 4 See ERISA §4002(35) (West 2006); see also Hughes Aircraft
Co. v. Jacobson, 525 U.S. 432, 439 (1999).

5 This section does not discuss the termination mechanisms for multiemployer
plans because the termination of a multiemployer plan is not a PBGC-insurable
event. 
6 See ERISA §4041(a) (West 2006). 
7 Id. 
8 See ERISA §4041(b) (West 2006). 
9 See Morse, Daniel J., "Does ERISA's Provision Governing the Termination
of a Pension Plan Preclude the Rejection of a Pension Plan Agreement in a Chapter
11 Case?," in 2005 Annual Survey of Bankruptcy Law 151 (William
L. Norton, Jr. ed., 2005).

10 See ERISA §4041(c)(2)(B). 
11 See Pension Ben. Guar. Corp. v. LTV Corp., 496 U.S. 633, 637
(1990). 
12 Id. (citing 29 U.S.C. §1344 (1990)).

13 Id. (citing 29 U.S.C. §§1301(a)(8), 1322(a)-(b)
(1990)). 
14 The PBGC's claim is for the total amount of the plan's unfunded benefit
liabilities—i.e., the amount by which the plan is insufficient
for both guaranteed and nonguaranteed benefits. It is then obligated to share
its recoveries with the participants who have lost nonguaranteed benefits. See
ERISA §4022(c) (West 2006). 
15 In re Kaiser Aluminum Corp., No. 05-2695, 2006 WL 2061337, at *7
(3d Cir. July 26, 2006).

16 Id. (quoting U.S. v. Fior D'Italia Inc., 536 U.S. 238,
244 (2002)). 
17 Id. at *8. 
18 Id. 
19 Id. at *10.

20 Id. 
21 Id. at *11. 
22 Id. 
23 Id. at *13. 
24 Id.

25 Id. at *14 (internal citations omitted). 
26 Id. 
27 Id. 
28 Id. 
29 Id.

30 Id. 
31 Id.

Journal Authors

Daniel James Morse

Journal Date

Friday, September 1, 2006 - 12:00