[60] costs (which accounts for the bulk of the level amortization payments required under the bill in the early years) must be contributed to a qualified pension plan. Therefore, the committee believes that 30-year amortization will not hamper an employer in starting a new plan, or in adding a plan amendment, that includes past service costs.

Plan amendments.-The committee bill provides that plan amendments that create substantial changes in past service costs are to be treated in the same manner as in the case of past service costs of new plans for purposes of the minimum funding rules. To establish an objective standard for "substantial" (for this purpose only), the bill provides that these are additional past service costs attributable to plan amendments which increase past service cost by at least 5 percent (at the time of amendment). Under the minimum funding rule these costs are to be amortized (separately) over a 30-year period from the date the amendment is adopted (even if this precedes the date on which benefits increase). Smaller plan amendments are to be amortized over the same period as experience losses (see next section below). For example, where the unfunded accrued past service cost existing at the time of an amendment is $1,000,000, if the unfunded accrued past service cost added by an amendment is $100,000 (which is more than 5 percent of $1,000,000), the employer is to amortize this increase in past service cost in 30 annual payments of $6,854 (assuming an interest rate of 6 percent and that contributions are made at the beginning of each plan year).

Plan amendments which decrease past service costs (by decreasing plan benefits) are treated consistently with plan amendments increasing benefits; that is, those amendments which result in a decrease of 5 percent or more (at the time of amendment) are to be amortized over not less than 30 years. If the decrease is less than 5 percent, the decrease is to be amortized over the same period as experience gains. Consequently, the minimum amortized annual payments that must be contributed by an employer who decreases plan benefits generally will not be less, in any one year, than amortized payments required for an employer who started out with a plan providing the same (lower) benefits. (Of course, a decrease in benefits will usually decrease the normal cost which must be funded annually.)

Experience losses and gains.—During the course of a pension plan, actual plan experience often turn out to be poorer than anticipated. For example, the value of plan assets may turn out to be less than expected. Where this occurs, there will be an "experience loss" which must be funded if the plan is to pay the benefits owed. The committee's bill provides that under the minimum funding rule these losses are to be amortized (with level annual payments, including principal and interest) over not more than 15 years from the date the deficiency is determined, or over the average remaining service life of the plan participants if this is a shorter period.

The committee believes that a 15-vear amortization period generally will provide adequate funding of experience losses, while at the same time protecting emplovers from potentially harsh financial burdens arising from uncontrollable events. However, where the average remaining service life of the participants is shorter than 15 years, the committee believes that it is appropriate for experience losses to be

[61] funded over the shorter period, to be sure that the plan will accumulate assets at a sufficiently rapid rate to provide the plan benefits.

The 15-year period will prevent discrimination against pension plans such as "final pay plans" which increase accrued benefits as pay increases, and thus are generally desirable from the employer's view. Under final pay plans, an unexpected increase in pay can cause an experience loss that significantly increases plan costs. On the other hand, plan costs increase much less under other types of plans which are less favorable to the employees, such as career average plans. If a short period of time were required to amortize experience losses, it is feared that employers may be given a substantial incentive to shift out of final pay plans, to the detriment of their employees. However, the committee understands that with 15-year amortization, employers generally will not tend to avoid using final pay plans.

Additionally, it is believed that under the 15-year requirement employers will not be subject to unnecessary financial burdens where they have experience losses beyond their control. For example, if a plan is almost fully funded (with a high ratio of assets to liabilities), decreases in the market value of plan assets could require very substantial increases in employer contributions if the decrease in value were to be amortized over less than 15 years. With this same longer run point of view the committee concluded that short-run fluctuations in market value are not likely accurately to reflect the long-range value of the assets. As a result, the bill provides that, in determining experience deficiencies, plan assets are to be valued by using a moving average over 5 or fewer years. The 5 year moving average is discussed below.

A pension plan also may have experience gains during the course of its operation. These gains would occur because experience is more favorable than anticipated. For example, the value of plan assets may be greater than expected. The bill treats experience gains symmetrically with experience deficiencies, so that gains are spread over no less than 15 years from the date they are determined (or average remaining work life, if shorter).

The bill provides that changes in accrued plan liabilities resulting from changes in actuarial methods and assumptions are to be treated as experience losses (or gains). Generally, assumptions are only changed to reflect differences between assumptions and experience. Additionally, the bill provides that changes in plan cost that result from changes in the Social Security Act (or other retirement benefits created by State or Federal law) or in the definition of wages under section 3121 of the Code are treated as experience losses (or gains).

Waiver of funding requirements.-At times an employer's financial circumstances may prevent him from meeting the minimum funding requirements. The committee does not believe that in such a situation an employer should be forced to abandon his plan. To deal with cases of this type the bill provides that upon a demonstration by the employer of substantial business hardship, the Internal Revenue Service may waive all or part of the minimum funding requirements for a year, including normal costs, amortization of past service costs and amortization of experience losses. However, to limit the underfunding which may occur in cases of this type, the bill provides that

[62] the Service may not waive all or part of the funding requirements for more than five years (whether or not consecutive) in any ten-year period. Also, the Service may not waive amortization of previously waived contributions.

In determining whether a waiver should be granted, the committee contemplates that substantial business hardship generally will only occur in situations where the employer did not foresee, and could not reasonably have been expected to foresee (at the time the plan or plan amendment which gave rise to the liability in question was established), the event which causes the business hardship. The committee contemplates that the Service will grant a waiver of funding normal cost only in unusual situations and will make a separate determination for each instance of waiving normal costs. Additionally, the committee expects that only in rare situations will the Service waive normal cost for more than one or two plan years based on the same business hardship.

The committee intends that in all cases the Service will condition a waiver of funding requirements by providing that the employer may not amend any plan in a way that would increase plan liabilities as long as there are any unfunded waived contributions outstanding under any of his qualified plans. (However, the committee contemplates that regulations will provide that an employer may reduce waived liabilities at a rate faster than that provided by the minimum funding requirements.) It is also expected that in considering whether a waiver should be granted, the Service will weigh as a factor against the waiver any recent plan amendment (i.e., within three years before the request for waiver) that increases plan liabilities; however, as a condition of waiver the Service may require plan amendments that eliminate these previous recent increases in liabilities and is to condition the waiver on the absence of future plan amendments increasing liabilities until the amount waived has been paid with interest. If a plan were to violate a condition of waiver, the committee intends that the amount waived and not yet amortized immediately become part of the current minimum funding requirement in the year the condition is breached (consequently this amount would immediately be charged to the funding standard account).

The amount waived by the Service must be amortized in no more than 10 equal annual payments (including interest and principal), beginning the year after the year the waived contributions were due. If a shorter period were required, after several years of waiver an employer's total contributions could be so high that it would be quite difficult to meet this obligation, particularly if the employer were just returning to financial stability. The bill provides that the amortization of the amount waived may not itself be waived in subsequent years.

The committee's bill provides a special relief provision for multiemployer plans in existence on the date of enactment and established under a collective bargaining agreement. Under the bill, the Internal Revenue Service may allow a period greater than 30 years to amortize the past service costs of such a plan existing on the effective date. This extension of time may be given at the discretion of the Internal Revenue Service, upon a finding that two requirements are met. First, in

[63] the first year that the new funding requirements apply to the plan, these new requirements must require contributions to the plan to increase by more than 10 percent over the contributions that would have applied under present law (using the method for determining plan contributions used for the previous year). Second, for this special relief to be available, 30 year funding must be shown to impose a substantial business hardship upon a substantial portion of the employers contributing under the plan.

The Internal Revenue Service, upon finding that these two requirements are met, may allow amortization of initial past service costs over a period longer than 30 years to the extent that it is necessary to alleviate the substantial business hardship otherwise imposed on a substantial portion of the employers. The committee believes that a strong showing of hardship must be made for long extensions to be made available and it is intended that only rarely are amortizations of more than 45 years to be allowed. Furthermore, as is the case generally with waivers, the committee intends that if the plan is amended to increase plan liabilities during the period that the waived liabilities are unfunded, the waiver is immediately to terminate and the waived liabilities are to become a part of the current year's minimum funding requirements.

It is intended that applications for waiver be made before the last day for timely contribution of the amount in question, and be acted upon expeditiously by the Internal Revenue Service.

The funding standard account.-As previously indicated the committee's bill requires that each qualified defined benefit pension plan must maintain a funding standard account. The purpose of this account is to facilitate the determination of whether a plan has met the minimum funding standard. A plan will meet the minimum funding requirements only if, at the end of each plan year, the account does not, on a cumulative basis, have an excess of charges for all plan years over credits for all plan years. The account is to be charged each year with the normal costs for that year and with the minimum amortization of past service costs, experience losses, and waived contributions for each year. On the other hand the account is to be credited with the contributions made for the year, with amortized portions of cost decreases, resulting from plan amendments and experience gains, and with any waived contributions.

To determine if the plan meets the minimum funding requirements, the funding standard account is to be reviewed as of the end of a plan year. However, an employer may contribute to a plan after the end of his taxable year and up to the date of filing his tax return, and these contributions are to relate back to the previous taxable year. This should provide an employer with sufficient time to reconcile the funding standard account and make the contributions needed to avoid underfunding.

If the account has a positive balance at the end of the plan year, the employer will have contributed more than the minimum funding standard requires. Since the contributed amounts will earn income in the trust, the bill provides that the positive balance is to be credited with interest, which will reduce the need for future contributions to

3 As with the amortization requirements, the interest rate to be used is the interest used to determine plan costs.

[64] meet the minimum funding standards. On the other hand, if the funding standard account has a deficit balance, the employer will have contributed less than required under the minimum funding rules, and the deficiency is to be charged with interest. Interest is charged in this case because the deficiency will become larger over time by the amount of income the trust would have been earned had the minimum requirements been complied with and the employer will have to pay more to the trust than just the amount he failed to contribute in the plan

year.

An example of the operation of the funding standard account for a defined benefit pension plan is described below.

It is assumed that in 1978 the plan is established with a past service liability of $1 million and a normal cost of $70,000. The interest rate used to determine liabilities under the plan for 1978 and for all years in this example is 6 percent per year. In the first plan year, the employer contributes $138,537. The plan's funding standard account for 1978 will be as follows:

In the year 1979 the plan is amended, increasing past service liabilities by $100,000 (an increase of more than 5 percent of the past service cost existing at the time of amendment). The plan's normal cost for benefits as amended is $75,500. There is a net actuarial gain of $5,000 over the prior year, and the average remaining future service lifetime of plan participants exceeds 15 years. In this year, the employer's contribution is $165,975. The plan's funding standard account for 1979 will be as follows:

Amortization-initial past service cost---.

Amortization-past service cost from amendment (30 years)__

Total

Balance

Interest on balance_.

75, 500

68, 537

6, 854

150, 891

15, 570

934

Net balance____.

16, 504

In 1980 the normal cost of the plan is $76.200. There is an actuarial loss for the preceding year of $10,000 and the average remaining future service lifetime of plan participants exceeds 15 years. The

1 This assumes that all amounts other than interest are charged and credited at the beginning of the year.