PBGC’s Early Warning Program

Marcia Wagner, founder of The Wagner Law Group, discusses how the Early Warning Program works and what will trigger it.

With last December’s update of its Early Warning Program (EWP), the Pension Benefit Guaranty Corporation (PBGC) suggested that credit deterioration and a downward trend in cash flow, or other financial factors, would trigger the EWP. But in May, the PBGC indicated that it had neither expanded the program nor changed its monitoring criteria or the processes involved. However, while a change in a plan sponsor’s credit quality does not trigger an EWP review, the PBGC generally does include credit quality, along with other information, as part of the analysis. With that said, how does the EWP work?

Q: What is the PBGC’s Early Warning Program? 

A: Although the PBGC first issued published guidance with respect to its Early Warning Program in 2000, in Technical Update 00-03, the EWP has existed since 1992. In 1995, the Kennedy School of Government and the Ford Foundation awarded the PBGC the Innovations in Government Award for the EWP.

The EWP is not explicitly authorized under the Employee Retirement Income Security Act (ERISA). However, under ERISA Section 4042(a)(4), the PBGC has the authority to involuntarily terminate a plan “whenever it determines that the possible long-run loss of the corporation with respect to the plan may reasonably be expected to increase unreasonably if the plan is not terminated.” Once the PBGC identifies a transaction that could jeopardize retirement benefits, and thus potentially adversely affect both plan participants and itself, it will meet with corporate representatives to negotiate additional contributions or security for their underfunded pension. It attempts to reach an agreement that takes both the PBGC’s concerns and the plan sponsor’s specific circumstances into account. If an agreement cannot be reached, the PBGC can file a complaint in district court under ERISA Section 4043 to involuntarily terminate the plan.

Q: What are the screening criteria for the EWP? 

A: The screening criteria have changed over time. In 2000, these were either: 1) a below investment-grade bond rating and a pension plan that had a current liability in excess of $25 million, or 2) the company, regardless of its bond rating, sponsors a pension plan that has current liability in excess of $25 million and an unfunded current liability in excess of $5 million. The current monitoring criteria reference a participant count of 5,000 or more and an underfunding threshold of $50 million or more. Both the participant count and the underfunding monitoring are determined on an aggregate controlled group basis.

Q: What types of business transactions trigger the EWP, and in each case what is the reason for the PBGC’s concern? 

A: The PBGC is particularly concerned about transactions that may substantially weaken the financial support for a pension plan. These transactions include:

1)       A breakup of a controlled group, including a spin-off of a subsidiary – When a controlled group is split up, a plan may remain with or be transferred to a financially weaker sponsor or a sponsor may be weakened by separation from the controlled group;

2)       A transfer of significantly underfunded pension liabilities in connection with the sale of a business – In the case of a controlled group breakup, a plan may be left with or transferred to a weaker sponsor or controlled group;

3)      A leveraged buyout involving the purchase of a company using a large amount of secured debt – The plan sponsor’s debt service requirements may make it difficult for the firm to afford to maintain its pension plan, in which event the risk of loss to plan participants and the PBGC is increased. The PBGC is particularly concerned about leveraged buyouts because the new debt is secured by company assets and will have priority over unsecured obligations such as pension funding obligations and a claim by the PBGC for underfunding;

4)      A major divestiture by an employer, which retains significantly underfunded pension liabilities – The remaining business assets may not generate sufficient revenue to be able to afford the plan;

5)      A payment of extraordinary dividends – A plan sponsor that uses its free cash flow or debt proceeds to pay substantial dividends or buy back its own stock may have insufficient resources to fund its pension plan obligations; and

6)      A substitution of secured debt for a significant amount of previously unsecured debt – Lender requirements for secured debt may indicate that the plan sponsor is facing challenges that could put plan funding at risk. Further, in the event of bankruptcy, the secured debt reduces the PBGC’s recovery on claims for unpaid pension contributions and unfunded pension liabilities.

Q: If the PBGC determines that a transaction could result in a significant increase in the risk of the type of loss that would permit it to terminate the plan, what types of action might it take? 

A: The PBGC works with the company whose plan is being reviewed to tailor a settlement that is appropriate to the business transaction and financially feasible for the company. Examples of the types of protections that the PBGC has negotiated in the past include: 1) additional cash contributions to the plan; 2) letters of credit to secure promises to make future pension contributions or to secure unfunded pension plan liabilities; and 3) a pledge of specific company assets to secure unfunded pension plan liabilities. Further, in connection with controlled group breakups, the PBGC has negotiated for guarantees by financially stronger members that are leaving the controlled group either to assume the pension plan or to pay for termination liability if the plan sponsor cannot support the plan following the transaction.

Q: How might a negotiated settlement with the PBGC be structured? 

A: This March, the PBGC used the EWP to secure Sears’ pension plans. Sears gave the PBGC a $100 million real estate lien. The pension plans also receive rights to a $250 million payment that Sears will obtain from Stanley Black & Decker in three years as part of Stanley’s purchase of Sears Craftsman brand. Additionally, the plans will receive payments from Stanley over a 15-year period that are a portion of Stanley’s sale of Craftsman products. 

Q: Is a filing under ERISA Section 4010 a trigger for the EWP? 

A: No. Under ERISA Section 4010(b), only three sets of circumstances would trigger the EWP: 1) the funding target attainment percentage at the end of the preceding plan year of a plan maintained by the contributing sponsor or any member of its controlled group is less than 80%; 2) a person fails to make a contribution to the plan, and that missed contribution, in combination with other missed contributions, results in a lien in favor of the PBGC in excess of $1 million; or 3) minimum funding waivers by the contributing sponsor or any member of its controlled group exceed $1 million, and any portion thereof is still outstanding. The PBGC does not use information provided under ERISA Section 4010 to open an early warning review, and the filing of a return under ERISA Section 4010 is not a trigger for the EWP.

Q: Can a plan sponsor contact the PBGC in advance to determine if a proposed business transaction presents any concerns under the EWP? 

A: Yes. The PBGC encourages plan sponsors and their advisers to contact the PBGC in advance of a business transaction, to avoid any uncertainty about such concerns and to minimize any disruption in corporate plans or transactions.

Q: Does the PBGC enforce IRC [Internal Revenue Code] Section 414(l)? 

A: As a technical matter, the Internal Revenue Service (IRS), rather than the PBGC, is the agency that enforces Internal Revenue Code Section 414(l)—the section of the IRC that governs the allocation of assets in plan spinoffs. The PBGC does not review spinoff transactions for Section 414(l) compliance, but it will review a spinoff to determine whether it significantly increases the risk of long-term loss to the PBGC, which may occur if a plan uses “reasonable” actuarial assumptions to transfer assets rather than the PBGC safe harbor actuarial assumptions.


Marcia Wagner is a specialist in pension and employee benefits law and is the principal and founder of The Wagner Law Group P.C., one of the nation’s largest boutique law firms specializing in the Employee Retirement Income Security Act (ERISA), employee benefits and executive compensation. A summa cum laude and Phi Beta Kappa graduate of Cornell University and a graduate of Harvard Law School, she has practiced law for 30 years, 21 with her own firm. She is recognized as an expert in a variety of employee matters, including qualified and nonqualified retirement plans, fiduciary issues, all forms of deferred compensation, and welfare benefit arrangements.


NOTE: This article is informational purposes only and should not be used as legal advice.