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As stock prices rise from the lows seen after the dotcom bust, there is the potential for an increasing number of defined benefit pension plans to become overfunded. In general, a defined benefit pension plan is considered to be overfunded when the fair market value of the plan assets exceeds the present value of the plan's accrued benefit obligations. If the plan document so permits, the excess assets of a defined benefit pension plan can revert to the sponsoring employer after the termination of the plan and the satisfaction of all fixed and contingent liabilities. Accordingly, substantial surplus assets in a defined benefit pension plan would appear to be a potentially attractive source of additional capital for the sponsoring employer.
In the 1980s there were a number of transactions in which defined benefit plan sponsors terminated their overfunded plans solely for the purpose of receiving surplus plan assets. In an effort to preclude plan terminations for the sole purpose of gaining access to surplus funds, Congress enacted section 4980. section 4980(a) imposes a 20% excise tax' on the amount of any employer reversion from a qualified plan. This excise tax increases to 50% unless the employer establishes or maintains a "qualified replacement plan" as described in section 4980(d)(2) or provides all qualified participants with a pro rata benefit increase that satisfies section 4980(d)(3). In addition to the excise tax, income taxes are imposed on the reversion amount. The income tax is imposed on the entire reversion and not just the balance after the imposition of the excise tax.
As a means to allow sponsors of overfunded defined benefit plans to turn plan surplus into working capital without paying the income and excise taxes that would result from a true asset reversion, an informal market developed in which intermediaries acting as "brokers" arrange "sales" of overfunded plans to buyers who sponsor underfunded plans. The typical stratagem involves a plan sponsor with an overfunded plan who would like to convert the plan surplus into usable capital. The plan sponsor transfers sponsorship of the plan (or a portion thereof)2 to a newly created subsidiary and then sells the stock of the subsidiary to a buyer sponsoring an underfunded plan. The price of the subsidiary being sold would...