Home

Interim Valuation of a Balance Forward Plan

The steep decline in the stock market that took place last year resulted in a significant drop in the value of retirement plan assets. This is a particular problem for balance forward plans, and it raises an important question: Is a special valuation required before a distribution may be paid?

A plan document may permit a plan administrator to require a special plan valuation. However, conflicts may arise if former employees have statements showing significantly higher account balances as of the plan's usual valuation date. These employees will undoubtedly want to realize those balances, regardless of the fact that the value of the plan's assets has plummeted in the interim.

Twofold Responsibility for Fiduciaries.

The Employee Retirement Income Security Act (ERISA) requires plan fiduciaries to 1) operate a qualified plan in the best interest of all plan participants and beneficiaries, and 2) administer the plan at a reasonable cost. However, when the market value of the plan's assets decreases (or increases) significantly, there is an inherent conflict between participants who have a distributable event (including a severance of employment) or are eligible to take an in-service distribution and those not receiving a distribution.

Plan fiduciaries have both a legal and a moral obligation to decide what is best for all participants. Ideally, all participants should share in the gains or losses incurred by a balance forward plan. Thus, those with a distributable event should not be paid amounts that would be detrimental to the remaining plan participants (assuming there are no other facts that may dictate a contrary result).

Special Valuations.

In times of rapid market increases or decreases, the question of whether it is permissible to pay a distribution request based on an annual or even a semiannual valuation is critical, especially when a significant amount of time has elapsed since the plan's last valuation. However, many issues must be evaluated before the decision is made, as this example demonstrates.

Fact Set:

• The plan is a balance forward plan that is valued semiannually
• As of June 30, 2008, the plan has $1.5 million in assets
• As of June 30, 2008, Participant A's account is valued at $500,000
• There are 10 other employees whose accounts, together, make up the remaining $1 million
• On October 22, Participant A requests an in-service distribution of her June 30, 2008, account value
• On October 22, the total value of the plan's assets is $1,200,000

May the employer pay Participant A $500,000 when the value of the trust has dropped 20 percent in a matter of weeks? Would doing so have a negative impact on the other participants? In this example, it is rather clear that the fiduciary should consider whether an interim valuation is necessary before paying Participant A.

Keep in mind that if one participant is overpaid at the expense of the others, the fiduciary has potentially breached his/her fiduciary duties and could be personally liable for the amount of the overpayment.

Timing Is a Consideration.

Hindsight most likely played a role in Participant A's distribution request. Would she want to stay with the June 30 valuation if the market was up 20 percent instead of down? Most of the elections in plan documents relating to the timing of distributions allow for payment only after the next valuation date or the close of the plan year so that participants cannot take advantage of earlier valuations and market timing. It is recommended that the employer select one of these options rather than one that allows participants to choose an earlier valuation.

Legal Issues.

Unfortunately, the employer in this example is unlikely to please everyone. And there is always the threat of a lawsuit. Suppose 10 employees (instead of one) requested withdrawals totaling $500,000, and one of the 10 was the employer's spouse, whose account represented $100,000 of the $500,000. A special valuation would still be the safest course, because overpayment to a highly compensated employee and/or a relative could violate both ERISA fiduciary and Internal Revenue Code nondiscrimination standards. If a special valuation is required, its negative effect could be eased by allowing individuals to cancel their distribution requests once the revalued amounts are known.

Employer Option.

Employers may want to consider adopting an administrative policy that requires interim valuations when there has been a market change, up or down, of a set percentage (based on a standard market index).

Daily Valued Plans Not Free of Market Risk.

Employers may wish to tighten procedures for processing distribution requests by clearly defining the date upon which a final distribution amount is determined and avoiding serious "hang time" between when a distribution is requested and when the check is cut.

248.208.8860 | 2000 Town Center, Suite 1800 | Southfield, MI 48075

contact us | sitemap | disclaimer | privacy policy