Employee Benefit Issues in Mergers and Acquisitions

Transcription

1 Employee Benefit Issues in Mergers and Acquisitions Southwest Benefits Association November 13-14, 2014 Baker R. Rector

2 Preview Preliminary considerations Type of transaction Plan identification Controlled group concerns Successor liability Withdrawal liability Change in control payments IRC 280G Deferred Compensation IRC 409A 2

3 Preliminary Considerations What is the basic structure of the deal? Asset acquisition Stock purchase or merger Parties Selling corporation Selling corporation shareholders Purchasing corporation Purchasing corporation shareholders Other interested persons Management Key employees Employee benefit plans and fiduciaries 3

4 Preliminary Considerations, Continued Overall Employee Benefit Objectives Disposition of seller s plans If terminated pre-closing, plan may be wound up and assets distributed post-closing If continued, how will seller s plans be integrated in to purchaser s benefit programs and policies If continued, distribution must await a severance from employment or other distribution event Identify document and operational failures Identify liabilities Prepare/review detailed representations and covenants concerning plans in acquisition agreement Prepare/review acquisition agreement to require plan amendments or avoid implicit plan amendment 4

5 Stock Transaction or Merger Asset vs. Stock Purchase Buyer assumes all liabilities as a matter of law Includes employee benefit plans, unless terminated pre-sale Some assets or operations may be sold or be spun off; plans may follow Asset Purchase Buyer can choose which, if any, assets or liabilities it will assume Can agree whether participants in NQ plan will be deemed separated from service Some employee benefit obligations follow the asset purchase: Controlled Group liability Successor liability IRS; PBGC liens 5

6 Identifying the Plans As part of due diligence, request and review pertinent plan document and information Plans and trust or other funding vehicle and all amendments, including prior versions SPDs Board/Committee minutes Actuarial statements; plan audit report Corporate Financial statements (Pension obligations) Funding notices annual and failure to meet minimum funding standards Determination/opinion letters Individual agreements Contracts with vendors Reportable events 6

7 Other Sources Plan Information Form 5500s; PBGC Form 1 Top hat filings Freeerisa.com 10-K, Proxy filings Other regulatory filings Company website, newspaper articles 7

8 Plan Document Issues Provisions that violate ERISA or Code requirements Unamended, Unsigned, undated, untimely adopted documents Missing, late or incomplete 5500s, PBGC-1s Provisions that increase cost Acceleration of vesting Change in control payments Tax gross-up Retiree medical Provisions that inhibit termination of plans Underfunded plans (ongoing versus termination liability) Multiemployer and multiple employer plans Contractual restrictions; consent requirements Disposition of stock options and other equity awards 8

9 Plan Issues, Continued For audit or VCP, need prior version of the plan Amendments that must be adopted before closing Operational issues Compliance with funding requirements Discrimination testing Late deposit of contributions Non-routine claims Fiduciary breaches Prohibited transactions Misclassified workers In asset sale, why does buyer care about unassumed seller plan? To accept rollover, buyer s plan must be able to reasonably conclude that the rollover is contribution is valid Acceptance of participant loans Employee relations 9

10 Controlled Group Liability All ERISA affiliates are treated as a single employer for: Withdrawal liability Underfunding COBRA Funding limitations under IRC 419A Affordable Healthcare Act Due diligence must extend to all relevant controlled group members 10

11 Controlled Group Members Parent subsidiary group 80% ownership of value or voting power of one or more corporate subsidiaries Capital or profits interest in partnership Actuarial value of a trust Brother Sister group Same 5 or fewer persons own 80% or more of one entity (determined as above) The same persons own more than 50% when ownership considered only to the extent it is identical Some ownership may be excluded or attributed to another owner Affiliated service groups (IRC 414(m)) Affiliated through ownership and services Management services without any required ownership 11

12 Successor Liability Predecessor and successor are not defined in IRC 414(a). If successor maintains plan of predecessor, credit for service with predecessor must be granted Otherwise, credit granted only as required by regulations that may be written in the future Some statutes include successor requirements (e.g., COBRA; IRC 424) Courts have developed tests for successor status Most plans and individual benefit agreements include a binding on successors clause 12

13 Successor Status Outside of ERISA Express or implied assumption of liability De facto merger Continuity of management, employees, location Continuity of ownership Selling corporation liquidates ASAP Purchaser assumes obligations necessary to business Successor is a mere continuation of predecessor Common officers, directors, shareholders Sufficiency of consideration to selling corporation Fraudulent effort to avoid predecessor s liabilities 13

14 Successor Status Under ERISA Successor had notice of the claim before the acquisition Actual knowledge of the claim not required Claim need not be pending Does the buyer know (or should have known) enough facts to protect itself Lower price; contingent or deferred payment Indemnification Escrow Substantial continuity of the business before and after the sale Substantial assets acquired and business continued without interruption or change Continuity of workforce, management, equipment, location Completion of work orders begun by predecessor Continuity of customer base 14

15 Successor for Employee Benefit Purposes Examples Withdrawal liability Calculation of benefits Top-hat plans Substitution of parties USERRA Federal employment claims Successor liability is equitable in nature; court may consider facts and circumstances in enforcing it Successor liability only arises when the primary obligor does not meet its commitments Acquisition agreement can require payment Confirm before final payment of consideration Indemnification from seller 15

16 Withdrawal Liability Withdrawal liability is the liability of a contributing employer to a multiemployer plan for its share of unfunded vested benefits that exists on the employer s partial or complete withdrawal from the plan Complete withdrawal occurs when an employer permanently ceases to have an obligation to contribute to the plan or permanently ceases all covered operations under the plan Partial withdrawal occurs upon a 70% decline in contribution base units (measured over three years), a bargaining unit takeout or a facility takeout. 16

17 Withdrawal Liability Plan trustees are responsible for determining that a complete or partial withdrawal has occurred May request information from employer As soon as practicable after withdrawal, plan trustees Determine withdrawal liability Provide payment schedule (max 20 years) Demand payment Employer has 90 days to request review After decision (or 120 days after request) employer has 60 days to initiate arbitration of assessment Enforcement can be brought within 6 years after assessment 17

18 Withdrawal Liability--Amount For a complete withdrawal, withdrawal liability is determined under a formula based on the plan s unfunded vested liability and the relationship of the withdrawing employer s contributions to aggregate plan contributions over a specified period (generally, the previous five years) If any amount of withdrawal liability cannot be paid within 20 years, it is waived (except for mass withdrawal within 3 years) For a partial withdrawal, liability is same as above but multiplied by a fraction representing the employer share of the contribution base units (covered employees x hours or weeks worked) for all employers over 5 years (preceding 3-year test for partial withdrawal) 18

19 Exception for Sale of Assets Under ERISA 4204, seller can avoid liability if : Bona fide arm s length sale of assets to an unrelated party Purchaser assumes obligation to contribute for the same number of contribution base units Purchaser provides bond or escrow = greater of average annual contribution of seller for the 3 years prior to the sale or the year before the sale Seller agrees to be secondarily liable for 5 plan years for the liability it would have had if purchaser withdraws and does not pay If the seller's distributes its assets or liquidate within 5 plan years seller must provide a bond or amount in escrow equal to the withdrawal liability it would have paid This is not an exception for the purchaser. It can still be liable as a successor 19

20 Withdrawal from Multiple Employer DB Plans Applies only to substantial employers (10 percent of contributions) PBGC computes liability based on total amortization charges for the plan x proportion of contributions contributed by employer for preceding 5 yrs Can provide bond for 150% of liability Returned if plan not terminated in 5 years (or unused part if it is) Liability also applies if employer ceases operations at a facility and 20% or more of his employees who are participants are separated PBGC moratorium through 2014 SB 2511 passed unanimously by Senate would limit 4062 to permanent cessations 20

21 Withdrawal Liability Effect on Merger and Acquisition Transactions Report prepared by Staff of Joint Committee on Taxation, September 15, 2014: There are 1,435 multiemployer plans covering over 10 million participants Aggregate funding status is 50 percent (vs. almost 90% for single employer plans) Aggregate under funding of over $400 billion 50 plans account for over half of the total underfunding PBGC projection: more likely than not that PBGC s multiemployer program will deplete its assets by 2022; 90% likelihood by 2025 Controlled group members are jointly and severally liable for withdrawal liability Successor can be liable for predecessor s withdrawal liability Employers do not have standing to challenge the management of a multiemployer plan 21

22 Withdrawal Liability--Acquisition Agreement Issues Starting point--representation that neither seller nor any ERISA affiliate has ever been a party to a multiemployer plan Look back at least 6-yrs S/L runs from assessment assessment is as soon as practicable Obtain estimate of withdrawal liability Funding notice 22

23 Golden Parachutes IRC 280G Enacted to prevent top executives from entering in to generous contracts that may: Inhibit acquisitions beneficial to shareholders, even if hostile Encourage friendly takeovers that might not be in best interests of shareholders In either event, reduce amount payable to shareholders Tax Penalty Imposed Denial of corporate tax deduction for excess parachute payment ( 280G) 20 percent excise tax on recipient ( 4999) If a payment is made to a disqualified individual that is contingent on a change in control and the payment equals or exceeds 3x the individual s base amount, the tax penalty will apply to any amount in excess of 1x the individual s base amount 23

24 280G Due Diligence Determine if a CIC will occur Identify the disqualified individuals and their compensation base for calculating parachute payments Obtain and review all agreements, arrangements and policies under which payments will be made or enhanced, either at CIC or in the future Determine if present value of payments to any individual will exceed 3X base amount Addressing excess parachute payments Is an exemption available? If cutbacks are provided, what method is best? Can payment be supported as reasonable compensation? Gross-up? Prepare/review seller s representation in transaction agreement 24

25 280G Change in Control Acquisition of 50 percent or more of a corporation Acquisition during a 12-month period of more than one-third of the gross FMV of assets, determined without regard to liabilities Presumptive change in control: Acquisition within 12 months (looking back from most recent acquisition) of 20 percent or more of the total voting power, or Replacement of majority of directors during a 12-month period by directors whose appointment or election is not endorsed by a majority of existing directors 25

26 280G--Exemptions Corporation that would qualify as a small business corporation under IRC 1361(b) Corporation that has no publicly traded stock if the payment is approved by 75% vote of shareholders After disclosure of all material facts Treating as not outstanding any stock owned by disqualified individuals who would receive payment For entity shareholders, the entities owners must approve if the value of stock owned equals one-third or more of the gross FMV of assets of the entity shareholder Payments by tax exempt organizations Payments shown to be reasonable compensation (including non-compete) 26

27 280G Disqualified Individuals Employee or independent contractor who during the 12 month period ending on the CIC is: Officer Not more than 50 (or, if less, 3 or 10% of employees) If more than 50, top-paid 50 are included 1% owner of FMV of all outstanding classes of stock Highly compensated Among top-paid 1% of employees One of 250 highest paid, if less Include compensation from all controlled group and affiliated service group members Include stock owned by attribution under 318(a) 27

28 Base Amount The base period is the 5 taxable year preceding the year of the CIC or, if less, the entire period during which the individual performed service for the corporation The base amount is the average annual compensation paid to the individual and includible in gross income during the base period If one the base period years is a less than a full taxable year, compensation for such short or incomplete taxable year must be annualized before being averaged Amounts that are not included in gross income are disregarded 28

29 Payments Contingent on Change in Control Would not, in fact, have been made if no CIC occurred, even if the payment is also contingent on another event Also includes payment contingent on an event that is closely associated with CIC if CIC actually occurs the event is materially related to the CIC Event is presumed to be materially related to a CIC if it occurs within 1 year before or after CIC Agreement entered into within 1 year before CIC payment presumed to be contingent on CIC Payments under a post-cic agreement are not covered unless there is a legally enforceable agreement prior to CIC to enter in to agreement, or difference in payment if pre-cic agreement is replaced by an agreement to perform services after CIC 29

30 Amount Contingent on CIC General rule: entire amount paid is contingent on CIC For vested amounts, present value of future payment For unvested amounts contingent of future services Present value of future payment; and Value of relief from obligation to continue services: 1% of PV x number of months between CIC and scheduled payment For accelerated payments, present value is included 30

31 Addressing Excess Parachute Payments Cutback to less than 3 times base amount Agreement may be amended Can result in a violation of 409A Pay excess amount if full payment after 20% excise tax is more than 3X base amount Employer still loses its deduction Gross up For non-public companies, obtain shareholder approval Do nothing, argue reasonable compensation 31

32 Deferred Compensation Under IRC 409A, any plan (agreement, method, program, or other arrangement) under which one or more persons obtains a legally binding right during a taxable year to compensation that is or may be payable to the service provider in a later taxable year Applies to amounts deferred or vested after 12/31/2004 (or plan materially modified) Penalties 20% penalty tax on amounts deferred 1% additional interest on underpayment of taxes Employer must withhold tax and report payment Broader than employee pension plan under 3(2) of ERISA Applies in addition to constructive receipt, economic benefit doctrines 32

33 Generally not subject to 409A Forfeitable benefits (pay upon vesting) Short-term deferral; pay day timing Restricted Stock, stock grants Non-discounted options and SARs Limited amts. of separation pay Qualified plans; 457(b) plans Compensation that was earned and vested by 12/31/04 and not materially modified after 10/03/04 Vacation, sick pay, death, disability benefits Partnership interests 409A Coverage Generally subject to 409A SERPs Elective deferred comp Change in control payment Salary continuation Discounted options & SARs Restricted Stock Units & phantom stock Split dollar life Deferred comp embedded in employment agreements Severance (except short term deferral) 33

34 Payment Events In general, payment may only occur upon occurrence of 1 of 6 events Separation from service Disability Death Fixed time or schedule Unforeseeable emergency Change in ownership or effective control or ownership of a substantial portion of corporate assets Other exceptions to anti-acceleration rule, e.g., Termination of the plan De minimis cash out rule Other events may accelerate vesting, change amount or form of payment 34

35 Change in Ownership or Effective Control-- Relevant Corporation The corporation for whom services are performed at the time of the CIC; The corporation(s) liable for the payment of the deferred compensation if The deferred compensation is attributable to the performance of service by the service provider for such corporation; or Bona fide business purpose for such corporation or corporations to be liable for the payment; and, in either case, and No significant tax-avoidance purpose of making such corporation or corporations liable for such payment Majority owner of either of the foregoing or any corporation in a majority owned chain of corporations 35

36 Change in Control Events 50% acquisition of the total FMV or voting power of the stock of the corporation 30% acquisition of the total FMV or voting power of the stock of the corporation within a 12-month period Replacement of a majority of members of the corporation's Board is replaced during a 12-month period, if no other corporation is a majority shareholder Acquisition of least 40% of the total gross FMV of all of the assets of the corporation within a 12-month period, determined w/o liabilities related to the assets Lower threshold may be used if payment is not contingent on the event An IPO or spin-off would not normally be a CIC under 409A 36

37 Deferred Compensation Review Collect and review documents Plans Individual agreements/ Award agreements Election forms; Postponement/change of form elections If amended or restated, prior documents Summaries Top-hat filing, if applicable Deferred compensation within other agreements Is payment increased by CIC? Time of payment Is payment accelerated (or can it be)? Can payment be postponed? Can the form of payment be changed? 37

38 Deferred Compensation Errors Document and operational failures Common Errors Undocumented or incompletely documented plans Improper deferral elections; postponements* Improper payment events; Alternative payment methods (toggling)* Incorrect definitions (e.g., change in control) Failure to include 6-month delay for specified employees of public companies* Required releases Discretion in time or method of payment Stock options with below-market exercise price Correction of failures *Included in IRS Compliance Initiative Project, May

39 Accelerating Payment in a CIC Plan may specify an alternate payment method for termination within 2 yrs after CIC If CIC is not a payment event, cannot be added at time of CIC Payments not governed by 409A (e.g., short term deferral) Substitute payment generally treated as payment under the plan Termination of plan Identify applicable employer Identify aggregated plans (all plans covering affected employees must be terminated) Action to terminate within 30 days before or within 12 months after CIC Distribute all amounts within 12 months of corporate action No prohibition on similar successor plan 39

40 Decelerating or Changing Method of Payment Special Rules for Transaction based compensation Resulting from service recipient s purchases of stock held by service provider Service recipient or a third party purchases a stock right held by a service provider Payment calculated by reference to the value of stock of the service recipient Earn-out payment. Treated as paid at a designated date or pursuant to a payment schedule Paid on the same schedule and under the same terms and conditions as other shareholders If Paid not later than 5 years after the CIC event will not violate the initial or subsequent deferral election 40

41 Decelerating or Changing Method of Payment Transaction-based compensation payable as a result of change in control or sale of assets may be made forfeitable. Change made before and in connection with the event Substantial risk of forfeiture Payable under the same terms and conditions as apply to shareholders generally Short term deferral based on the date that it became subject to such substantial risk of forfeiture Extension of substantial risk of forfeiture Would lapse as a result of change in control or sale of substantial assets Modified before and in connection the event Arm s length transaction with party unrelated to service recipient or service provider Must be a substantial risk of forfeiture Payments upon extended vesting date are not treated as a changed schedule 41

42 Decelerating or Changing Method of Payment Exchange of benefit not subject to 409A For another benefit not subject to 409A For deferred compensation may violate 409A Special rules for options May be assumed or substituted under IRC 424 Extend in-the-money options to combined term of not more than 10 years Extend underwater options at not less than FMV (treated as new grant) 42

43 Specified Employees Payment otherwise made on separation from service may not be made to a specified employee until 6 months after separation N/A to amounts not treated as deferred compensation under 409A Employees of a public corporations who are, as of date of severance: Officers with compensation greater than $170,000, as indexed (max 50 officers) 5% owners 1% owners with compensation greater than $150,000 Specified Employee Identification Date: December 31 unless otherwise elected Specified Employee Effective Date: First day of 4 th month following S.E.I.D. unless otherwise elected but not later than first day of 4 th month following S.E.I.D. Classification continues for 12 months following effective date 43

44 Specified Employees in Corporate Transactions Nonpublic Nonpublic Public Nonpublic Public Public (merger or acquisition) Public Public (spinoff) Non-public public (merger or acquisition) Non-public Public (IPO) N/A N/A S.E.I.D. and S.E.E.D are those of the surviving or acquiring corporation. In interim both lists apply, can be limited to top-paid 50 officers plus 5% owners and 1% owners making more than $150,000 S.E.I.D. and S.E.E.D are those of the initial public company. In interim, existing list of specified employees continues for both (or all) corporations S.E.I.D. and S.E.E.D are those of the initial public company. Existing list of specified employees continues in place until next date December 31 and April 1 are the S.E.I.D. and S.E.E.D., respectively, applied retroactively, or other date applied retroactively In each corporations can elect alternative method of compliance. 44

45 Baker R. Rector (214)