Lump-Sum Benefits May Be Removed in Bankruptcy

By Deanne Katz, Esq. on December 18, 2012 | Last updated on March 21, 2019

Dealing with the possibility of lump-sum pension benefits while going through bankruptcy is a strain on any company.

That's a substantial concern for American Airlines as it tries to find a way to emerge from bankruptcy. The company asked a federal court last month for permission to amend its pension policy and prohibit retirees from taking a lump-sum option, according to Workforce Management.

That filing came shortly after the IRS issued a new ruling on worker benefits after bankruptcy. Looks like the IRS recognized the problem pension plans can create for a company trying to re-establish itself in the market.

New regulations by the IRS that became effective in November offer an exception to the anti-cutback rules employers have to abide by in terms of pension benefits.

The new rule states that if a plan's sponsor is in bankruptcy, that sponsor may amend its pension plan to eliminate lump-sum distribution of pension benefits. In the alternative, the company can also eliminate a different option form of accelerated benefit payment.

But not so fast: This exception comes with some restrictions.

To qualify, companies must be able to certify that the benefits plan is underfunded and that it isn't making any prohibited payments. The bankruptcy court must also find that the amendment is necessary to avoid distress or involuntary termination of the plan.

That's good news for big companies like American Airlines and its parent company AMR. Under the new rule, minimizing costs coming out of bankruptcy is easier.

But these rules don't affect a company's responsibility to pay employee benefits, including accrued paid time off, after bankruptcy.

Sure, those responsibilities take a much lower priority during bankruptcy, but they don't disappear. It's still important to make sure your client has enough cash to cover them before emerging from bankruptcy.

There's also the issue of bad press. If your client deprioritizes paying out benefits in favor of corporate bonuses, it's hard to keep that information a secret.

Just look at Hostess: The company provided corporate bonuses using funds that would have otherwise gone to pensions. What they did was legal, but it didn't make people happy, reports The Huffington Post.

That public disapproval may hurt the price of the company's assets as they try to sell them off.

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