Private Pensions:

'Top-Heavy' Rules for Owner-Dominated Plans

HEHS-00-141: Published: Aug 31, 2000. Publicly Released: Sep 29, 2000.

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Pursuant to a congressional request, GAO reviewed top-heavy rules in relation to other pension laws and regulations intended to ensure that workers benefit equitably from their pension plans, focusing on: (1) key differences between top-heavy rules and the general rules for nondiscrimination and vesting in contributions and benefits; (2) the most recent data available for GAO analysis on the characteristics of new plans that report being top-heavy; and (3) what is known about the overall effects of top-heavy rules on numbers of plans and participants and on employer costs.

GAO noted that: (1) top-heavy rules for measuring how benefits are apportioned, together with required minimum benefits and vesting, ensure that workers get certain minimum benefits that they would otherwise not receive under the general nondiscrimination and vesting rules; (2) top-heavy rules are designed to address situations prevalent in owner-dominated firms; (3) the rules identify pension plans in which the majority of benefits accrue to owners and officers, and they require higher minimum benefits and faster vesting for workers in such plans; (4) top-heavy rules utilize a single measure of the value of participants' accumulated contributions or benefits; (5) in contrast, nondiscrimination rules permit employers to choose among many optional measures for valuing the amount of benefits, a number of which may rely on projections that overstate the value of pension benefits workers actually receive; (6) use of certain nondiscrimination rules can leave workers who are outside the top employee group with annual employer contributions or benefits accruals that are well below those that are required if the top-heavy rules are applied; (7) new plans reporting top-heavy status tend to be small, defined contribution plans in the service sector of the economy; (8) approximately 84 percent of all top-heavy plans established in 1996, most recent year for which data were available, had fewer than 10 participants; (9) the vast majority of all new plans, and of new top-heavy plans, were defined contribution plans; (10) where as 52 percent of new plans were in the service sector of the economy, plans of service firms constituted 70 percent of new top-heavy plans in 1996; (11) within the service sector, two-thirds of plans started by physicians, dentists, and legal service firms were top-heavy, a rate far higher than for other parts of the service sector; (12) little is known about the overall effects of top-heavy rules on plan formation; (13) formidable data and methodological challenges make it difficult to isolate the incremental effect of top-heavy rules form the many other economic and regulatory factors that influence employers' behavior regarding pension plan formation; (14) GAO found no research that has quantified the overall effects of top-heavy rules on the number of pension plans and participants; and (15) in evaluating top-heavy rules' impact, the federal government must weigh the extent to which top-heavy rules discourage coverage against the higher participant benefits they provide.

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