Key Takeaways:
- Transaction Type Shapes Plan Responsibility: In mergers, the new entity assumes all benefit plans, while acquisitions handle plans differently based on whether it’s a stock or asset purchase.
- Due Diligence Identifies Risks: Thorough due diligence reveals potential issues like missed filings or plan defects that could jeopardize compliance and increase costs.
- Plan Integration Requires Strategic Choice: Companies can terminate, merge, or freeze plans—each option has pros and cons that must align with business goals and compliance needs.
According to the Boston Consulting M&A Report, while global M&A activity remains below historical norms, it is beginning to rebound from 2022 and 2023. There were approximately 22,400 deals in the first nine months of 2024.
If your business is experiencing growth, you know that merging two companies is no easy feat. There are many factors to consider. But one key consideration that companies in this position sometimes forget to focus on is how a merger or acquisition will impact their employee benefit plans. Transactions can also change plan administration, filing requirements, and audit responsibilities, making it important to evaluate employee benefit plan audit requirements and services before the transaction is completed.
Who Maintains Responsibility for the Retirement Plan?
When companies merge, the combined entity is responsible for all benefit plans that were offered prior to the merger. The acquisition of a company is different. The type of transaction — whether it’s an asset purchase or stock purchase — drives what happens to the plans.
In a stock purchase, the acquiring company assumes the responsibility for the plans of the acquired company. On the other hand, in an asset purchase, the acquiring company has more flexibility in deciding which assets to take on. The purchasing company may not acquire the other company’s employee benefit plans in an asset purchase.
Questions to Ask During the Due Diligence Process
Buyers conduct due diligence to find hidden or contingent liabilities, as well as to design the post-closing benefit structure. A couple other questions the buyer may want to ask are:
- Have all required filings been made on a timely basis? Buyers should review Form 5500 filing and audit requirements as part of benefit plan due diligence, particularly when the transaction could affect plan size, structure, or future audit obligations.
- Are there any known design or operational defects in the plan that might jeopardize or the plan’s (or merged plan’s) tax-exempt status? (The correction of these can be quite costly.) When due diligence identifies operational or fiduciary failures, understanding available retirement plan correction programs can help determine how issues should be addressed before they carry into the combined organization.
Options for Combining Employee Benefits
Depending on the type of transaction, there are several options for deciding what employee benefit plans will look like following a corporate transaction. It is important to review and decide which solution best fits your situation before the deal is done. Each option has pros and cons.
Terminate the acquired company’s plan (prior to or post-closing)
With this option, the purchaser’s liability is limited, and employees may then be allowed to participate in the acquiring company’s plan.
This requires distributions from the acquired company’s plan so participants will have access to their retirement nest egg. They may choose to roll it into the successor plan or an IRA. Or, they can take it and buy a boat.
In the event the plan had participant loans outstanding, they would be deemed distributed and become taxable to the participants.
Merge the acquired company’s plan into your own plan
Merging the plans prevents participants from taking distributions of their retirement money at the time of the merger.
The acquiring company will need to preserve the prior plan’s forms of benefit options and participant’s vested percentages.
They also may need to reconcile different plan year ends.
In the event the acquired company’s plan had operational defects, that plan will taint the merged plan. This is why it’s a good idea to ask that question as suggested above during the due diligence process.
This option allows for:
- Uniform benefits for all employees
- A single communication to all employees regarding benefits
- Simplified administration (one third party administrator, one audit, and one Form 5500 filing)
Freeze the acquired company’s plan and continue to maintain it
This option eliminates the risk that participants in the acquired company’s plan will spend their retirement nest egg.
The acquired company will take on the cost of:
- administering the acquired company’s plan
- determining when an employee benefit plan audit is required and obtaining the required audit for qualifying plans
- making the plan’s appropriate filings with the IRS and DOL
Organizations maintaining or combining defined contribution plans should also review LBMC’s 401(k) Compliance & Audit Guide for Plan Sponsors for additional guidance on plan administration, compliance, and audit preparation.
Employee benefit plans are sometimes overlooked in corporate transactions, but as we’ve discussed, an acquisition or merger has significant plan implications. Before sealing the deal, make sure to analyze and decide on the best structure for benefit plans in your new, combined company. An auditor who understands the proper reporting and disclosures required by the IRS and DOL can help reduce transaction-related compliance risk, particularly as DOL and IRS enforcement increases the consequences of EBP audit deficiencies.
Organizations evaluating broader financial reporting and assurance considerations surrounding a transaction can also explore LBMC’s audit and assurance services.
