What Are the Minimum Pension Contribution Requirements?

A minimum pension contribution is the amount an employer is legally obligated to deposit into its defined benefit pension plan each year. The purpose of this requirement is to ensure that these plans accumulate sufficient assets over time to honor the benefit promises made to employees for their retirement. Mandating these contributions helps secure the retirement income of millions of workers.

Plans Subject to Minimum Funding Standards

The federal minimum funding standards are specifically for private-sector defined benefit (DB) pension plans. These are traditional pension plans where the employer promises a specified monthly benefit to employees in retirement. The employer bears the investment risk and is responsible for ensuring the plan has enough money to pay these promised benefits.

In contrast, defined contribution (DC) plans, such as 401(k)s, are generally not subject to these minimum funding requirements. There are also exemptions for governmental plans and most church plans.

Calculating the Minimum Required Contribution

The calculation of the minimum required contribution is a complex process performed annually by an enrolled actuary. This calculation, detailed in the Internal Revenue Code, combines several components to determine the employer’s funding obligation for the year.

A primary component is the “target normal cost,” which represents the value of benefits that participants earned during the current plan year. This cost calculation relies on a set of actuarial assumptions prescribed by law.

Another part of the formula addresses any funding shortfall, where a plan’s assets are less than its funding target. These deficits are paid off in installments over a 15-year period. If an employer receives a temporary funding waiver from the IRS due to business hardship, that waived amount must be repaid over five years. These amortization payments are added to the minimum required contribution until fully repaid.

The final contribution amount is the target normal cost plus any amortization installments, minus the fair market value of the plan’s assets. Employers may also reduce the required cash contribution by applying pre-funding balances from excess contributions made in prior years.

The calculation is sensitive to actuarial assumptions like interest rates and mortality tables specified by law. If a plan’s funding level drops below certain thresholds, it can be classified as “at-risk.” This status triggers the use of more conservative assumptions and results in a higher minimum required contribution.

Meeting Contribution Deadlines

The timing of contributions is strictly regulated. For most single-employer defined benefit plans, employers are required to make four quarterly installment payments throughout the plan year, with a final payment due after the year has concluded.

For a plan that operates on a calendar year, quarterly installments are due on:

• April 15
• July 15
• October 15
• January 15

Each installment is calculated as 25% of the lesser of two amounts: 90% of the current year’s minimum required contribution or 100% of the prior year’s minimum required contribution.

The final deadline for an employer to make the total required contribution for a plan year is 8 ½ months after the close of that plan year. For a calendar-year plan ending on December 31, this final deadline is September 15 of the following year.

Consequences of Funding Shortfalls

Failing to make the minimum required contribution by the established deadlines carries financial penalties for the employer. The Internal Revenue Service (IRS) imposes a two-tiered excise tax structure to penalize funding deficiencies. These taxes are levied directly against the employer.

Upon failing to meet the funding requirements, the employer is subject to an initial excise tax of 10% on the aggregate unpaid amount, known as the accumulated funding deficiency. This tax is non-deductible. The employer must file a specific tax form to report and pay this tax.

If the funding shortfall is not corrected within a specified timeframe, known as the “taxable period,” the consequences become more severe. The IRS can impose an additional excise tax equal to 100% of the remaining funding deficiency. This second-tier tax serves as an incentive for employers to correct any shortfalls promptly.

Beyond the IRS excise taxes, if a missed contribution, including interest, exceeds $1 million, a lien is automatically imposed in favor of the Pension Benefit Guaranty Corporation (PBGC). The plan administrator must also notify the PBGC of the missed payment within 10 days of the due date. This lien is placed on all property belonging to the employer, providing security for the plan.

Reporting and Disclosure Requirements

Transparency in pension funding is mandated through detailed annual reporting and disclosure requirements. These obligations ensure that government agencies and plan participants have a clear view of the plan’s financial health. The primary vehicle for this reporting is the Form 5500, Annual Return/Report of Employee Benefit Plan.

Every defined benefit plan subject to the funding standards must file a Form 5500 with the Department of Labor each year. Attached to this form must be Schedule SB, Single-Employer Defined Benefit Plan Actuarial Information. This schedule is completed and signed by the plan’s enrolled actuary and provides the detailed results of the annual funding valuation, including the minimum required contribution.

In addition to government reporting, plans must communicate their funding status to participants through an Annual Funding Notice. This notice is distributed to all plan participants, beneficiaries, and the PBGC. It must clearly state the “percentage of plan liabilities funded” and include the plan’s assets and liabilities. If the plan is underfunded, the notice must explain the consequences and include information regarding which benefits are guaranteed by the PBGC.