I have a single employer that maintains a dollars times service defined benefit plan for their union employees per their collective bargaining agreement. The plan covers about 18 retirees, 25 vested deferreds and 12 active participants; it is only about 60% funded.
The union has now come to the company and asked for a 401(k) plan. They want to terminate the pension plan and start up a k plan.
The company does not have the money to fully fund the pension plan-about $500,000 would be needed, maybe more with the current low interest rates.
I know they always have the option to freeze the plan and continue to fund it until such time as it can be terminated in a standard termination, but would it also be possible to terminate now in a standard termination if the union agrees to accept reduced benefits? Would the retiree benefits have to be fully funded, and only the deferred vested and active benefits reduced?
I'm just not sure if there are more options for this type of plan since it is negotiated with the union.

I'm not aware of the ability of a union to negotiate away benefits already accrued, regardless of funding levels or other consideration.

You must confront the underfunding when presenting the plan termination to the PBGC.

Either the company completes the funding or the PBGC files a claim against the plan sponsor up to 30% of employer net worth. Only 50% owners can waive their benefits. You should look seriously at the expense of the termination before you decide. If you don't have an experienced actuary looking at this, get one.

Your situation does suggest that a freeze with continued funding of past benefits is needed. The cost of the underfunding ($500,000 over 10 years) is about $60,000 annual contribution(about $5,000 per year for your 12 actives). This should be included in the discussion with the union. I wonder if there is any room left for 401k company contributions.

There are probably some interesting stories about how this plan became so dramatically underfunded for its size. High interest rate assumptions, deliberate underfunding, dramatic underperformance of assets?

Of course they want to negotiate a 401(k) plan with the employer; it will force the employer to fully fund the DB plan up to guaranteed benefit levels, as well as provide current ongoing contributions. Kind of a "have my cake and eat it too approach".

The comments by both PAX and SOCAL are correct. The PBGC will come after the employer even to the point of forcing it into bankruptcy if necessary in order to obtain funding of the benefits or to place liens on the company's assets.

The employer should consult a corporate reorganization attorney (in addition to an ERISA attorney) about its legal and financial exposure and how to get out from under (the CBA as well as the Plan) in the event that the union does not agree to a workable solution. Since you serve the participants in the plan, you should not get in the middle of this situation. If asked, you shoud tell both the employer and the employees to consult legal counsel.

Another option might be: (1) add a 410(k) plan for employee contributions and (2) convert the DB plan to a cash balance plan. This will avoid immediate recognition of the liability and permit the employees to put away some savings.

Hugh? Can you elaborate on that, especially considering FASB current stance on cash balance plans? Your don't work for the WSJ do you?

Even with a cash balance formula for future accruals, the existing underfunding must still be addressed. I would measure the plan on a payout basis, as if the PBGC had to take it over, then explain the deficit of assets to liabilities to both the union and plan sponsor, so they could figure how to pay for it.

Wow. Thanks for all the comments. The underfunding is indeed due to reduced contributions in recent years because the company was not doing well and didn't have the funds to contribute. They had asked the union several years ago to trade the pension plan for a 401(k) but they didn't want to hear it. It would have been workable back then. Ah well.
They definitely need to freeze the pension plan and probably forgo a match or at least a significant one for a while until the pension plan can be funded.

Good luck with that.

I ran into a similar situation years ago. We were called in by an employee union rep to consult with a municipality about "switching" from an existing DB to a DC. One look at the DB actuarial report showed it to be maybe 35% funded. We said the current plan's status should be considered in light of future negotiations.

The messenger took a figurative bullet and got sent off into the sunset real quick.

That was simply not the union's problem. Underfunding was simply a debt for past contracted service already negotiated, agreed to, and provided. When that debt was paid was not the union's concern. That, in their minds, had nothing to do with future service. Actually, looking back at it, I find that thinking hard to fault.