Considering pension issues during the purchase or sale of a business can limit liability and save money.
In the purchase or sale of a business, often the proper treatment of pension plans is overlooked. This may be short-sighted. In some cases, the assets and liabilities of a pension plan are as large or larger than the corporate assets that are the subject of a sale transaction. Regardless of the pension plan’s size, consideration should be given to the mixture of tax, pension, labour and employment law issues that a plan brings to the table. There is a potential for liability to both vendors and purchasers if such complexities are not carefully weighed during a sale transaction. This should be reason enough for everyone to ensure that pension issues are carefully considered.
Transactions generally fall into two main categories — either a sale of shares, or a sale of assets. This article will focus only on registered pension plans, as opposed to other forms of retirement or other benefit plans.
SHARE PURCHASE
In a share sale, the shares of the vendor-corporation are sold to a purchaser. As a result, there is no change to the employment status of the vendor’s employees. The pension arrangements of the vendor also remain in place. The new owner of the shares does not need to do anything to establish or change this ongoing arrangement. The only exception to this would be if the vendor-corporation is part of a larger group of related companies, some or all of whom participate in one pension plan. If the group of companies were to maintain the shared pension plan, then the new owner of the shares of the vendor-corporation would need to set up a separate pension arrangement to which assets and liabilities related to the vendor’s pension plan would be transferred.
In the case of a share sale, it is imperative that the purchaser obtains from the vendor extensive disclosure in respect of the funding and operation of the vendor’s pension plan. A purchaser should insist on disclosure of all documentation related to:
•the funding arrangements;
•any amendments;
•confirmation that there are no member or beneficiary claims;
•evidence of proper administration; and
•reliable plan membership data.
The purchaser in a share sale should also ensure that the agreement contains appropriate representations and warranties from the vendor that deal with the pension arrangements. For example, if the vendor has taken contribution holidays in the past, the purchaser should seek assurances from the vendor that the law permits contribution holidays. Representations and warranties should be constructed to protect the purchaser from any unwelcome surprises after the pension plan has become its responsibility. These representations and warranties should survive closing. In other words, the vendor should be legally liable for the accuracy of its pension representations and warranties for many years after the sale.
Finally, the existence of a surplus or deficit in the funding of the pension plan should also be considered in the sale price. If a pension plan surplus exists, the vendor will want the sale price increased to take into account the fact that the purchaser will either have use of these excess funds to pay ongoing contributions, or, if permitted by law, will be able to remove the funds from the pension plan. The opposite is also true. If the vendor’s pension plan has a deficit, the purchaser should require that the vendor either eliminates the deficit before closing, or provides an adjustment to the purchase price.
ASSET SALE
In an asset sale, the vendor and purchaser agree on the specific assets and liabilities of the business to be transferred to the purchaser. This includes any pension assets and liabilities.
Unlike a share sale, the employees cease to be employed by the vendor and they can become new employees of the purchaser. With the asset sale, the purchaser will need to take some action if it wants to continue to provide pension benefits to its new employees. If the employees are unionized, the purchaser may be required by a collective agreement to provide pension benefits.
There are a number of different options for dealing with a pension plan on an asset sale.
1. Purchaser chooses not to provide a pension plan.
The purchaser may decide that it wants to buy assets and possibly take on employees, but does not want to take on the cost or liability of a pension plan. This may be because the purchaser has not offered a pension plan to other employees, or they offer another type of retirement arrangement (such as a registered retirement savings plan). In this case, the vendor will remain responsible for all of the pension benefits accrued to affected employees under the vendor’s pension plan, up to the sale date.
2. Assignment of vendor’s pension plan to purchaser.
Usually, an assignment agreement is executed as part of the sale agreement. The purchaser then assumes the pension plan in its totality. This option is often used when all members of the vendor’s pension plan will become employees of the purchaser, or when the purchaser is taking on a collective agreement which requires a like pension plan. Since assignment does not require a transfer of assets from one plan to another (subject to there being no other related companies of the vendor participating in the pension plan, as is described above in respect of a share purchase) it also does not require regulatory approval.
As with the share transaction, the purchaser assumes all pension liabilities and obligations of the vendor, therefore making extensive due diligence essential. Appropriate representations and warranties are also crucial to protect the purchaser in the event of any post-closing surprises. Finally, any surplus or deficit in the funding of the pension plan should be taken into account in determining the sale price.
3. Purchaser provides a successor pension plan.
If the purchaser decides to employ some of the vendor’s employees and wants to provide pension benefits, the vendor and the purchaser can agree either to transfer or to not transfer the assets and liabilities from the vendor’s pension plan to the purchaser’s pension plan.
TO TRANSFER...
In transferring assets and liabilities related to the transferred employees, the purchaser would be responsible for the pension benefits accrued under the vendor’s pension plan. The actual amount to be transferred is determined by negotiation and will require prior regulatory approval, which could take many months. When assets and liabilities are transferred, the employee will receive one pension payment upon retirement.
Arrangements can be made in the purchaser’s pension plan that will allow any salary increases or benefit improvements to apply to the transferred employees whole pension as if there had been no break in service.
...OR NOT TO TRANSFER
If a transfer of assets and liabilities does not take place, the vendor will remain responsible for the pension benefits of its former employees that were accrued prior to the sale. Transferred employees will begin to accrue benefits under the purchaser’s pension plan from the sale date forward. Pursuant to applicable federal or provincial pension legislation, service with the vendor will count in the determination of eligibility and vesting thresholds under the purchaser’s pension plan.
The downside of this approach is two-fold. First, the transferred employees will receive two separate pension benefit payments on retirement that may lead to some confusion. Second, if these employees were to receive salary increases or benefit improvements from the purchaser, they would only be reflected in the pension accrued under the purchaser’s pension plan.
The upside to not transferring assets and liabilities is also two-fold. This option does not require regulatory approval, and the purchaser does not take on any added liability associated with the assets accrued under the vendor’s pension plan.
WHY BOTHER?
Pension issues upon the sale of a business can be complex with a number of choices available to both parties. As such, the pension issues of each sale are unique and should be carefully examined for tax, labour and employment issues. By doing this, the most profitable outcome can be determined for both parties.
Mark Rowbotham is senior pension associate at Fraser Milner Casgrain. He can be reached at (416) 367-6757 or mark.
[email protected].
Transactions generally fall into two main categories — either a sale of shares, or a sale of assets. This article will focus only on registered pension plans, as opposed to other forms of retirement or other benefit plans.
SHARE PURCHASE
In a share sale, the shares of the vendor-corporation are sold to a purchaser. As a result, there is no change to the employment status of the vendor’s employees. The pension arrangements of the vendor also remain in place. The new owner of the shares does not need to do anything to establish or change this ongoing arrangement. The only exception to this would be if the vendor-corporation is part of a larger group of related companies, some or all of whom participate in one pension plan. If the group of companies were to maintain the shared pension plan, then the new owner of the shares of the vendor-corporation would need to set up a separate pension arrangement to which assets and liabilities related to the vendor’s pension plan would be transferred.
In the case of a share sale, it is imperative that the purchaser obtains from the vendor extensive disclosure in respect of the funding and operation of the vendor’s pension plan. A purchaser should insist on disclosure of all documentation related to:
•the funding arrangements;
•any amendments;
•confirmation that there are no member or beneficiary claims;
•evidence of proper administration; and
•reliable plan membership data.
The purchaser in a share sale should also ensure that the agreement contains appropriate representations and warranties from the vendor that deal with the pension arrangements. For example, if the vendor has taken contribution holidays in the past, the purchaser should seek assurances from the vendor that the law permits contribution holidays. Representations and warranties should be constructed to protect the purchaser from any unwelcome surprises after the pension plan has become its responsibility. These representations and warranties should survive closing. In other words, the vendor should be legally liable for the accuracy of its pension representations and warranties for many years after the sale.
Finally, the existence of a surplus or deficit in the funding of the pension plan should also be considered in the sale price. If a pension plan surplus exists, the vendor will want the sale price increased to take into account the fact that the purchaser will either have use of these excess funds to pay ongoing contributions, or, if permitted by law, will be able to remove the funds from the pension plan. The opposite is also true. If the vendor’s pension plan has a deficit, the purchaser should require that the vendor either eliminates the deficit before closing, or provides an adjustment to the purchase price.
ASSET SALE
In an asset sale, the vendor and purchaser agree on the specific assets and liabilities of the business to be transferred to the purchaser. This includes any pension assets and liabilities.
Unlike a share sale, the employees cease to be employed by the vendor and they can become new employees of the purchaser. With the asset sale, the purchaser will need to take some action if it wants to continue to provide pension benefits to its new employees. If the employees are unionized, the purchaser may be required by a collective agreement to provide pension benefits.
There are a number of different options for dealing with a pension plan on an asset sale.
1. Purchaser chooses not to provide a pension plan.
The purchaser may decide that it wants to buy assets and possibly take on employees, but does not want to take on the cost or liability of a pension plan. This may be because the purchaser has not offered a pension plan to other employees, or they offer another type of retirement arrangement (such as a registered retirement savings plan). In this case, the vendor will remain responsible for all of the pension benefits accrued to affected employees under the vendor’s pension plan, up to the sale date.
2. Assignment of vendor’s pension plan to purchaser.
Usually, an assignment agreement is executed as part of the sale agreement. The purchaser then assumes the pension plan in its totality. This option is often used when all members of the vendor’s pension plan will become employees of the purchaser, or when the purchaser is taking on a collective agreement which requires a like pension plan. Since assignment does not require a transfer of assets from one plan to another (subject to there being no other related companies of the vendor participating in the pension plan, as is described above in respect of a share purchase) it also does not require regulatory approval.
As with the share transaction, the purchaser assumes all pension liabilities and obligations of the vendor, therefore making extensive due diligence essential. Appropriate representations and warranties are also crucial to protect the purchaser in the event of any post-closing surprises. Finally, any surplus or deficit in the funding of the pension plan should be taken into account in determining the sale price.
3. Purchaser provides a successor pension plan.
If the purchaser decides to employ some of the vendor’s employees and wants to provide pension benefits, the vendor and the purchaser can agree either to transfer or to not transfer the assets and liabilities from the vendor’s pension plan to the purchaser’s pension plan.
TO TRANSFER...
In transferring assets and liabilities related to the transferred employees, the purchaser would be responsible for the pension benefits accrued under the vendor’s pension plan. The actual amount to be transferred is determined by negotiation and will require prior regulatory approval, which could take many months. When assets and liabilities are transferred, the employee will receive one pension payment upon retirement.
Arrangements can be made in the purchaser’s pension plan that will allow any salary increases or benefit improvements to apply to the transferred employees whole pension as if there had been no break in service.
...OR NOT TO TRANSFER
If a transfer of assets and liabilities does not take place, the vendor will remain responsible for the pension benefits of its former employees that were accrued prior to the sale. Transferred employees will begin to accrue benefits under the purchaser’s pension plan from the sale date forward. Pursuant to applicable federal or provincial pension legislation, service with the vendor will count in the determination of eligibility and vesting thresholds under the purchaser’s pension plan.
The downside of this approach is two-fold. First, the transferred employees will receive two separate pension benefit payments on retirement that may lead to some confusion. Second, if these employees were to receive salary increases or benefit improvements from the purchaser, they would only be reflected in the pension accrued under the purchaser’s pension plan.
The upside to not transferring assets and liabilities is also two-fold. This option does not require regulatory approval, and the purchaser does not take on any added liability associated with the assets accrued under the vendor’s pension plan.
WHY BOTHER?
Pension issues upon the sale of a business can be complex with a number of choices available to both parties. As such, the pension issues of each sale are unique and should be carefully examined for tax, labour and employment issues. By doing this, the most profitable outcome can be determined for both parties.
Mark Rowbotham is senior pension associate at Fraser Milner Casgrain. He can be reached at (416) 367-6757 or mark.
[email protected].
