If the closing date is approaching on the purchase/sale of your or your client’s company and you still don’t have a plan for transitioning employee benefits, the result can be a train wreck. The seller can end up with liabilities they didn’t expect and the buyer can end up with unhappy new employees. It shouldn’t be this way. With a little planning, target companies and acquirers can smoothly transition employee benefits. The buyer and seller will know what to expect and both parties can better manage employee expectations.
The Transition of Benefit Plans
Planning the transition of benefit plans can be challenging. In many deals, only a handful of executives know that a sale is happening until the closing date. And if the HR department is not in the loop before closing, it is that much more difficult to achieve a successful transition. Having the right people “in the know” about the deal means you’ll get solid and timely answers to the questions below.
For health plans, the questions that should be answered in advance of the closing include:
- Will the target company’s benefit plans be continued or replaced by the acquirer’s plans?
- Which employees should be eligible for which plans and when?
- If target employees are moving to new plans, will there be a gap in coverage and will prior service be counted for eligibility?
- Who will provide and administer COBRA continuation coverage for former employees (including those who terminated before the closing date)?
- Who will be responsible for benefit plan reporting (Form 5500s and ACA reporting) after the deal closes and who has the data needed to complete required reports?
We see companies continue to struggle with these issues long after being acquired. In some cases, employees have a gap in health coverage and no COBRA continuation was offered. This can be expensive and may lead to litigation. We have seen employees reported as eligible for an acquirer’s health plan where they technically were not eligible under the written plan documents. In this case, an insurer could deny claims for medical benefits if the employees were not eligible when enrolled. We have also seen cases where Form 5500s were not filed or ACA reporting was not done and substantial penalties have been assessed.
There are similar questions for retirement plans:
- Which plans will be continued?
- Which employees will be eligible for which plans and when will deferrals and other contributions start?
- Will prior service count for eligibility and vesting?
In some cases, employees of the target and acquirer may become immediately eligible for retirement plans sponsored by both the target and the acquirer. This can be an expensive mess to clean up. For 401(k) plans, the primary issue is whether to terminate or continue an acquired company’s plan. If a 401(k) plan is not terminated prior to closing, distributions generally cannot be made to continuing employees and the only choice is to merge the acquired company’s plan with the acquirer’s plan. A transition period is available for coverage and nondiscrimination testing, but there should be a plan for passing these complex compliance tests going forward.
Some of the thorny issues we have seen recently include:
- Acquired employees were not timely enrolled for 401(k) deferrals. In some cases, corrective contributions had to be made at the employer’s expense. This can be even more complex if an acquirer’s plan features automatic enrollment.
- Prior service was not counted for eligibility or vesting. This can be fixed, but there may be unexpected costs for the employer.
- The target company’s plan may have illiquid investments that cannot be immediately sold.
All of these “train wrecks” can result in unexpected costs after the closing. They can also cause mistrust by new employees and undermine efforts to establish goodwill. This is where employee benefits counsel adds value to the transaction. We guide target companies and acquirers to plan for the successful transition of employee benefits plans. We are always mindful that buyers and sellers have a lot on their plates leading up to closing. But our experience shows that a modest amount of benefits planning goes a long way toward keeping the train on track to a successful merger or acquisition with happy and productive employees.