You receive an envelope from your pension plan. As usual you think it’s either this month’s check or some notice you’ll scan and toss in the trash. You open it and it isn’t a check from your Dallas–Fort Worth employer. It is a notice. But not the kind of boilerplate legal notice that you normally forget after it hits the trash bin. This notice is a letter from the plan administrator telling you that you’ve been overpaid on your pension benefit. Not only are they cutting your monthly payment to recover the pension overpayment. They will charge interest against the overpayment.
Legal principles on a pension overpayment
Just looking at this issue from a position of fairness, collecting interest seems wrong. In most cases the retiree had no hand in the original miscalculation. The plan sponsor (your former employer or union) and its plan administrator had all the information for the plan’s calculation. They almost certainly employ financial firms and actuaries to ensure these calculations are accurate. After making plans and living on the pension, the administrator decides there is error and you should bear the burden.
In most circumstances when somebody gives you something that doesn’t belong to you, you should expect to give it back. However, it’s different when somebody has promised something to you and you have made life decisions based on it. It’s bad enough that the plan administrator takes back its promise. To add interest is punishing retirees for having the nerve to believe the plan administrator in the first place. Hardly a fair position. The legal issues involved in these overpayments are more complicated than just principles of fairness (otherwise, why would you need lawyers?) but let’s try to demystify a little about the law here.
Focusing on the interest collection on a pension overpayment
Let’s just deal with the interest issue today. Let’s also only talk about private retirement plans today because government pension plans fall under some different rules. An analysis of the overpayment issue is much broader (and I discuss it at a high level here) but let’s just assume for this post that the overpayment request is based upon an accurate calculation of benefits that corrects a previous wrong calculation and that the employer has made an appropriate request to recover the overpayment. Then we just need to look at whether the plan administrator must collect interest against this sum.
Can an employer recover a pension overpayment from a retiree?
The first step in our analysis is to determine whether the plan administrator may collect interest on a pension overpayment. If the plan administrator is not permitted to collect interest then it certainly cannot be required to collect interest. Answering this question requires venturing into the thicket of statute, regulation and advisory guidance from the Department of Labor and the IRS on ERISA. ERISA is the federal law that governs most retirement plans. (The IRS is revising guidance on pension overpayments so today’s answer may not be true down the road.)
Under ERISA the plan administrator must act with prudence in administering the plan. Part of that prudence includes reasonable efforts to recover sums paid out not in accordance with the plan rules or this thicket of benefit laws. IRS guidance says excess payments, when repaid to the plan, should return with “appropriate interest”. (Let’s stick a pin in the “appropriate interest” language and just recognize that the IRS guidance states interest should accompany repayment.) This guidance strongly suggests when a repayment returns it should return with interest. So plan administrators likely can recover interest on an overpayment recoupment. Now let’s determine whether the plan administrator must recover interest.
From the plan administrator’s position, it must act reasonably to preserve the plan assets. Part of that duty includes preserving the plan’s tax qualification status. One aspect of maintaining the plan’s tax qualification status is ensuring reasonable steps are made to recover excess payments and that “appropriate interest” on them. Many plan administrators take the position they are better safe than sorry and chase after overpayments with interest. Recouping overpayments allows the plan administrator to put money in the plan’s trust without it coming out of the plan sponsor’s pocket. However, the Dallas or Fort Worth plan administrator’s desire to help out its employer (the plan sponsor) and to cover itself by acting aggressively to recoup overpayments does not necessarily require the plan administrator to squeeze blood from a turnip.
Must an employer collect interest on a pension overpayment?
The governing law on retirement plans includes IRS and DOL guidance that gives plan administrators options to not seek that “appropriate interest”. Plan administrators can obtain repayment from the plan sponsor (along with interest) or from the plan sponsor’s liability insurance. Both the DOL and IRS guidance gives plan administrators the opportunity to forgive some or all of the overpayment amount–including the interest–if recovering that sum from the retiree would create a financial hardship.
Plan administrators could also calculate that “appropriate interest” in at a more reasonable rate considering the circumstances of the retiree and apportioning responsibility for the overpayment. The plan sponsor could also cover the interest while still seeking the overpayment from the retiree. So, to answer our question, no the plan administrator lacks obligation to collect that interest from the retiree.
A retiree receiving an overpayment letter may deal with a plan administrator who does not see these options as desirable. There are options to nudge the plan administrator towards the right thing but these often require applying the plan’s provisions and complex retirement benefits law. Often an employee benefits attorney is better equipped to make the case against interest recovery or recoupment of the overpayment.