Preservation of Pensions Paramount, Experts Warn 

 

Pension experts are warning that the goals set out under the Employee Retirement Income Security Act (ERISA) are in danger of failing as defined benefit (DB) pension plans continue to wane.

Retirement security in general proved insecure after the market turmoil of 2008 and early 2009 led to plummeting 401(k) balances and a near-record deficit at the Pension Benefit Guaranty Corp. (PBGC), the federal agency that insures pension payouts, as faltering companies shed their pension obligations in bankruptcy.

Is there a future for DB pension plans? And if so, are they in need of a 21st century makeover?

“I think it’s time to remind Americans of the benefits of defined benefit plans,” said Vince Snowbarger, PBGC acting director, at a December 2009 forum in Washington, D.C.

“We must never give up on DB plans,” urged David Strauss, chairman of the PBGC Advisory Committee. “You can never underestimate the value of even small amounts of income for life that can never be taken away. Without a strong defined benefit system, millions of Americans will never have a predictable, secure retirement and will never be able to enjoy predictable, secure benefits,” he said.

Bad Year for Defined Benefit Plans

Since the 1974 passage of ERISA, 401(k)-type defined contribution plans and individual retirement accounts (IRAs) have shown steady growth, while DB pensions have declined. The recent economic recession has accelerated this free-fall, compounding a pre-existing phenomenon that has seen defined benefit plans practically eliminated as an option for new workers entering the private sector:

• In 1974, 71 percent of private retirement plan assets were in defined benefit pensions. By 2009, that number had decreased to 20 percent, according to the not-for-profit Employee Benefit Research Institute.

• The number of DB plans insured by the PBGC dropped precipitously from 114,000 in 1985 to 29,000 at the end of 2009.

• During fiscal year 2009, 144 underfunded single-employer plans were terminated.

• Overall, 43 percent of private-sector employees participate in defined contribution plans, compared with just 20 percent that are enrolled in DB plans.

“401(k) plans have increased retirement savings for some workers but were never meant to be anything other than supplemental,” said Phyllis Borzi, assistant secretary of the Employee Benefits Security Administration.

One year after the financial system meltdown of 2008 and the severe damage it did to the stock market, a trillion dollars held in defined contribution plans had been wiped out. Meanwhile, the top 100 U.S. corporate DB pension plans experienced funded-status drops of roughly 30 percent in 2008, according to Pensions & Investments. These plans had a surplus of over $110 billion in 2007, but ended 2008 with a deficit of close to $200 billion.

Given that cost considerations and volatility of plan funding have increased, more plan sponsors are trending toward freezing or terminating what they perceive to be an increasingly burdensome liability.(When companies freeze existing defined benefit plans, the plan continues but employees stop accruing further benefits in the plan and new hires are not eligible to vest; see Pension Plan Freezes.)

In the face of this uphill climb, some wish to preserve DB plans and regard the past year as “a teachable moment … to find ways to ensure that defined benefit plans can continue to provide American workers the ability to retire in dignity and with the economic security that they have earned,” said Borzi.

Data make a strong case for reviving the use of DB plans, added Beth Almeida, executive director of the not-for-profit National Institute on Retirement Security. DB plans “create significant economic efficiencies,” she said, citing a study showing that a DB plan can deliver the same benefit at almost half the cost of a defined contribution plan.

Still, the obligation to fund DB plans is borne by employers, and their anticipated future outlays can be undercut severely by stock and bond market volatility, as recent events have shown.

Proposals Abound

Karen Ferguson, director of the Pension Rights Center, an advocacy group in Washington, D.C., stressed the importance of preserving DB pensions as a critical source of the long-term private investment capital that is essential to job creation and economic growth—and as the best chance that workers have to make ends meet in retirement. “Government statistics show that people with pensions have twice the income of those living on Social Security alone,” she said.

In focusing what can be done to preserve DB plans for the estimated 17.6 million active workers earning them, “we need to address the issue of emergency funding relief,” she said.

Ferguson posited that single-employer plans should be allowed to automatically spread losses that are attributable to the market downturn over an extended period if they continue to allow all participants to earn benefits throughout the relief period, while frozen plans should be able to apply for funding waivers from the IRS if they can show substantial business hardship without adversely affecting the interests of participants.

“If IRS resources are insufficient to provide expedited waivers, Congress should consider establishing a temporary emergency funding relief panel to process waiver applications,” Ferguson recommended.

As for multi-employer plans under collective bargaining agreements, “relief must be coupled with protections for participants,” she said. These protections would include substantial increases in PBGC guarantees and a restoration of “the very unfair cutbacks of already-earned benefits that were allowed by the Pension Protection Act [PPA].”

The Pension Rights Center’s pension preservation wish list includes:

• Giving employers at least 10 years instead of seven to fund pension liabilities.

• Allowing plans to increase normal retirement age to the Social Security full retirement age for new employees and those younger than 40.

• Discouraging employers from terminating plans by giving retirees who do not receive their full benefits from the PBGC a claim in bankruptcy for the difference between what the PBGC provides and what the plan promised (assuming funds are available from the bankrupt former employer).

• Requiring companies that offer a nonqualified plan for executives to provide a qualified DB plan for rank-and-file employees.

• Repealing the PPA provision barring employees from earning benefits when a DB plan falls under 60 percent funded, and returning to guaranteeing that pension benefits are determined as of the date an employer terminates the plan.

• Leveling the playing field between pensions and 401(k)s by requiring companies sponsoring 401(k)s to inform participating workers of the projected monthly income they could expect at retirement based on their current account balance, requiring employers to pay administration and recordkeeping fees for 401(k) plans, restricting pre-retirement cash-outs and tightening withdrawal rules for 401(k)s, and requiring that an annuity be the default distribution option for 401(k) plans.

Other ideas for preserving DB plans include moving from a final-average-pay to a career-average formula for pension payouts and promoting the adoption of hybrid cash balance defined benefit plans.