While many companies act in good faith to fund their pensions, the law unfortunately allows employers to comply with pension rules technically without adequately funding the pension promises they make.
Bush Administration threats to use its first veto not against port policy, but against compromise pension reform, were thick in the air of remarks delivered Tuesday to the DC Bar by Assistant Treasury Secretary Mark Warshawsky. [JS-4098] While the clear majority of remaining defined benefit plan sponsors do not receive adequate respect for adequately funding their employees’ pensions, unfortunately the entire universe of plans face unnecessary funding increases and volatility in a blunt, crisis-mentality attempt to get to the minority that pose the risk to the PBGC. As the pension legislation moves to conference, major points where the Administration still wants to tighten the screws -
- Phase-In Periods – The Administration wants new rules to be immediately effective for plan years beginning on or after January 1, 2007, with no transition.
- Measurement of Pension Assets and Liabilities – The Administration continues to press for limiting asset-smoothing periods to twelve months, arguing that the proposed reduction of amortization periods to seven years will still allow sufficient dampening of contribution volatility. And although investment in investment-grade corporate bonds would not inherently violate ERISA standards, the Administration continues to press for building a conservative margin into the valuation of pension liabilities by looking for the yield curve to be drawn only from high-quality bonds.
- Mortality Assumptions – No longer comfortable with ERISA’s “best estimate” standard for assumptions, the Administration opposes permitting companies to base measurements on mortality assumptions that reflect realistic expectations for specific groups, proposing instead to take projected improvements in mortality into account in advance.
- Credit-Based Targeting – Although the Administration’s pension funding reform scheme would raise the bar for all to cure the sins of the few, the Administration continues to press further to link pension funding levels with a company’s credit rating.
- Credit Balances – The Administration suggests that there are more efficient ways to encourage funding above minimum levels without providing details and claims “dangerous double counting of pension assets” without demonstrating the mathematical reality. If the Administration gets its way on credit balances and FASB continues on course with changes that will eliminate the effect of advance contributions on shareholder equity, don’t expect any pension plan to fund beyond the rock-bottom minimum past 2005.
- Industry-Specific Relief – In the end, the Administration may draw its hardest veto line at any conference committee compromise that includes special rules such as a Senate amendment granting higher early retirement benefit guarantees for airline pilots.
Warshawsky’s comments did not touch on one other major culprit of pension underfunding tagged by the Economic Report of the President: traditional pension funding policy under present ERISA standards of prudence.
For many, the issue of public pensions is a rather arcane subject best understood by actuaries and public finance experts.
Chicago Federal Reserve Bank President Michael Moskow, speaking at the organization’s State and Local Government Pension Forum, offered his take on “The Regional Perspective on Pension Issues” focusing on retirement income programs sponsored by state and local governmental employers. Moskow explained that public pensions’ exemption from ERISA’s minimum funding standards “made it easier to increase pension benefits to public sector retirees without identifying adequate funding.” But if he meant to be pointing to that exemption as one of the causes of public pension underfunding, eliminating that exemption or creating a PERS version of the ERISA funding standard was not one of the specific solutions Moskow put on the table, although pension financing discipline would be strongly implicated in all three of the recommendations Moskow did advance -
- “More uniform accounting standards are likely needed” to improve understanding of public pension obligations. Moskow did not directly address early rumors that GASB may ultimately follow the road currently being taken by FASB, which for private companies will lead to new balance sheet charges or credits within the next year.
- Public pension plans need to focus on “identifying new funding sources and restructuring pension payouts.” Moskow did recognize that for many jurisdictions, state law, state constitutions, and even the U.S. Constitution impede performance on the “restructuring pension payouts” side of that equation, leaving painful tax increases as the direction policymakers will need to look.
But what’s cool is that the Chicago Fed used the occasion of its public plan forum to give birth: welcome a new blog to the benefits world! Except that it’s not yet clear whether we might want to kick it down the road a bit with some comments and other encouragement, since at the moment it looks suspiciously as though it might have been using blog layout and syndication simply for pushing this particular single event. Even so, the existing content is worth marking. And hey, it’s not every day you see the likes of the Fed getting into blogging sweats.
While market fluctuations appear to have been an important contributor to these woes [of defined benefit plan funded status declines], they could be made less so. To see why, recall from above [in the Economic Report of the President] that the PBGC manages the pension plans it receives from financially distressed employers. In doing so, it reduces exposure to interest-rate fluctuations by matching investment payoffs with the timing of employee benefits. The value of plan assets and liabilities will tend to move more closely under this strategy of duration matching than they would under the strategies that employers appear to have used.
- Page 77, Chapter 3 of the
Economic Report of the President
That is, the Administration wants defined benefit pension plans to dump their stock portfolios – amounting to about $1 trillion for private pension plans, plus hundreds of billions more held by public pension plans – in favor of duration-matched fixed income portfolios. In fact, the White House ventures over the line, characterizing common pension investment policy as “hazardous,” an unconscionable selection of terms absent evidence and charges of ERISA fiduciary violations. Although pending changes in accounting standards and various volatility-amplifying rules in proposed pension reform legislation will influence pension fund investing away from equities, the Administration itself does not yet explicitly propose a direct requirement to that end, but that lack of concrete initiative doesn’t rein in the Administration’s reliance on overly colorful adjectives.
When the report does finally get around to specifics, the Administration reiterates key terms of its Proposal for Pension Reform: curtailment of voluntary acceleration of funding by restricting reliance on credit balances; increasing the volatility of funding by reference to spot interest rates and asset values, regardless of the funded status of the pension, and elevation of funding targets. No word yet on how the Administration plans to meet its budget’s projection of PBGC income with the declining premium base that its policy will guarantee.
The 2006 National Summit on Retirement Savings, “Saving for Your Golden Years: Trends, Challenges and Opportunities,” will bring a bevy of dignitaries to the podium that will feature keynote speaker Vice President Dick Cheney. Breakout groups will examine low income workers, small business employees, new entrants to the workforce, and workers nearing retirement. [News Release 06-326-NAT; 71 FR 9155]