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The Bush Administration’s New Pension Proposal – A Step in the Right Direction
January 18, 2005
By: ChartingTheEconomy.Com
Introduction:
It appears the Bush Administration is serious about pension reform and that’s good news. In our December 2004 report on
pensions, we predicted that the Bush Administration in early 2005 would release a proposal to reform the laws governing
traditional pension plans (also called defined benefits plans). On January 10, 2005, the Labor Department and the Pension
Benefit Guaranty Corporation (PBGC) jointly unveiled their new proposal. Simply put, the Administration’s plan is a big step in
the right direction. It proposes wide ranging reforms that if implemented will make corporations more accountable for the health
of their pension plans. However, this is just a proposal and the real test will be getting a meaningful reform bill through Congress.
The Administration’s proposal focuses on three areas: 1) reforming the pension funding rules, 2) improving disclosure of
information about pensions, and 3) adjusting premiums corporations pay the PBGC to insure their pensions.
Background:
In 1974, Congress formed a quasi-governmental agency called the U.S. Pension Benefit Guaranty Corporation (PBGC) and gave
it the primary mission to protect/insure benefits in private-sector traditional pension plans. The PBGC's primary functions are to:
1) oversee terminations of fully funded plans and 2) guarantee payment of basic pension benefits when underfunded plans are
terminated. For the past several years many corporations have been vastly underfunding their pension plans, and the problem
is now at a critical level. Because of this it should be no surprise that the PBGC is running a massive debt.
The PBGC is not funded by tax dollars. Its funding comes from insurance premiums paid by companies whose plans the PBGC
protects. Funding also comes from PBGC’s investments and from its assets. However, don't be fooled into thinking that this
means that your tax dollars are exempt when it comes to bailing it out, and it may come to that. At least this is looking more and
more likely everyday, especially if Congress does not act quickly to correct the underfunding problem. Furthermore, this issue is
not going away on its own. The PBGC’s Executive Director Bradley Belt in the release of their 2004 Financial Results stated that
“pressures on the pension insurance program are expected to continue.”
The PBGC had been running a surplus for many years until 2001. Since then the PBGC has quickly rolled up some extremely
large deficits. The deficit for the fiscal year 2004 (PBGC is on the federal government’s fiscal year calendar which ends on
September 30) was in excess of $12 billion. As for the trend, the 2004 loss more than doubled the cumulative debt of the PBGC
which as of September 30, 2004, stood at just over $23.5 Billion. Additionally, the PGGC estimates that as of September 30,
2004, underfunding of traditional pensions exceeded $600 billion when you count both single employer and multiemployer plans.
So why has this underfunding occurred? In short, because under current rules corporations have been able to legally underfund
their traditional pensions. In addition, premiums to insure their underfunded pension plans do not reflect the risk associated with
potential plan terminations. The premiums also have not been increased for over a decade and cannot be increased without an
act of Congress. See “The Pension Time Bomb is Ticking – Can it be Disarmed?” at the ChartingTheEconomy.Com website for
more information on the underfunding problem.
Pension Funding:
The Administration’s aim is to replace existing funding rules with ones that are tied to default risk. The plan proposes to base
funding targets on the financial health of the corporate sponsor and to calculate liabilities more accurately using corporate bond
rates. Corporations will also have to make up funding shortfalls within seven years. While this may sound like a long time it is far
quicker than what many corporations wanted. It also requires corporations to stop promising additional benefits if the company’s
plan is already significantly underfunded. The plan will allow companies to make additional deductible contributions when they
are doing well financially.
Improved Disclosure:
To help put pressure on companies to better fund their traditional pension plans, the proposal requires more timely information
flow on the status of their plans. With better information workers and retirees will be able to better plan for their retirement, and
investors and regulators will be able to more accurately assess the financial standing of the plan. Accordingly, employees,
investors, and regulators will be able to more quickly pressure corporations to correct underfunding problems as they develop.
The Administration proposes to make more information on corporate traditional pension plans publicly available, and wants
pension reports filed in a more timely fashion.
Premiums:
As we pointed out in our December 2004 report, the current premiums that corporations pay the PBGC to insure their pension
plans do not cover the associated risk of plan termination. Premiums have not increased since 1991, and at least partially
because of this, benefits paid have been far exceeding premiums collected in recent years. To help correct this problem the
Administration proposes to increase the flat rate premiums on single employer plans from $19 to $30 per worker or retiree. In the
past premiums could only be increased by an act of Congress. To help ensure premiums keep pace with increased benefits
costs, the Administration proposes annual increases in premiums that are indexed to growth in worker wages.
The Administration also proposes a risk-based premium. Currently, single employer plans pay $9/$1000 of unfunded vested
benefits that are insured. Under the new proposal all underfunded plans will pay risk-based premiums which will be determined
on how pension plans are funded relative to a funding target. The PBGC will also be granted the authority to adjust these
premiums so that revenue is sufficient to cover losses and to improve the financial condition of the PBGC.
The Administration’s three prong proposal is what is necessary to turn the tide on the massive underfunding problem that has
plagued traditional pension plans. It also should help shore up the growing deficit at the PBGC. If enacted, the proposal would
strengthen corporate funding of traditional pension plans, provide better information to the public about pension funding, and
allow the premiums the PBGC charges to better account for the risk of assuming a corporation’s underfunded plan.
Will We See Reform in 2005?
The odds are good we will see a reform bill out of Congress this year. The real question is how watered down will it be before it
reaches the President’s desk? Remember this is a very politically charged issue and the lobbyists will be out en masse. Last
year a similar proposal was put forward by the Administration, and after Congress was finished with it, the new rules actually
eased pension funding requirements. Let’s hope that doesn’t happen again.
You can be assured that corporations with underfunded pension plans will be arguing that any rules requiring them to better fund
their plans or increase the premiums they pay to insure them will reduce corporate profits. They will also argue that these rules
will force them into distressed terminations in which case the PBGC becomes the trustee of more pensions. This would have the
negative effect of increasing PBGC’ s liabilities. Don't buy it. Premiums have been lagging benefits payments by a long way. In
fiscal 2004 the benefits paid were double the premiums collected. What that means is corporations have been getting a free ride
(or at least a heavily discounted one). In fact, it is unfair to corporations that don't have traditional pensions to give the ones that
do a free ride. It gives these corporations a leg-up in attracting employees relative to corporations that don’t have pension plans,
and the advantage is subsidized by the PBGC (and by you and me if a bailout is required).
Conclusion:
Congress should not cave to the argument that they will be putting an undo burden on corporate America when they take up the
issue of reform for traditional pension plans this year. If corporations cannot afford their pension plans, it is better to know it now
then to find out when the problem is even larger. In actuality, Congress will be leveling the playing field for all corporations by
strengthening pension funding rules. By drafting a bill that follows the Administration’s proposal, Congress also will be
strengthening the pensions of tens of millions of Americans and protecting the rest of us from a potential bailout of the PBGC.
Let’s hope Congress is up to the political challenge of working out America’s pension funding problem this year. At least it
appears that the Bush Administration is prepared to use some of its “political capital” to get this done.