Underfunded Pension Plans: A Threat To Your Clients?

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The question of whether consumers are adequately funding their retirement is now also being asked of their employers, and the answer is prompting some financial advisors to offer ways for clients to protect their financial future.

Estimates suggest pension plans are underfunded by roughly $300 billion, according to Jeffrey Speicher, a spokesman for the Pension Benefit Guaranty Corp., Washington.

If a plan insured by PBGC is unable to meet its obligations, then participants age 65 and over would receive up to $43,970 per year, with the amount grading down on an actuarial basis for younger plan participants, he says.

The mere fact that the defined benefit plans of some companies are underfunded is not necessarily reason to sound off alarm bells, although it may be cause for more scrutiny, according to interviews.

The funding in a plan is “utterly predictable and cyclical” and tracks the stock market, says John McFadden, a professor of taxation with the American College, Bryn Mawr, Pa. “It is like the seven lean years and the seven fat years.”

If a client is in an underfunded defined benefit plan, then in theory an advisor can focus on building other parts of a clients investment portfolio to diversify any risk associated with the underfunded plan, says Brian Orol, principal with Strategic Financial Planning Group, LLC, Raleigh, N.C.

But, the reality is that “often when an employee is expecting a pension, that is the nucleus of their retirement plan,” he adds.

Susan Wier, an executive vice president with First American Trust, Bloomington, Ind., and chair of the Financial Advisors Task Force of the National Association of Insurance and Financial Advisors, Falls Church, Va., says she advises clients not to have more than 10% of total invested assets in any one company, including an employer.

But sometimes, she continues, a client can have a much greater percentage in an employer because of stock options. In such cases, she recommends that a client sell some of that stock in stages at certain prices.

For clients with individual stock holdings, Wier says an advisor should consider the underfunded pension as one among a number of factors used in evaluating stock.

For the client who is considering retirement now as opposed to several years from now, Wier says the low interest rate used in plan assumptions is an important factor to consider.

Given the current low interest rate environment, it might be worth considering retiring now, she says. The reason is that if a lower interest rate assumption is used to calculate the money the employee should get from the plan, the current amount is higher, Wier adds. If rates climb in the next few years, the calculation produces a lower sum, she adds.

For a client who is relying on a pension plan of a financially weakened company, an adjustment in expectations needs to be made, says Amy Noel, a principal with Noel Financial Planning, Boulder, Colo.

Often, this means a combination of simplified lifestyle and more aggressive saving is necessary, she adds.


Reproduced from National Underwriter Life & Health/Financial Services Edition, August 4, 2003. Copyright 2003 by The National Underwriter Company in the serial publication. All rights reserved.Copyright in this article as an independent work may be held by the author.