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Retirement Planning > Saving for Retirement

Can This Pension System Be Saved?

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U.S. employers seem to be celebrating the 30th anniversary of the Employee Retirement Income Security Act of 1974 by putting more nails in the traditional pension system’s coffin.

Officials at the Pension Benefit Guaranty Corp., a mandatory pension benefit insurance program, hope changes in laws, regulations and marketing strategies will revive the market for traditional defined benefit plans.

A solid pension plan is a great vehicle for increasing workers’ retirement income security, and the recent stock market slump reminded everyone of the value of benefit guarantees, PBGC officials argue.

But retirement plan experts interviewed say there is no easy way to turn back time, especially in the market for midsize retirement plans.

Although inertia has saved defined benefit plans at many big companies, and tax breaks have induced owners of some small companies to set up defined benefit plans, “I have not seen [a new defined benefit plan] go beyond 10 employees in years,” says Scott Betts, vice president of operations at National Benefit Services Inc., Sandy, Utah.

Betts reports that he recently helped shut down one sponsor’s last defined benefit plan because the sponsor was worried about investment market volatility.

A company that sponsors a traditional defined benefit pension plan sets aside a certain amount of cash to back up benefits obligations.

When President Gerald Ford signed the bill that brought ERISA to life in 1974, he wanted to make sure that pension plan sponsors contributed enough cash, and he also wanted plan fiduciaries to manage the plan assets carefully.

ERISA begat the PBGC. ERISA itself and the PBGC’s own rules require sponsors of defined benefit plans to pay premiums to the PBGC and meet many plan administration requirements. In return, the PBGC provides some protection for members of plans that fail.

Richard Berner, chief U.S. economist at Morgan Stanley & Company Inc., New York, says the defined benefit pension system is worth saving because defined benefit plans offer 3 characteristics that often are absent from other retirement products: pooling of risk, professional asset management and deferral of income.

The gyrations of the stock market have increased the allure of defined benefits, and so has the fact that many baby boomers are approaching retirement age, says Virginia Wentz, an advisor with Stephen H. Rosen & Associates, Haddonfield, N.J., who specializes in helping entities with 1 to 50 employees.

But the number of PBGC-insured single-employer plans fell to 29,500 in 2003, from 112,000 in 1985, according to the PBGC. Only 17% of American workers now participate in defined benefit pension plans, down from 44% in 1974. Meanwhile, the share of workers participating in defined contribution retirement plans has risen to 48%.

The benefits provided by 401(k) plans and other defined contribution plans are not PBGC-insured, but young workers often prefer defined contribution plans because the plans offer portable, clearly visible benefits, according to Dallas Salisbury, president of the Employee Benefit Research Institute, Washington.

“While people say the idea of a monthly income stream from retirement is attractive, when confronted with a payout decision, they will lean toward lump sums,” says Anna Rappaport, a principal in the Chicago office of Mercer Human Resources Consulting.

“While a defined benefit plan is purely employer paid, the value to the employee is not always very well understood,” says Wentz, the New Jersey advisor.

But experts say employers? concerns about defined benefit plans are partly responsible for the shift to 401(k) plans.

The securities analysts who follow large, publicly traded companies see defined benefit plans as liability time bombs, Salisbury says.

Accounting regulators will play a big role in determining the future of U.S. retirement plans, according to Berner, the Morgan Stanley economist.

Some regulatory reform proposals would actually work against defined benefit plans, at least in the short run, Berner says.

One example is a proposal developed by the Financial Accounting Standards Board, Norwalk, Conn. The FASB proposal, which would require defined benefit plan sponsors to mark all pension assets to market, would have depressed reported pension plan median annual net income by as much as 20 percentage points had it been in effect, Berner says.

“Corporate managers are understandably wary about such earnings volatility and will act aggressively to protect the plan sponsor from it,” Berner says.

Boston-based financial marketing strategist David Macchia says he is mad as hell at the trend toward defined contribution plans, which he sees as the “sacrificing of the retirement security of America on the altar of making things easier for corporate America.”

The arrival of 401(k) plans in the 1980s weakened joint efforts by the government and industry to provide for retirement security, Macchia says.

“So why are people trying to get out of defined benefit plans?” Macchia asked. “It may be that they don?t know if their employer is going to go bankrupt. But I don?t think that is an indictment of defined benefit plans. I think that is an indictment of the standards that have been set all around them.”

The government could give defined benefit plans some relief.

“Congress will again try to create new, simplified pension plans to induce more small employers to offer retirement benefits,” says James Klein, president of the American Benefits Council, Washington. “And the tax expenditure for retirement savings will become less vulnerable to attacks over time.”

Some advisors are trying to work within the current regulatory system to bring back defined benefit pension plans.

Congress recently helped advisors who sell very small plans by increasing the maximum amounts that business owners can contribute.

“Most of the people who go into a defined benefit plan are small business owners who are approaching retirement age and who have saved a whole lot for retirement,” Wentz says.

But only extremely wealthy, extremely generous owners are setting up plans with more than a few employees, because the plans have to be fair and provide nondiscriminatory benefits for the employees, Wentz says.

Macchia, an advisor to financial firms that market retirement programs, is developing what he calls “personal defined benefit plans.” But he faces an employee base more inclined to accept the lump-sum cash payouts and a corporate base looking to rid itself of defined benefit costs.

“The challenge is to show leadership to show people what is at stake and how best to cope along with developing the kind of features that will appeal to today?s market,” he says.

Betts says some employers he works with are going with a profit-sharing plan that has a new type of comparability allocation formula.

The cash going in “is employer money, but it is spread on a salary and age basis,” Betts says. “So it is kind of like a defined benefit calculation. But it is not tied to earnings, but rather age and proximity to retirement.”

Reproduced from National Underwriter Edition, October 14, 2004. Copyright 2004 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.


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