Everyone has their own perspective on government’s role in our daily lives. Is it there to provide aid and assistance or is meant to merely provide the framework for us to govern ourselves? In the context of the US pension plan system, what started out as a framework for the provision and funding of retirement benefits, has evolved most recently into a pattern of government assistance – but to what end? Is it intended to benefit the employees, the plan sponsors or the government itself?
Dating back 40 years, the Employee Retirement Income Security Act of 1974 (ERISA) was enacted to give participants a better understanding of their eligibility and entitlements from their pension plans. It also defined the rules for determining the minimum and maximum tax deductibility of contributions, precluded discrimination in favor of highly compensated employees over rank-in-file, and prevented the misuse of plan assets for means other than the benefit of plan participants. At the same time, it established the Pension Benefit Guaranty Corporation (PBGC), a pension insurance system intended to protect participants’ benefits up to specified limits set by law. All-in-all, it provided some much-needed structure to an otherwise rudderless system.
In good times, when the market was strong, interest rates were high and plans were well-funded, these rules permitted plan sponsors to avoid contributions, despite the fact that participants continued to earn benefits each year. At the time, this was a win-win for companies and the government. Companies found “better” uses for their cash, and the government benefited from greater tax revenue when fewer deductions were taken. However, it neglected to consider the future benefit security of participants should a downturn occur.
In the early 2000s, with the failure of several high profile companies putting a strain on the PBGC, it was time for new reform. So the government signed into law the Pension Protection Act of 2006 (PPA), the most significant pension legislation since ERISA. In a speech at the signing of the bill, President Bush read, “This bill establishes sound standards for pension funding, yet, in the end, the primary responsibility rests with employers to fund the pension promises as soon as they can.” In fact, PPA funding rules accelerated the contributions sponsors were required to make in an attempt to shore up the funding of pension plans, taking pressure off the PBGC. Again, the government recognized a gap in the system and implemented a new framework to address the immediate concerns of plan participants while holding plan sponsors accountable.
The timing of PPA was unfortunate. Just as plan sponsors’ funding requirements were picking up, the market and interest rates were backing down – causing a “perfect storm.” In response to pleas from plan sponsors, the government stepped in again and offered temporary funding relief – most notably in 2012 with the signing of the act known as MAP-21, or Moving Ahead for Progress in the 21st Century. From the sponsor’s perspective, it reduced immediate cash requirements by as much as 50% or more in 2012, with sustained assistance through 2016. From the government’s perspective, it again increased tax revenue by significantly reducing deductible contributions. But what did it do for participants?
A few weeks ago, an extension of MAP-21 was introduced by the House which would further reduce the contribution requirements through 2018 and beyond. In an April 17, 2014 letter from the American Academy of Actuaries (AAA) to the leaders of the House and Senate, the AAA Pension Finance Task Force writes, “The amount of benefits paid to plan participants would not be changed by these legislative proposals, but the security of promised benefits may be reduced. Lower contribution requirements will very likely result in lower plan assets, providing less security for participants and increasing risk for the Pension Benefit Guaranty Corporation (PBGC). “
There is no doubt that without government intervention, many more plans would have wound up in the hands of the PBGC – likely resulting in reduced benefits to participants. But delaying contributions also puts these plans at risk. While the government’s involvement provides relief to companies in the most dire of situations, sponsors need to consider their responsibility in the future of these plans. Let’s fund these promises as soon as we can.