Do you know how much keeping former employees in your defined benefit plan costs? Mercer's US Pension Buyout Index for November 2013 reports that as of December 31, 2013, the economic cost of retaining retiree liabilities exceeded the buyout cost.
An important factor is that, last year, Congress increased the annual base premium payable for each Pension Benefit Guaranty Corporation (PBGC) insured defined benefit plan participant from $50 to $57 for 2015 and to $64 in 2016. This will make the cost of retaining terminated participants in U.S. defined benefit plans more expensive relative to providing them with lump sum payouts or fully paid up annuity contracts, actions which remove them from the balance sheet and the PBGC insurance program. And recent improvements in plan funding levels from the stock market boom and interest rate increases have made more plans eligible to consider de-risking payouts, since lump sum payments and annuity purchases are restricted for plans that are less than 80% funded under IRS rules.
De-risking in this manner won't be the choice for all plan sponsors, but they are paying more attention than ever to their options. On January 29, 2014, Aon Hewitt reported that its survey of more than 220 U.S. companies showed that 12% of plan sponsors recently introduced or expanded the availability of lump sum options for former employees, and 43% are likely or somewhat likely to introduce a lump sum window for former employees during 2014.
Sponsors may also consider annuitizing groups of participants as steps towards complete termination, or as they retire. And those who are not ready to move forward on de-risking payouts can better match their plan's investments to liabilities as funding improves, something Aon Hewitt reports is under consideration by 62% of sponsors.
There are legal and accounting issues to add to the decision tree as well. For example, the law is not clear whether lump sum options may be offered to retirees already getting monthly pensions, although the IRS in non-binding authority permitted some sponsors to do so. The Department of Labor's advisory council recently considered whether new rules governing de-risking would be appropriate to consider. Some actions will trigger accounting gains or losses.
And there may be U.S. litigation risk as well, despite the fact that paying lump sums and buying annuities for U.S. retirees are long-standing pension practices. The Verizon litigation I have been tracking on this blog for some time refuses to die. Verizon retirees tried unsuccessfully to block Verizon's annuitization of their pensions through Prudential, arguing that it violated numerous provisions of pension law and improperly removed them from the PBGC insurance program. Plaintiffs were allowed to file a new amended complaint. Oral argument on Verizon's motion to dismiss this complaint will be held soon.
It is too early to tell whether we will have major U.S. buyouts in 2014, but not too early for plan sponsors to put themselves in a position to make informed decisions about de-risking by monitoring their plan's investments and funding options and keeping abreast of legal developments.
The content of this article is intended to provide a general guide to the subject matter. Specialist advice should be sought about your specific circumstances.