The funded status for most defined benefit pension plans in the U.S. is expected to drop significantly, and plan sponsors face sharply higher contributions for 2011, according to an analysis by actuaries at Mercer, an HR consulting and outsourcing firm. Mercer estimates that among the private-sector plans it studied, more than two-thirds will see required contributions for 2011 jump from 2010 by at least 50 percent, and at least one-quarter will likely see contributions more than double.
Historically low interest rates driven in large part by U.S. economic policy, together with prior equity declines, will hit plan sponsors with a vengeance in 2011, but the full effects of this one-two punch won’t be fully felt until 2012 and beyond, according to Mercer's October 2011 report, Estimated 2010/2011 Required Contributions and Credit Balances. The report reflects an analysis of 849 surveyed calendar-year plans, which had combined assets exceeding $191 billion as of Jan. 1, 2010, and covered more than 4.4 million participants. This survey group represents roughly 16 percent of U.S. qualified single-employer defined benefit pension plans with assets exceeding $50 million (and a smaller percentage of plans with assets less than $50 million).
These huge and continuing cash calls, the slow economic recovery and big potential increases in Pension Benefit Guaranty Corporation (PBGC) premiums under consideration in Congress could place many plan sponsors in a difficult position.
These are some of the conclusions from a Mercer analysis of 849 private-sector single-employer plans subject to the Pension Protection Act (PPA).
“Past periods of big declines in equity values coupled with falling interest rates have been referred to as a ‘pension perfect storm,’ but the trajectory for cash contributions continues to point skyward,” said Craig Rosenthal, a partner in Mercer’s retirement, risk and finance business. “These dramatically increasing contributions could drive some employers out of the pension system. This should give pause to policy-makers as they consider proposals for big hikes in PBGC premiums and bring an urgent focus on funding reform proposals that would cushion sponsors from dramatic swings in interest rates.”
Without changes to the pension funding rules, Mercer expects the funded status for many plans in 2011 will likely decline significantly as a result of prior periods of equity declines and falling interest rates, with the following implications:
• Funded ratios to fall. The aggregate 2011 funding ratio for surveyed calendar-year plans is expected to drop to 86 percent from 101 percent in 2010. Roughly half of surveyed plans would have needed 2010 contributions in excess of the minimum required amount to prevent their 2011 funded ratios from falling below 80 percent—a critical PPA threshold for measuring funded status that triggers benefit restrictions and might trigger the law’s more onerous “at-risk” funding requirements.
• Required contributions soar. For the surveyed plans, 2011 required contributions are expected to be much higher than required 2010 contributions. Nearly two-thirds of the plans are projected to see an increase of at least 50 percent, and more than one-quarter are expected to have their required contributions more than double.
• Credit balances wither. Total credit balances for the surveyed plans are expected to drop by roughly half in 2011 from 2010. More than 42 percent of the surveyed calendar-year plans had credit balances less than half of their required 2010 contributions, and more than one-quarter of surveyed plans had no credit balance to offset their contributions. For 2011, 63 percent of the surveyed calendar-year plans are estimated to have credit balances less than half of their required 2011 contributions, and nearly half will probably have none.
• Cash contributions skyrocket—up eightfold in just two years. Assuming that sponsors use available credit balances to satisfy their minimum contribution requirement, the remaining required cash contribution is projected to be nearly three times larger for 2011 than for 2010, after more than doubling from 2009 to 2010. The combined increase in aggregate required cash contributions from 2009 to 2011 is projected to be 690 percent, meaning that sponsors of surveyed plans will need to contribute nearly eight times more to their plans for 2011 than for 2009, as illustrated in the chart below.
• Additional contribution increases expected in 2012. Further sizable increases in minimum required contributions and cash contributions are expected for 2012 as equity markets remain volatile, interest rates continue to decline and credit balances are exhausted. These events will place additional pressure on pension plan funding levels and trigger higher required contributions for coming years because of the short time for funding unexpected changes in investment returns and interest rates under PPA.
(click on chart to view larger version.)
Stephen Miller, CEBS, is an online editor/manager for SHRM.
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