Another blow to private pension plans

The American industrial icon General Electric recently made an ominous announcement: it is freezing its corporate pension plan, effectively shutting off any future accrual of benefits for the 20,000 workers covered by the plan (the pool had already been closed to new hires since 2012). Like many corporations, GE had underfunded the plan over time and today finds itself $8 billion behind in pension contributions, a gap which must eventually be closed.

So what happens if your pension plan closes up shop? It depends on whether the employer lives or dies.

Assuming that the firm avoids bankruptcy, it will likely seek to systematically dissolve the current structure while protecting the income of existing retirees and preserving the accrued benefits of present participants.

In the case of GE, the company will continue to gradually make up the deficit over time but will not credit any additional pension benefits to workers after the effective freeze date. All participants must become 100% vested at that point.

The longer-term objective is to eliminate the pension altogether once it is solvent. This is typically done by offering to purchase a guaranteed income annuity for retirees, or to offer a lump sum payment of accrued benefits. New hires and current workers henceforth participate in a defined contribution plan like a 401(k), typically including an employer matching contribution.

What if the employer goes kaput? In general, private sector pension plans are partially insured by a quasi-governmental entity known as the Pension Benefit Guaranty Corp. The PBGC is a self-funded agency that was created as part of the 1974 retirement security reform legislation to provide a backstop against bankrupt companies reneging on retirement income promises to their workers.

When a company files for bankruptcy, the PBGC reviews the status of any defined benefit plans and recommends a course of action. First and foremost, the agency tries to help the employer maintain the plan intact, by adjusting benefits or funding levels to make the plan viable. In the event that the company cannot correct plan deficiencies, or if ordered by the bankruptcy court judge, PBGC steps in and takes over the pension plan. In that event, PBGC assumes all the duties of running the plan and paying the beneficiaries.

During fiscal year 2018, the PBGC paid benefits to nearly 1 million retirees in 5,000 failed retirement plans.

While protected from a wipeout, retirees do not necessarily receive the full benefits promised by the original plan depending on the year in which the plan failed. Currently the legal limit (set by Congress and adjusted annually) is $67,295 per year for a 65-year-old retiree.

The PBGC receives no taxpayer money but is funded by insurance premiums from employers with pension plans. These premium payments, along with plan assets taken over and investment returns on those assets, fund retiree payments. But given the number of terminations in recent years, the agency faces a current funding shortfall with respect to so-called “multiemployer plans,” typically union-based pensions sponsored by several employers (auto manufacturers or coal miners, for example).

In particular, the recent bankruptcy filing of coal giant Murray Energy has led to speculation that the United Mine Workers pension fund may land in the lap of the PBGC, exacerbating a funding crisis that already anticipates insolvency by 2025. Efforts to address the shortfall are currently stalled in Congress but will likely move ahead.

Traditional pension plans still predominate in government entities but are a dying breed in the private sector. The recent GE move away from its pension is another in a long list, but will not be the last.