should pensions be linked to employment? · 2018. 8. 23. · senior pension fellow american academy...

Copyright © 2006 by theAmerican Academy of Actuaries

RON GEBHARDTSBAUERSENIOR PENSION FELLOW

AMERICAN ACADEMY OF ACTUARIES

AARP/EBRI Pension ConferenceMonday, May 15, 2006

10:15 am – 11:15 amRonald Reagan Building (Atrium Ballroom)

Washington, DC

Should Pensions Be Linked to Employment?


Should Pensions Be Linked to Employment?• Wrong question

– How could we prohibit employer sponsorship?• Not perfect, but better than alternatives

– Valuable for diversification– Employers willing– Helps government– Helps workers

Question should be: How much should pensions be encouraged?


Employer System Not Perfect• Unemployed won’t get pensions, but …

– Nonworking spouses covered by working spouse’s plan• Half of workers don’t have a plan at work

– Pensions less likely at small new firms (may start pension later)– IRA maximum inadequate?

• Mobile workers may not do as well in final pay DB plans– Choice of job/change in job entails need to save more

• Bankrupt employers– PBGC covers DB plans: < 1% don’t get full accrued benefit– ESOPs not great. Allow workers to diversify


Advantages of Employer System

• Diversification by Source – Like diversification by asset type– If government has tough times and has to cut

Social Security, OR– If markets are weak or employees can’t save, then – Employees will need company pension


If Employers Are Willing…

• To sponsor a plan for business reasons– To attract and retain employees– To retire employees without pushing them out

• Or for moral reasons– To be good corporate citizens (and it may attract

investment, customers, etc.)Why not let employers have a pension plan?


If It Helps Government…• Relieve pressure on needing larger Social Security

benefits– Unlike continental Europe

• Relieve Medicaid and other anti-poverty programs• Reduce taxes

– Social Security: $1 in taxes needed for $1 in benefits– Pensions: 35¢ in taxes needed for $1 in benefits

• Helps US markets be more efficientWhy not encourage employer pensions?


If It Helps Workers…• To save more, invest better, and have lifetime income

– I can save, invest efficiently, and annuitize, but most won’t– Automatic employer contributions (DB & MPP)– Automatic payroll deductions (DC)– Investments managed (DB)– Default life cycle investments (DC)– Automatic annuitization & pooling of risk (DB)

• Greater efficiencies of groupWhy not encourage employer pensions?


The Question Should Be:

How much should pensions be encouraged?

• Pension savings is down due in large part to:– Less Encouragement through public policy– More discouragement through public policy


Pension Savings Is Down

0%

2%

4%

6%

8%

10%

12%

1975 1980 1985 1990 1995 2000 2005

% o

f Disp

osal

Per

sona

l Inc

ome


Pensions Are How We Save

0%

2%

4%

6%

8%

10%

12%

1950 1960 1970 1980 1990 2000

% o

f Disp

osal

Per

sona

l Inc

ome

Personal SavingsExcluding Pensions

Note: National savings is net of dis-saving by retirees & capital gains are excluded. Wealth is increased by appreciation in homes, but that is not in national savings.


Less Encouragement

• Lower tax rates on capital gains & dividends– Eliminated over ½ of tax advantage of DB & DC

plans– But didn’t reduce compliance costs for pension

plans– So now, the tax advantage may not be enough to

justify compliance costs for some employers• So they will get out (greater tax advantages in

1940s helped spur more pension plans)


More Discouragement• Increasingly complex regulation (mostly DB)• Contributions in good times discouraged (DB)

– Penalties for contributing more– Employers can’t get economic value from surplus

• Deregulation & Globalization– Easier to cut pensions than wages or health insurance

• Increasing litigation• Lack of clarity in rules for hybrids (DB)• Perfect storm: stock crash/low interest rates (DB)


More Discouragement• Volatility will increase due to

– Proposed funding rules (DB)– Proposed accounting rules (DB)– Unless immunize with bonds– But employers don’t want 100% bonds– Even though there is tax arbitrage

• Stockholder can compensate by holding more equity– Because it makes pension plan more expensive

• Pension plans are proportionately bigger relative to company’s net revenue and worth, so the risk is greater– Average age of workers (with large benefits) is way up– Proportionately more retirees due to shrinking workforces


Well, not exactly:• We encourage 401(k) arrangements with non-level playing field

– Same tax advantages as DB but simpler rules & more flexibility– If adequate funds can be saved in 401(k)s (and NQ plans) for top guys, but

• Less restrictions• Pre-tax employee contributions and employer matches allowed• 30% of employees don’t participate = no cost to employer

– Why have a DB plan? No wonder employers are freezing their DB plans!– Only 64% of Fortune 100 now have a DB for their new employees

• Employees generally don’t save as much in 401(k) arrangements– No wonder retirement savings is down!


So Question should be:• How much should DB plans encouraged?• In the past DB plans were encouraged more than DC

– With inadequate contribution limits for top guys in DC plan– Now NQ plans & higher 401(k) limits reduce that problem


Participation Rates in Pension Plans (by type)50%

45%

40%

20%

37%

6%

13%

0%

10%

20%

30%

40%

50%

1975 1980 1985 1990 1995 2000 2005

% o

f Lab

or F

orce Total

DB

401(k)Other DC

Why are DB & MP down? Favorable laws for 401(k), especially pre-tax contributions, match, and improved deductions; employers with mobile workforces desire for Cash Balance plans thwarted by court cases and lack of clarity in laws. Sources: Workers from BLS statistics: employed (FT & PT) and unemployed wage & salary workers (DOL table E4 & BLS for 2001). Coverage from DOL/EBSA 2/06 Abstract of 2001 Form 5500 data Tables A2 & D3. Several studies including those of Watson Wyatt, Aon, and Academy all suggest that ~20% of plans have been frozen, closed, or terminated recently.


Less Funds in DB PlansAssets by Plan Type/Sponsor 1985

DB33%

401(k)6%

OthrDC12%

Insured15%

Fed7%

State govt17%

IRA Keogh

10%

Assets by Plan Type/Sponsor 2006

DB12% 401(k)

15%

OthrDC5%

Insured15%Fed

7%

State govt19%

IRA Keogh

27%


Why Encourage DB?• Workers more likely to get lifetime income

– Spouses, too• Generally, all full-time workers covered• Assets generally managed better than if each

person invests on their own• DB generally more efficient• Incent DB advantages & get 401(k) to do them


Suggestions• Incent positive elements of DB plans

– Tax lifetime distributions at capital gains rates (DB & DC)– Tax lump sums more

• Get 401(k)s to mimic the positive DB provisions– Require minimum employer contributions (e.g., 1% of pay)– Automatic enrollment at hire– Automatic increases at pay increases– Automatic life cycle investments– Disclose investment fees prominently & compare with others– Require 50/50 split of assets to couples– Encourage annuities thru advice, defaults, consent, etc.


Suggestions• Enact DB-K provision in Senate bill

– Allows more hybrid ideas– Allows pre-tax contributions and matches in DBs

• Clarify hybrid rules• Allow phased retirement and safety net DB

– Increase age 70 ½ RMD age to 75 or 80– Increase age 65 with Social Security’s NRD

• Allow side fund with relaxed rules for transfers• Require NQ plans to mirror company pension plan


Suggestions• Funding Rules:

– Allow smoothing of minimum contributions for plans with equities

– Allow use of market liabilities for plans with mostly bonds• Accounting Rules:

– Place volatile non-reoccurring charges in something like other comprehensive income (not earnings)

– Use ABO, not PBO• Simplify pension rules for small companies• Require employers to offer payroll deduction to IRAs


Some Good NewsMedian Funding Ratios of 100 Largest

Sponsors of DB Plans

92%

102%

83%

91%

96% 98%109%

97%100%

81%96%

123%117%

89%86% 90%80%

90%

100%

110%

120%

130%

1998 1999 2000 2001 2002 2003 2004 2005 2006 2007EOY

ABOABO on S&P500PBOPBO on S&P500

The American Academy of Actuaries is a national organization formed in 1965 to bring together, in a single entity, actuaries of all specializations within the United States. A major purposeof the Academy is to act as a public information organization for the profession. Academy committees, task forces and work groups regularly prepare testimony and provide information toCongress and senior federal policy-makers, comment on proposed federal and state regulations, and work closely with the National Association of Insurance Commissioners and state officials on issues related to insurance, pensions and other forms of risk financing. The Academy establishes qualification standards for the actuarial profession in the United States andsupports two independent boards. The Actuarial Standards Board promulgates standards of practice for the profession, and the Actuarial Board for Counseling and Discipline helps toensure high standards of professional conduct are met. The Academy also supports the Joint Committee for the Code of Professional Conduct, which develops standards of conduct forthe U.S. actuarial profession.

should pensions be linked to employment? · 2018. 8. 23. · senior pension fellow american academy...

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