High Pension Costs: When and Where is the Peak
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For private pension plans that must comply with the funding rules introduced by the Pension Protection Act of 2006, investment performance and interest rate levels drive the contribution requirements. The collapse of the stock market in 2008 has been followed by extremely low interest rates in 2009 and 2010, increasing costs in nearly all U.S. private pension plans. How high will they get and when will we get over the hump?
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High Pension Costs: When and Where is the Peak
- 1. High Pension Costs When and Where is the Peak? Presented by John Dowell, Actuary www.nyhart.com Copyright 2011. All Rights Reserved.
- 2. John Dowell Actuary and Principal john.dowell@nyhart.com 317-845-3580 Qualifications or certifications:Fellow of the Society of Actuaries; Enrolled Actuary; Member of the American Academy of Actuaries; Fellow of Conference of Consulting Actuaries.
- 3. Defined Benefit Plans: Yesterday & Today Late 20th Century Early 21st Century
- 4. Contribution RequirementsUnder the Pension Protection Act 1. Plan Sponsors must contribute at least the minimum required contribution
- 5. Contribution RequirementsUnder the Pension Protection Act 1. Plan Sponsors must contribute at least the minimum required contribution 2. Plan Sponsors may choose to contribute an additional amount to keep the plan’s funded percentage at 80% or higher to avoid problems
- 6. Contribution RequirementsUnder the Pension Protection Act 1. Plan Sponsors must contribute at least the minimum required contribution 2. Plan Sponsors may choose to contribute an additional amount to keep the plan’s funded percentage at 80% or higher to avoid problems 3. The key is the current level of assets to the current level of liabilities
- 9. Many other factors influence the plan’s funded percentage, but investment results and the level of corporate bond rates are usually the biggest driversKey Drivers of Funded Percentage
- 10. Why are Costs Currently So High? Investment losses in 2008 have not been fully offset by gains in 2009 and 2010 Typical returns for 2008, 2009, and 2010 have been -25%, 20%, and 10% for a three-year cumulative return of under 1% Result is a 20% loss in asset value relative to expected 7% annual returns
- 11. Why are Costs Currently So High? Corporate bond rates have been extremely low since the second half of 2009 when compared to historic norms, driving liabilities higher
- 12. Recent Corporate Bond Rates
- 13. What Costs Are Plans Seeing Today? Required contributions in 2011 and 2012 will generally be higher than in recent years
- 14. Let’s look at a few scenarios… In the following charts, expected contributions are illustrated over the next five years Even though the current year accruals plus expenses cost less than $1 million per year, this sponsor will need to pay $3 million - $4 million for each of 2011 and 2012 Unless interest rates increase, this trend will likely continue for several years
- 15. Scenario 1 - Baseline
- 16. Scenario 2 - Pessimistic Scenario 2 - Pessimistic
- 17. Scenario 3 - Optimistic
- 18. So Where is the Peak? With average investment returns and no change to the current interest rates, contribution requirements will reach the high point in 2012 and remain there for several years until the funded percentage returns to 100% Negative Returns (possible) and/or Lower Interest Rates (not likely) Could Result in Contribution Requirements Continuing to Rise for Several More Years, Depending on the Severity of the Bad News If Interest Rates Increase By 100 Basis Points or More, Contribution Requirements Will Decline Fairly Quickly Because rates are averaged over two years, it will take a couple of years for costs to decline Plans will likely see high requirements drop quickly to zero within a few years of rates increasing
- 19. So Where is the Peak? So Where is the Peak? Negative returns (possible) and/or lower interest rates (not likely) could result in contribution requirements continuing to rise for several more years, depending on the severity of the bad news
- 20. So Where is the Peak? So Where is the Peak? If interest rates Increase by 100 basis points or more, contribution requirements will decline fairly quickly
- 21. Any Questions? This concludes our discussion
- 22. Looking for more benefit presentations? So Where is the Peak? Register for upcoming educational events on pensions, 401(k), healthcare and other actuarial and employee benefits topics at: www.nyhart.com/events/
- 23. ACTUARY & EMPLOYEE BENEFITS 16 Actuaries Consulting In 48 States. Nyhart is one of the nation’s largest independent actuarial and employee benefit firms, consulting to and administering the plans for clients with more than $14 billion in assets. Our team of benefit advisers deliver personalized analysis and recommendations, translating complex calculations and issues into common language that enables corporations, associations, churches and governments to effectively manage their retirement and health care benefits.
- 25. Defined Benefit & Pension
- 26. Defined Contribution & 401(k)
- 27. Employee Stock Ownership Plan
- 28. Flexible Spending, HRA & HSA
- 29. Healthcare Actuarial ConsultingLearn more at www.nyhart.com
Notes de l'éditeur
- Normal cost, i.e. the value of benefits expected to be earned in the current year, plus Administrative expenses expected to be paid by the plan in the current year, plus An amortization of the plan’s shortfall Generally, a seven-year amortization of the difference in liability and assets Can result in significant fluctuations in minimum required contribution Offset by the plan’s credit balance, if eligible
- Depending on the forms of payment offered by the plan, dropping < 80% can cause significant administrative problemsFunding flexibility will be limited by restrictions on the use of credit balanceSpecial at-risk rules may applyPBGC 4010 filing may be requiredMeeting this requirement can result in severe fluctuations in contributions
- Current year accruals affect the minimum, but fluctuation in contributions is caused by asset value compared to past service liability
- The difference between actual investment returns and expected investment returns are gradually smoothed into the Plan’s asset value over three years The Plan’s liability value is the value of all benefits to be paid in the future that have currently been earned, discounted at corporate bond rates The IRS publishes the monthly corporate bond ratesLiabilities are measured using the average of the rates for the 24 months preceding the valuation date
- Because rates are averaged over two years, it will take a couple of years for costs to declinePlans will likely see high requirements drop quickly to zero within a few years of rates increasing
- Because rates are averaged over two years, it will take a couple of years for costs to declinePlans will likely see high requirements drop quickly to zero within a few years of rates increasing
- Areas of Expertise Include: Cash Balance Plan Defined Benefit & Pension Defined Contribution & 401(k) Employee Stock Ownership Plan (ESOP) Flexible Spending, HRA & HSA Healthcare Actuarial ConsultingLearn more at www.nyhart.com
- Areas of Expertise Include: Cash Balance Plan Defined Benefit & Pension Defined Contribution & 401(k) Employee Stock Ownership Plan (ESOP) Flexible Spending, HRA & HSA Healthcare Actuarial ConsultingLearn more at www.nyhart.com