Tag Archives: Zorast Wadia

Is the “window” closing for lump-sum windows?

Offering lump-sum windows to terminated vested participants has financial pros and cons for defined benefit plan sponsors. The regulatory environment in 2016 presents sponsors with a unique opportunity to de-risk pensions through lump-sums. However, sponsors may miss an opportunity to capitalize on the financial advantages of offering lump-sums if they defer to later years. Milliman’s Zorast Wadia provides perspective in his article entitled “De-risking your pension plan: Do new regulations make 2016 the best time to offer lump-sum distributions?

Here is an excerpt:

A golden opportunity—perhaps the last of its kind—for lump-sum windows is coming up in 2016. After that, the window may close for quite some time.

The issue, in brief, stems from a disagreement within the actuarial profession. In October 2014, the Society of Actuaries (SOA) published its updated Mortality Tables Report. The new tables included much more optimistic assumptions about longevity than anything that had come before. If these assumptions are correct, employees would live longer, and the cost of funding their retirement benefits would increase in the 6 to 10 percent range for many plan sponsors.

Many in the actuarial community responded critically to the report, based on the table’s construction methodology and conclusions. At the same time, plan sponsors were concerned because the new longevity assumptions would have the effect of increasing funding requirements, pension expense, and PBGC premiums. Implementation of the new SOA mortality tables would also significantly reduce the accounting gains that are one of the key economic benefits associated with lump-sum distributions.

On July 31, 2015, the IRS stepped in and eliminated the controversy—and uncertainty—at least through the end of 2016 with IRS Notice 2015-53. As Milliman stated in its Client Action Bulletin of August 13, 2015:

For defined benefit plan sponsors (including multiemployer pension plan trustees), the updated tables provide certainty that the [new SOA tables] will not be required for 2016. The use of the IRS’s updated tables will have a more modest effect … on actuarial valuation results, including minimum funding, benefit restrictions, lump-sum calculations, and PBGC premiums.

Looking ahead to 2016, plan sponsors know they can benefit from the accounting gain traditionally received from lump-sum transactions. Furthermore, the US Federal Reserve continues to signal that an interest rate increase will take place before the end of 2015, with additional small rate hikes throughout 2016. Moreover, through the first nine months of the year, corporate bond interest rates, which are the benchmark interest rates used to calculate statutory minimum lump sums, are already up about 35 basis points. In fact, plans using a three-month lookback period for interest rates can already lock in this interest rate basis for minimum lump-sum distributions in 2016. The basic math of lump sums means that lump sums due employees will be smaller because of higher benchmark interest rates.

Additionally, it is rumored that, in 2017, the IRS will adopt a new table reflecting longevity improvements, which may be the SOA table6 or something similar. In other words, plan sponsors considering a lump-sum distribution may want to take advantage of the clearly favorable environment in 2016.

Pension funded status improved by 1.2% in 2015

Milliman today released the results of its latest Pension Funding Index, which analyzes the 100 largest U.S. corporate pension plans. In December, these pension plans experienced a $7 billion decrease in funded status based on an $18 billion decrease in asset values and an $11 billion decrease in pension liabilities. The funded status for these pensions decreased from 83.3% to 82.7%. For the year, these pensions improved their pension status by $35 billion, growing from 81.5% at the end of 2014 to 82.7% at the end of 2015.

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The good news is that pension funded status improved in 2015. The bad news is that this improvement was underwhelming and we’re basically in the same place we were a year ago, despite cooperative interest rates.

Looking forward, under an optimistic forecast with rising interest rates (reaching 4.82% by the end of 2016 and 5.42% by the end of 2017) and asset gains (11.3% annual returns), the funded ratio would climb to 95% by the end of 2016 and 109% by the end of 2017. Under a pessimistic forecast (3.62% discount rate at the end of 2016 and 3.02% by the end of 2017 and 3.3% annual returns), the funded ratio would decline to 75% by the end of 2016 and 69% by the end of 2017.

Corporate pension funded status drops by $3 billion in November

Milliman today released the results of its latest Pension Funding Index, which analyzes the 100 largest U.S. corporate pension plans. In November, these pension plans experienced a $3 billion decrease in funded status, based on a $3 billion decrease in asset values and no movement in pension liabilities. The funded status for these pensions decreased from 83.5% to 83.3%.

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November was another middling month for these pensions, and with the calendar flipping soon the book is nearly written on 2015. But with the Federal Reserve potentially raising interest rates at the end of the calendar year, it could be an exciting finish.

Looking forward, under an optimistic forecast with rising interest rates (reaching 4.81% by the end of 2016 and 5.41% by the end of 2017) and asset gains (11.3% annual returns), the funded ratio would climb to 97% by the end of 2016 and 111% by the end of 2017. Under a pessimistic forecast (3.51% discount rate at the end of 2016 and 2.91% by the end of 2017 and 3.3% annual returns), the funded ratio would decline to 75% by the end of 2016 and 69% by the end of 2017.

Corporate pension funded status improves by $25 billion in October

Milliman today released the results of its latest Pension Funding Index, which analyzes the 100 largest U.S. corporate pension plans. In October, these pension plans experienced a $25 billion increase in funded status based on a $33 billion increase in asset values and an $8 billion increase in pension liabilities. The funded status for these pensions increased from 81.7% to 83.3%.

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October was a great month for these pensions, but it may be too little too late as far as 2015 is concerned. Overall funded status has improved by only 1.8% this year, and this would be worse if it weren’t for interest rates inching in the right direction to reduce pension liabilities.

Looking forward, under an optimistic forecast with rising interest rates (reaching 4.26% by the end of 2015 and 4.86% by the end of 2016) and asset gains (11.3% annual returns), the funded ratio would climb to 85% by the end of 2015 and 98% by the end of 2016. Under a pessimistic forecast (4.06% discount rate at the end of 2015 and 3.46% by the end of 2016 and 3.3% annual returns), the funded ratio would decline to 82% by the end of 2015 and 75% by the end of 2016.

Corporate pension funded status declines by $28 billion in September

Milliman today released the results of its latest Pension Funding Index, which analyzes the 100 largest U.S. corporate pension plans. In September, these pension plans experienced a $28 billion decrease in funded status based on a $19 billion decrease in asset values and a $9 billion increase in pension liabilities. The funded status for these pensions decreased from 83.3% to 81.7%.

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The calendar year began with strong equity performance that seemed so promising, and yet here we are looking at an overall decline in equities for the year. It will take a massive rally in the fourth quarter for these 100 pensions to sniff their annual expected return of 7.3%.

Looking forward, under an optimistic forecast with rising interest rates (reaching 4.34% by the end of 2015 and 4.94% by the end of 2016) and asset gains (11.3% annual returns), the funded ratio would climb to 85% by the end of 2015 and 97% by the end of 2016. Under a pessimistic forecast (4.04% discount rate at the end of 2015 and 3.44% by the end of 2016 and 3.3% annual returns), the funded ratio would decline to 80% by the end of 2015 and 73% by the end of 2016.

Corporate pension funded status drops by $22 billion in August

Milliman today released the results of its latest Pension Funding Index, which analyzes the 100 largest U.S. corporate pension plans. In August, these pension plans experienced a $22 billion decrease in funded status based on a $42 billion decrease in asset values and a $20 billion decrease in pension liabilities. The funded status for these pensions decreased from 84.9% to 83.4%.

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Most of the time, interest rate movements drive pension funded status, but the stock market volatility we saw in August stole the show. For the year, these pensions had performed well on the asset side, but August erased all those gains.

Looking forward, under an optimistic forecast with rising interest rates (reaching 4.43% by the end of 2015 and 5.03% by the end of 2016) and asset gains (11.3% annual returns), the funded ratio would climb to 87% by the end of 2015 and 100% by the end of 2016. Under a pessimistic forecast (4.03% discount rate at the end of 2015 and 3.43% by the end of 2016 and 3.3% annual returns), the funded ratio would decline to 81% by the end of 2015 and 74% by the end of 2016.

Milliman Hangout: Pension Funding Index, August 2015

The funded status of the 100 largest corporate defined benefit pension plans worsened by $16 billion during July, as measured by the Milliman 100 Pension Funding Index (PFI). The deficit rose to $261 billion, which was primarily due to a decrease in the benchmark corporate bond interest rates used to value pension liabilities. Pension asset gains during July helped to dampen the funded status decrease. The funded ratio declined from 85.5% to 84.8%. This breaks the upward momentum from the second quarter of 2015, where the funded ratio had increased for three consecutive months.

PFI co-author Zorast Wadia discusses the index’s latest results on this Milliman Hangout.

Corporate pension funded status drops by $16 billion in July

Milliman today released the results of its latest Pension Funding Index, which analyzes the 100 largest U.S. corporate pension plans. In July, these pension plans experienced a $16 billion decrease in funded status based on a $10 billion increase in asset values and a $26 billion increase in pension liabilities. The funded status for these pensions decreased from 85.5% to 84.8%.

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We finally saw an interruption to the streak of improving pension funded status in July. Interest rates drove up pension liabilities last month, but fortunately the discount rate remained above 4%. Interest rates remain the big story this year, contributing to a $66 billion decrease in the pension benefit obligation.

Looking forward, under an optimistic forecast with rising interest rates (reaching 4.39% by the end of 2015 and 4.99% by the end of 2016) and asset gains (11.3% annual returns), the funded ratio would climb to 90% by the end of 2015 and 103% by the end of 2016. Under a pessimistic forecast (3.89% discount rate at the end of 2015 and 3.29% by the end of 2016 and 3.3% annual returns), the funded ratio would decline to 82% by the end of 2015 and 74% by the end of 2016.

Corporate pension funded status improves by $36 billion in June

Milliman today released the results of its latest Pension Funding Index, which analyzes the 100 largest U.S. corporate pension plans. In June, these pension plans experienced a $36 billion increase in funded status based on a $28 billion decrease in asset values and a $64 billion decrease in pension liabilities. The funded status for these pensions increased from 84.1% to 85.6%.

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These pensions cleared an important hurdle this month, with the discount rate that determines pension liabilities climbing above 4% following a seven-month streak of flirting with all-time lows. It’s no coincidence that we’ve seen a related decrease in pension liabilities, with rising discount rates reducing liabilities by $92 billion year-to-date and contributing to a strong quarter for the 100 largest corporate pensions.

Looking forward, under an optimistic forecast with rising interest rates (reaching 4.55% by the end of 2015 and 5.15% by the end of 2016) and asset gains (11.3% annual returns), the funded ratio would climb to 92% by the end of 2015 and 105% by the end of 2016. Under a pessimistic forecast (3.95% discount rate at the end of 2015 and 3.35% by the end of 2016 and 3.3% annual returns), the funded ratio would decline to 82% by the end of 2015 and 74% by the end of 2016.

Longevity plans can benefit employers and employees

A supplemental defined benefit (DB) longevity plan may be able to reduce pension costs for employers and offer employees an annuitized source of income during their later years in retirement. In their paper “Longevity plans: An answer to the decline of the defined benefit plan,” Milliman consultants Bill Most and Zorast Wadia provide an example of these advantages.

Let’s take a look at a cost example of a 2-percent-of-pay career average plan for a participant hired at age 45 and terminating at age 65. We’ll further assume a starting salary of $60,000 and a 2.5 percent salary scale. This would result in a salary of roughly $106,500 just prior to termination.

The participant’s life annuity benefit commencing at age 75 would be about $31,000 per year. If the participant’s benefit were to be funded over that person’s working career of 20 years, the annual employer cost to fund this benefit would be about 1.8 percent of pay. By comparison, if the participant’s retirement benefit were to commence at age 65 under current Internal Revenue Service rules, the annual employer cost to fund this benefit would be about 2.5 percent of pay.

Thus, by limiting benefit eligibility until age 45 and by not allowing benefits to commence earlier than age 75, the cost of this plan would be relatively low to fund. Using this same example, while extending benefits commencement to age 80, the employer’s cost would be significantly lower at about 1.5 percent of pay.

Having a longevity plan with a simplistic design in which only life annuities can be offered directly addresses the issue of longevity risk… Aside from single life annuities and 75 percent joint and survivor options for married participants, no other types of benefits would be allowed. Lump-sum amounts will presumably be available via a retiree’s defined contribution plan and personal savings.

Collecting an annuity benefit from the supplementary defined benefit plan would not preclude a retiree receiving a lump-sum benefit from the defined contribution plan. It would just make it easier for the retiree to make decisions on how best to manage his or her lump-sum benefit from a withdrawal and consumption perspective; the participant would know exactly when his lifetime annuity benefit would start, no earlier than age 75 in our proposed plan. Early retirement would be restricted from the proposed longevity plan because the concern is for the latter years of retirement and the understanding is that other sources of savings should be enough to get retirees through the initial years of retirement.