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Retirement Planning: Big Business Style August 11, 2008

Posted by retirementwithaplan in retirement, social security and pensions.
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I have called the pension plan, what few are left, the great economic stabilizer. Unlike defined contribution plans such as 401(k)s, pensions offer a set amount of future dollars for the participants in the plan regardless of how well or poorly the markets do.

These plans are not without risk. They can be under funded or the underlying investments in the pension can do poorly. But as long as your pension payment is not too excessive, the payment is guaranteed up to a certain percentage of the originally promised amount.

executive pensions
Now, this kind of guarantee, courtesy of premiums paid to pension insurer PBGC (Pension Benefit Guaranty Corporation) along with the sizable tax breaks (accentuated by the efforts of benefit consultants who, skirt the IRS rules) offer the company a way to help its highest paid employees. And if you were ask them, you find that these executives are looking for the same safety net normally offered to the working class.

The pension plan is supposed to be perfectly balanced entity of liabilities, what the pension owed its current and future retirees and assets, investments that give the fund its equilibrium. Most executives are promised retirement money without the balancing assets on the books or in a separate fund to make the payment. Instead, companies usually pay-up after the executive retires pulling the compensation money from that year’s current cash reserves.

But now, some companies have found a way to accomplish two seemingly unrelated and often profitable moves without damaging the promise they made to their top tier workers. One, once the obligation is moved from one set of books to another, the company can now freeze the pension. Secondly, the under funding status created by the move of these high paid workers into the plan can signal much deeper problems corporately.

Baby, It’s cold out here

A pension is frozen for several reasons none of which is good for the plan participants. Normally a freeze stops the accrual of benefits by the employee no matter how much longer they work. The underlying assets that back the plan stay in the plan but no new members or money is added to the plan. Employees are given an estimated benefit and if it falls short of what they were expecting, they will be forced to save more.

This kind of retirement plan interruption, often referred to as a “hard freeze”, has the greatest effect on the close-to-retirement employees. The years-to-benefit service equation favors these long-term workers. Freezing it saves enormous amounts of cash for the company and effectively eliminates any promise the company may have made.

A partial freeze can shut out newly hired workers. But there is also the belief that beyond these accounting maneuvers, another more sinister plot is hatching. Dumping the executive promissory obligation in the pension plan may be the first stroke in a corporate restructuring that may trickle down to shareholders.

Throwing crumbs to the peasants

Often the addition of such a large group of liabilities to the plan would create a small and very noisy rebellion. Consultants warn businesses about this much in the same way a poker coach might suggest you keep your cards close. To offset any rebellion, benefit increases are offered to current plan holders. In other words, show them some money.

Executive benefit promises are often quite sizable and can have the effect of adding thirty percent or more to the liability side of the pension balance sheet. If the plan is already struggling, the equation may never be balanced. Top paid workers are often comforted by the fact that the pension promises are now part of a much larger plan. Until, of course the plan begins to wobble under the added liability weight.

Once the freeze is in place and the top executive benefit package neatly tucked away in the plan, companies can reassess their plans much easier. Does it benefit the company to have a plan at all? Is the obligation something that might prompt the business to seek reorganization in bankruptcy court?

Mixed then Shaken

It is hard to imagine companies such as Intel or Oneida failing anytime soon. Also on the short list of companies that have decided their obligation to their shareholders is greater than that of their employees include Parker Hannifin, PMI Group, Illinois Tool Works and Consolidated Freightways, which filed for bankruptcy and handed its plan over to the PBGC. Those pensioners were devastated and the company survived the reorganization with much less liability on the books once its plan had been jettisoned.

Should the presence of these blended plans give shareholders reason for concern? While there are still other tell tale signs that a company with older workers and hefty obligations to their future might be in trouble – freezing any 401(k) match is one of the next steps in the decline – these “maturer” companies are facing increased competition from every angle, primarily from younger more nimble companies who have no pension plan.

Saving the Pension

Current employees are the best indication of trouble and face some increased pressure to make decisions where they formally had none to make. You know there is trouble on the horizon if, for insatnce the company adds your Social Security Benefit into the total calculation of your future benefit. This is done to pass a non-discriminatory test when higher paid workers join the same group occupied by much lesser paid employees.

Pensions suffering from these manipulations might begin to smell funny if, they are frozen without an even freeze taking place. These newest members to the plan, those top tier earners might have pensions that are essentially handled under warmer circumstances. Promises of increases in pension payout are often masking some huge benefit increases among the top paid participants.

The remedies for this are often lost when plan participants question the fiduciary responsibility of the administrators in court. Once the business begins to manipulate these groups of employees, the decision becomes one based on sound business practice.

The hard lesson comes with your ability to discount the promises that may have been made to you. If you believe that your pension is immune to this kind of financial meandering by the business and the promises that were made are fully funded and backed by the company, then you need to have your thinking checked.

Problem is, many of us have failed to save extra because of this belief. Once you realize that up to fifty percent of what you were expecting may be all you get, the options are much more clear. You can save more now, work longer than you anticipated or generally rearrange how you perceive those post-work years. The warning signs at some companies are increasing. Can employees and shareholders see them before they cause real pain and loss?



1. Retirement Planning: Risky Business – Provided You Know « Retirement with a Plan - August 13, 2008

[…] can expect a traditional pension often referred to as a defined benefit plan. As we found in the previous post, those plans should have an estimated payout of roughly one-half of what you might have expected. […]

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