Many pensions plan sponsors have taken strides to reduce their premium payments made to the Pension Benefit Guaranty Corporation but hundreds have yet to adopt best practices, according to a new report.
The “2021 PBGC Premium Burden Report” from consulting firm October Three analyzes the experience of an estimated 4,500 U.S. pension plans to alert plan sponsors to “skyrocketing PBGC premiums,” and to provide defined benefit plan sponsors with information about strategies to lower PBGC payments.
“We found that companies were leaving hundreds of millions of dollars on the table paying more than they had to because nobody has said to them, ’Hey, if you record this contribution here instead of there it reduces your premiums, or if you make this contribution one month earlier, it reduces your premiums,’” says Brian Donohue, a partner at October Three in Chicago, and author of the report. “Part of our impetus to write this report is to get the message out, understand what’s coming, understand the best practices that are available and how they can really be useful to the sponsors to limit the impact of the higher premiums that all plans are going to be struggling with.”
According to the 2021 report, between 2012 and 2019, pensions’ failure to adopt best practices caused plan sponsors to pay $1.1 billion more in premiums.
Since 2008, single-employer plan sponsors have paid more than $50 billion in PBGC premiums, including $50 million in the five previous years alone, according to the report. October Three’s report has previously shown that 40% of pension plan sponsors would benefit from adopting the suggested strategies to lower their PBGC premiums.
The 2018 report showed that pension plan sponsors paid $1.2 billion less in insurance premiums to PBGC compared to 2017, due to record levels of voluntary contributions made for 2017. “Most employers have taken steps to manage this growing burden by settling liabilities [annuity purchases and lump-sum offers] and making voluntary contributions,” the report states.
Premiums for single-employer plans are calculated by the sum of a flat-rate premium—$86 per participant in 2021—plus a variable-rate premium, which was 4.6% of unfunded liabilities in 2021. Per-participant premiums were capped at $582 for 2021.
The per-participant cap for 2022 is $598, says Dan Atkinson, consulting actuary at BCG Pension Risk Consultants | BCG Penbridge.
In 2021, plan sponsors missed out on saving $25 million—for recording errors alone—in premium payments by not strategizing, the October Three report shows. Recording errors are the lowest hanging fruit because these are contributions that could have been included in the premium calculation but weren’t, explains Donohue.
“Additional savings associated with a ‘modestly accelerated funding schedule’, i.e., accelerating required contributions by one to five months, would have saved an additional $11 million [ignoring the impact of voluntary year-end contributions, which are more challenging],” he says.
In 2020, total premiums paid by pension plan sponsors were $5.64 billion: $1.87 billion was for headcount premiums and $3.77 billion for variable premiums paid only by underfunded plans, Donohue adds.
The report did not show premiums paid in 2021, as data is now being analyzed, he says. For 2022, the per-participant premium is $88, and the variable-rate premium is 4.8%.
Strategies to Pay Less
Plan sponsors can tweak PBGC premium calculations using several techniques, for example, choosing between an alternative and standard method to calculate premiums. The standard method uses interest rates from the month prior to the start of the plan year, and the alternative uses 24-month averaging. Plan sponsors must stick with their selection for five years, Atkinson notes.
“One method might give you the better results three out of the five years, four of the five years,” Atkinson explains. “Overall you’re probably not going to get the best result all five years, though it’s certainly possible. But it turns into a strategy because for an ongoing plan you probably recognize that neither method is always going to be superior.”
He adds that the results can differ from year to year.
“The result is when rates are falling, the standard method gives a worst result or higher liability than the alternative method because the alternative hasn’t picked up how much the rates have fallen,” he explains. “Over the last few years, we’ve seen that the alternative method has yielded better results—lower liabilities and therefore lower PBGC premiums—and in the last few years we have seen plans switching from the standard method to the alternative method.”
Another strategy that plan sponsors can use to pay less is fixing the recording errors by not making changes to the plan funding pattern. Instead, pensions should assess the plan’s ability to record grace period contributions for the prior year, Donohue advises.
“We view these recording errors as the most egregious failure to adopt best practices for premium management and the easiest to correct,” Donohue states in the report.
Addressing the accelerated funding schedule strategy more, the October Three report says plan sponsors should accelerate contributions due on October 15 to September 15; accelerate quarterly contributions due on January 15 to September 15 and record those contributions for the prior year
In addition, plan sponsors can accelerate residual minimum required contributions due on September 15 to April 15, which allows plans to record April 15 and July 15 contributions for the prior year; and accelerate year-end contributions to September 15 and record those contributions for the prior year.
An additional strategy for reducing PBGC premiums is ensuring the participant data is clean, especially if the plan is at the per-participant cap, Atkinson says. “We do very often see participant plan participant data will include someone or a number of people who have passed away in prior years, or they’ll include the beneficiaries of retired participants where the beneficiary passed away in prior years,” he says.
« Friday Fun – February 25, 2022