DB Survey Shows Better than Expected 2005 Returns for Pensions

April 12, 2006 (PLANSPONSOR.com) - The picture of US defined benefit pension plans was a largely rosy one in Milliman's sixth annual survey of 100 large plans that showed beefed up funding due to above projected annual returns for the third straight year.

A Milliman news release said that, buoyed by a vigorous stock market, the average investment return on pension assets was 11.3% in 2005 – beating out the expected average return of 8.5%.   The plans earned $115.9 billion, some $30.5 billion more than anticipated. Over the past three years, the average return on assets has been 14.3%.

Meanwhile, according to Milliman, the aggregate pension deficit for the 100 plans dropped by $14.8 billion during 2005, leaving a $96-billion shortfall.   Over three years, the deficit has been slashed by $67.5 billion.

Pension expense, the cost of providing a defined benefit plan, increased by $5.1 billion during 2005, producing an aggregate pension expense of $23.7 billion in 2005, Milliman found.   This compares with a pension expense of $18.6 billion for 2004 and $14.2 billion in 2003. In 2002 there was a net pension income of $4.5 billion.

Only eight companies studied reported pension income in 2005, down from 15 in 2004, 25 in 2003, 45 in 2002 and 60 in 2001. Discount rates dropped for the fifth consecutive year to a median of 5.5% at the end of 2005, increasing liabilities and offsetting asset gains.

Under the new proposed accounting rules for pension plans, corporations will be required to post the funded status of their plans on their balance sheets. Had this rule been in effect for 2005, the pre-tax charge to shareholder equity would have been increased by $222.2 billion.

As a whole, the funded status of the pension plans in the survey was robust, Milliman asserted.   Milliman said 2006 will be a year of “reaction” as pension plan sponsors decide on their response to pension funding reform legislation, new accounting standards, and emerging demographic trends.

Also, according to Milliman:

  • The volatility of pension expense, contribution requirements, and balance sheet amounts remain a significant concern to plan sponsors.   The new accounting and funding rules make multi-year projections of funding and investment strategies a necessary planning tool.
  • Plan sponsors may cut back on pension plan contributions in 2006.   The new accounting rules have removed the incentive to “fully fund” the Accrued Benefit Obligation.   The uncertain status of companies’ credit balances may lead them to “use it” in 2006 before “losing it” under new pension funding legislation.
  • Legislation and court decisions clarifying the status of cash balance plans may lead to a new wave of conversions of traditional pension plans to hybrid plans.
  • More companies may follow the current trend by freezing their defined benefit plans; while others may realize that a defined benefit plan is a valuable tool to attract and retain key employees in a shrinking employment market.