SURVEY SAYS: Is it Time to Give Up on DB?

Still, a lot of retirees (and soon-to-be retirees) have been able to rely on the additional retirement security those programs offer.   This week we asked readers if it was time to give up on DB plans – or to give them a helping hand.

It is perhaps to be expected that in an audience knowledgeable about such topics (as you surely are), there will be a higher support level for traditional pension plans than in the population at large.    Sure enough, among this week’s respondents, those wanting to give defined benefit plans some help outnumbered those ready to give up on such programs by a 2-to-1 margin.

On the other hand, it was only a 2-to-1 margin.

And that statistic, while admittedly unscientific, may say a lot about the current state of the industry – and in many respects, just as much about the nature of today’s employment relationship.   As one reader said, “…They worked well in an era when employees worked for a company their entire career and the company was expected to be around forever.   That’s not life today.”  That same reader said they eliminated their defined benefit plan several years ago, while boosting their contribution to the 401(k).   How did it work?  “We’re a relatively small company and this change saved us over a $100k per year in administrative costs (legal fees, actuarial fees, PBGC fees, auditing fees, etc.).   Give the government enough time and rope, and they will eventually strangle 401(k) plans as well.”

Those sentiments were echoed by a reader who observed, “…We also need courts that don’t punish employers (like IBM) for trying to salvage some vestige of retirement security for their retiring workers by enacting a cash balance plan. If DB plans go away, more people will become wards of the state in their senior years. Pay me now, or pay me later.”

Another ready to “move on” said, “I believe that in most cases a well-designed and managed defined contribution plan will better serve both employers’ and employees’ deferred compensation plan benefit needs than a defined benefit pension plan.   I hope that is the future, and I applaud IBM for taking this step.”

Supporters of the defined benefit model were, however, passionate in their defense – and more than a little…upset…with the confluence of regulators and regulations that have created the current dilemma.   As one noted, “The only uncertainty in more than two decades has been trying to guess which method Congress and the IRS will use next to make DB plans unattractive to employers.”

Another said, “There’s an elephant in the room, and each agency is being allowed to change the part of the elephant that they see which they don’t like.   Soon the elephant will be dead.   Or at the very least, it won’t be an elephant anymore.   And the people who needed that elephant for food, clothing, shelter, and transportation won’t have it.   Then every agency will point a finger at the other ones and say they are responsible for the retirement crisis in America.”

There were financial reasons to support the concept, however, including one reader whose plan was currently overfunded, who said, ” …the cost to replace the benefit with something similar in a 401(k) or cash balance plan is out of the question.   We’re hoping to keep the plan fully funded at least through 2014, according to our latest actuary projections.   I guess we’re fortunate to be in such a position!”

Another observed, “We moved from a traditional formula to a cash balance formula in 1989.   But we did it the right way.   Cash balance plans can be great tools.   Employees can easily understand how to calculate the benefit and have greater appreciation.   The plans are much simpler to administer.   By providing good guidelines, I believe they can be a very valuable tool.”

One reader captured the perspective of many workers when they noted, “I’m not entirely sure what a defined benefit plan is. I believe my grandfather may have had one.”

Capturing the essence of younger workers, one noted, “As an employee it would be nice to have a pension, but being 22 years old, it’s hardly something I expect from my current and future employers.”  They went on to note, “…(but) as an investor, I’m pleased to learn that my largest holding is no longer offering a DB plan to new employees, just a 401k. That should save lots of money over the long term.”

And perhaps capturing the essence of the growing number of workers who don’t have access to a defined benefit plan, another reader said, “…I sure wish I was a participant in one.” 

There does, however, appear to be “hope” on the horizon, contrary to most published reports.   One West Coast reader replied, “I’m sorry this is after the deadline, but I was so busy on the phones advising employers on the establishment of defined benefit plans I didn’t have a chance to read it until now.   Defined benefit plans are seeing a remarkable resurgence in the small plan market and, as far as I’m concerned, are the best things going,” while still suggesting that “…the law (be) amended to permit advance funding of the plans in good years, to negate the effect of a couple of bad years.”

A number of respondents were concerned about the economic impact of the demise of these programs on future retirees.   And at least one had a focus that is a little closer to “home,” when they said, “For the sake of our national employment numbers I hope we don’t give up on them.   Think of all the actuaries, lawyers, and administrators that would lose their jobs!!!” 

But this week’s Editor’s Choice goes to the reader who said, “Give up, it is too expensive for the administration and economic uncertainties to fund this type plan. Only governments can offer this type of defined pension plan; heaven help the person that has to fund it…wait, that’s me.”

Thanks to everyone who participated in our survey.  

I was out and missed the survey.    My belated response is that there is a significant amount of bad information floating about, a few quick "bites":

A DB costing 5% of payroll will produce 50% to 80% higher retirement benefits than a DC costing the same.   This makes them the most cost efficient way to provide retirement benefits to long service employees.  

The savings comes from those who start young and leave your employment after 5 to 10 years.   They get insignificant benefits from a DB.   But why should they be rewarded for leaving to go to the competition?  

However, since 75% of most employees plan on leaving their current employer within the next few years, it is clear why the majority of employees want a self serving DC plan.

If Boards and employers better understood the accounting standard (FAS 87), they would be more able to easily control the year-over-year P&L impact of a DB Plan.

"Wall Street" makes twice as much off of 401(k) Plans than it does on DB Plans.   Therefore, they have a significant interest in the demise of DB Plans and consequently help fuel the negative press.

It is interesting to note that whenever employees have a voice in plan design (Public/State/Municipal Plans and collectively bargained plans), DB Plans remain the plan of choice.   They understand its benefits and are not misguided by irresponsible press.

In regard to your survey question, I have no idea.   However, I sure wish I was a participant in one.   It would be nice to know what to expect in retirement. Although the DB world seems to be so volatile any expectations a person would have is probably illusory.

It is not time to give up.   They need help.   I think the idea of a 'Yield Curve' needs to be part of the solution.   The idea of using an average of three corporate bond indices is a waste of time and effort to achieve what a simple formula of (1.25% over the longest Treasury Bond) would do.   This would be better than what Congress used for the temporary fix.

We are beginning to implement changes from a db/dc combination to an enhanced dc plan for certain employee groups.   However, nothing has been formally announced.

My biggest concern is communicating to employees the change from a patriarchal environment where the company is taking care of your retirement needs, to a personal responsibility environment where it will be critical for these employees to (1) participate and (2) have some understanding of the risk they now bear.

I think it is definitely NOT time to give up on DB plans!

The income from these plans is very important to the current generation of retirees, and already, the US is going to see a huge shift in 15 or 20 years in terms of the percentage of retirees who have enough income to live comfortably.   The three legged-stool doesn't stand with just 2 legs.   As for what kind of help they should get, Congress needs to make a radical shift in the archaic funding and administrative headaches associated with these plans.   I don't have all the specifics of what needs to be done to make them work, but certainly using more reasonable interest rates, allowing more smoothing to reduce the year to year volatility, and offering incentives for companies to KEEP these plans, as well as to start new ones, for new companies.

No, we should not give up on DB plans. In light of what has happened over the last few years, those individuals counting on their 401(k) for retirement obviously will have to continue to work.   The cost of maintaining a DB plan discourages many from continuing to sponsor them.

Help should come from an ease in the excessive amount of fillings required, maybe mandatory employee contributions, less ancillary benefits.

Unfortunately, DB plans do not have an appeal to a young, mobile workforce, and all the recent changes to cash balance plans clearly indicate a lack of appreciation for the older, loyal, long term employee. It looks like the sentiment of a DB plan falls in line with a quote from an ex-Aetna executive.... If I want loyalty, I'll get a dog.

It's definitely not time to give up.   Too many employees depend upon the security.

What there needs to be is a restructuring of the regulations to make it easier for companies to offer the plans and for employees to understand their benefits.   What company wouldn't think several times before diving into a bucket full of headaches?

We moved from a traditional formula to a cash balance formula in 1989.   But we did it the right way.   Cash balance plans can be great tools.   Employees can easily understand how to calculate the benefit and have greater appreciation.   The plans are much simpler to administer.   By providing good guidelines, I believe they can be a very valuable tool.

If we continue to offer defined benefit plans, we have to have the plans and tools that will ease administration and enhance understanding.

The decline of DB plans is the future.   Mature companies are not going to be able to compete with new industries who do not offer DB or retiree medical benefits.

Help DB plans?   What kind of help?   Isn't FAS 87 enough (or, more likely, IMO, the culprit)?   If companies can't, or won't, perform a basic ALM (asset/liability management) analysis on what they're promising, pay some attention to their actuaries as opposed to their investment managers, and thereby acknowledge not only the full cost of what they've promised but also how that promise will behave under various economic (not GAAP) scenarios, then they're liable to be in for a very nasty surprise, one for which they are unable or unwilling to pay.   The laws of economic reality are self-enforcing, and neither Congress not the FASB can repeal them.

I would not be surprised at all to find that the death knell for traditional DB plans is already pealing.   However, no one is hearing it since the siren songs of the equity risk premium, hedge funds, private equity, etc., the risks of which are masked by FAS 87, are drowning it out.

Cash balance plans are for the most part no panacea, either.

Just my opinion.

I don't feel we should give up on DB plans.   They are (or should be) an anchor to retirees.   I do believe they need some help.   For one thing, people in more dangerous occupations should be in separate actuarial tables from those who are not.   In addition, maybe employees should be able to defer income into their DB plan instead of a traditional CODA, in order to help ensure their future income.   I'm certainly not an expert on those plans, but I'm sure there are other steps that could be taken to make these less costly and volatile.

I say work harder on getting the (k) option incorporated into DB plans - the DB(k) as ASPPA is touting it, allow the (k) contributions to count toward the funding for the year, and that will help alleviate employer responsibility - I can hear you already - make it a 3% mandatory contribution - and let's have the SSA release 3% of what they charge... yeah - well it's going no where - but I do think the k option is a good solution - just have to leave it to the brains to figure it out.

It's time to give up on DB plans.   Let's face it.   They worked well in an era when employees worked for a company their entire career and companies were expected to be around forever.   That's not life today.   From a company perspective, DB plans are being scrapped because all of the burdensome regulations make them difficult and expensive to administer.   Conversely, from the employee perspective, the less stable the (career/financial/company) environment, the more need for additional regulation to protect the interests of the participants.   These two interests are getting further and further apart.

By the way, we tossed our DB plans several years ago and increased our contribution to our 401(k) plan by an impressive 4 points.   We're a relatively small company and this change saved us over a $100k per year in administrative costs (legal fees, actuarial fees, PBGC fees, auditing fees, etc.).   Give the government enough time and rope, and they will eventually strangle 401(k) plans as well.   All we need are a few liberal judges who find that sponsors didn't meet their fiduciary duty when a few bozos (ooops - I mean financially challenged participants) wake up a find out that they don't have enough money saved to retire and decide to blame the company.  

I'm not entirely sure what a defined benefit plan is. I believe my grandfather may have had one.

We won't be "giving up" on our defined benefit pension plan anytime soon.   It's still overfunded, so the cost to replace the benefit with something similar in a 401(k) or cash balance plan is out of the question.   We're hoping to keep the plan fully funded at least through 2014, according to our latest actuary projections.   I guess we're fortunate to be in such a position!

Definitely not time to give up on the DB plans!   We need to give them some help.   Or else we'll all be giving much more help to the future retirees!

Two thoughts:

As an employee it would be nice to have a pension, but being 22 years old, it's hardly something I expect from my current and future employers.

As an investor, I'm pleased to learn that my largest holding is no longer offering a DB plan to new employees, just a 401k. That should save lots of money over the long term.

So many people miss an important point:   what a retiree needs in retirement years is an annuity, not a lump sum.   That is, no matter what type of "pot of money" you have, it has to generate regular income for living expenses.

An annuity comes from 3 primary sources (or combination):

• Investment earnings on your "pot".   This alternative provides an inheritance but might provide insufficient income.  
• Use your "pot" to purchase an annuity from an insurance company.

This alternative provides relatively inefficient use of the pot, by using a significant portion for the expenses and profit of the insurance company.

• A DB plan.   This alternative is much more efficient than the other two, since the DB plan's trust does not require making a profit or statutory reserving.

How would I change DB plans?   Primarily by changing a few statutory things:

• If a J&S annuity option is mandatory in a DB plan, why not in a DC plan?   The "spousal protection" argument applies equally.
• If there is ample reason to "insure" a DB plan, why is there no corresponding "guarantee" to a DC participant that his/her account balance will never experience loss of principal?   The answer to that is oblivious, that no one can guarantee the performance of any investment market, to which I respond why should we then guarantee anything for a DB plan?
• If a DC plan can have a profit-based element, why not a DB plan?
• Why must a DB plan be presumed to continue accruals indefinitely?
• Most importantly, require that a DB plan always be (at least) 100% funded.   In other words, I would change the minimum funding requirements to require the accrued benefit is always fully funded (perhaps 110%).   If the plan sponsor wants to increase benefits by plan amendment or additional accrual, then the cost of that is immediately payable (if not already covered by surplus assets).   If you can't pay for it, don't promise it.   If you can't pay for it, don't expect others to bail you out.  
• If the plan is always funded (in accounting terminology, that might mean the assets are always greater than the ABO), then there is no need for the PBGC.   This may be a radical idea to some, but ask what interest the taxpayers/government/other plan sponsors have in guaranteeing the survival of any pension plan other than their own.   The PBGC was created to insure an uninsurable event.   Guaranteeing a pension plan is tantamount to guaranteeing the survival of the plan sponsor.   The logical next step is to recognize that the PBGC would then serve no purpose, and we could eliminate it (OK, there would be some required transition for its current obligations).

Of course, these items are inter-related.  

OK, I'll get down off my soapbox now.

Rather than "give up" on defined benefit plans, the help they need is the removal of a burdensome, one-size-fits-all, expensive set of federal regulations that, despite the best intentions, result in less retirement security, not more. Such centralized control was supposed to have died with the Soviet Union. ERISA smothers innovation in plan design and discourages employers from taking a healthy interest in their workers' retirement security. We also need courts that don't punish employers (like IBM) for trying to salvage some vestige of retirement security for their retiring workers by enacting a cash balance plan. If DB plans go away, more people will become wards of the state in their senior years. Pay me now, or pay me later.

Give up, it is too expensive for the administration and economic uncertainties to fund this type plan. Only governments can offer this type of defined pension plan, heaven help the person that has to fund it, wait, that's me.

I think the only realistic long-term solution is to give DB plans some serious help.   As a retirement plan industry, we can talk all we want about participated directed investments within a DC plan and how everyone is better off being able to "control" their retirement savings, and we can hide behind 404(c) and say we're doing the right thing because we're in a safe harbor of double-talk, but the reality is:

The people who need the most help to insure their retirement security are the ones who are unable to efficiently use a DC plan for a myriad of perfectly valid reasons   They can't afford it; they don't understand it; they are paralyzed by investment choices and responsibility; they can't use the technology because we, as an industry, have built everything around the misconception that our customers are all computer literate, speak and understand English, and sit home surfing the web and checking their e-mail - when what they are really doing is trying to stay employed, make ends meet, and better their children's futures.   I believe there is a silent majority who give their working lives to a company, are loyal to the company's goals, and they have the right to expect something in return.

These people will be relying on social security, no matter what anyone says about the sense of that.

The government has addressed this crisis by allowing a complete paralysis to descend upon a company's ability to continue to provide DB benefits for their employees.   No need to go into the list of regulating agencies which have contributed to kill the golden goose...but kill it they have. And since I'm into animal metaphors this morning: There's an elephant in the room, and each agency is being allowed to change the part of the elephant that they see which they don't like.   Soon the elephant will be dead.   Or at the very least, it won't be an elephant anymore.   And the people who needed that elephant for food, clothing, shelter and transportation won't have it.   Then every agency will point a finger at the other ones and say they are responsible for the retirement crisis in America.

I don't have "the answer".   Assuming we could get to the place where there was real coordination between the various regulating agencies so that they stop shooting each other and their beneficiaries in the foot, I think the only thing that would work is to provide significant financial incentives for companies to continue to provide DB benefits.     

I would say give them some help.   What help?   Well, that I am not exactly sure of, but maybe more wiggle room around the timing of funding.

Defined benefit pensions are a valuable part of society's infrastructure, however, moderation in their design and discipline in their funding mechanisms is required.   That goes for Social Security, too.

Additionally, moderation in income replacement expectations is necessary on the part of recipients.   Reform that significantly disadvantages corporations that would jettison their db plans to the PBGC is also required.

The fight to save DB plans was lost when the standard bearers were named -- the federal government vs. pension professionals. The only uncertainty in more than 2 decades has been trying to guess which method Congress and the IRS will use next to make DB plans unattractive to employers.

Yes, I AM bitter -- we were right and they were wrong.

That's been my own view for a number of years, for a wide variety of reasons that I will not go into here.   Whether the IBM model is the right one for other companies, or even for IBM, is debatable.   Obviously, I don't know the details of the IBM plan, so I cannot offer any specific comments about it.   The two biggest obstacles to the DC approach at this point under the current 401(k) plan model are the general inability of participants to manage their own plan investments wisely (regardless of what IBM believes), and the lack of a truly competitive and cost-effective annuity market for end-of-the-road retirement funding.   Notwithstanding those issue, however, I believe that in most cases a well-designed and managed defined contribution plan will better serve both employers' and employees' deferred compensation plan benefit needs than a defined benefit pension plan.   I hope that is the future, and I applaud IBM for taking this step.

I think that its time for Plan Sponsors to stop playing Houdini with DB Plans.   All this smoke and mirrors with Cash Balance Plans and 401(k) DB plans is another way for an Employer to mask the fact that they are cutting back benefits.  

Nevin, this is one of your better efforts. I have so much to say, but I'm too busy to get it all down! So, a couple points:

1. I think that the private sector is abandoning DB plans, slowly but surely. So whatever we might think about them, they are on the way out for private sector workers. And in some cases they are dying with substantial obligations (see the airline industry, for ex.).

2. But I also think that private sector cos. may have some trouble providing retirement benefits without DB plans. Of course if the more or less universal answer in the private sector is DC plans, then there's no competition - you want to work in the private sector, you've got a DC plan. The only question is whether your employer can kick in a little match.

3. But I also see a very reasonable alternative - perhaps a 'two-plan' system: the usual 401k, coupled with an insurance-based plan, maybe similar to an annuity, that an employee can build wealth in but passing the shortfall & volatility risk off to the insurance company instead of the employer (for a price of course - the price of lower overall returns). The employer can put the plan together for the employees, and let them allocate money to either or both. As it is now, very few 401k plans have anything like an 'annuity' option - you have to retire first, then convert the 401k assets to an annuity, which is guaranteed by an insurance company (which of course could go bankrupt, a risk the employee must bear no matter what, since the employer can go bankrupt too).

4. One of the major problems with DB plans is lack of portability. This problem stems partially from vesting rules, partially from the nature of the plans themselves. But, by going to an insurance-based system, you could solve that problem: the insurance companies would compete for the business, offering perhaps different levels of 'vesting' (that is, you have to accumulate so much money in the plan before you can qualify for a retirement benefit; otherwise, you get a lump sum you can roll into an IRA if you change jobs). Or, if your new employer had such a plan, and would allow rollover contributions, you could transfer your accumulated benefit to the new plan.

I'll stop there. I find this very interesting. My bottom line prediction: If you want a solid pension when you retire, you'll have to work for some government entity. Anyone who goes to work in the private sector today, and is expecting some kind of DB pension, is going to be disappointed when they retire.

I think it's a very complicated issue. If we try to revive or continue defined benefit plans, costs will rise for those services or goods those companies provide. My perspective from the business angle is it doesn't make economic sense to provide for employees who no longer work for you. I understand the concept that many plans are negotiated as part of a wage package, but I think it makes much more sense to give the money to the people now. Not later.

And then, there is the problem of funding the plans. It's just not happening. Even if the all defined benefit plans were fully funded there is no guarantee that you can keep the funding level because of fluctuations in fund performance.

On a personal level, I like the idea of a DBP, but simply don't trust the employers to keep their word. And, with the Pension Guaranty Corp. in shambles, I say we scrap the whole thing and come up with some new ideas. The 401(k) works, especially when the employer contributes via profit sharing or match. And it gets us back to being responsible for our own future.

Let me preface my opinion with a little background - I have never had the privilege of working where a defined benefit plan was available.  

I don't know that corporations can afford to continue to these plans along with health insurance and all the other perks as many employees feel are "entitled".

I think many employees who are lucky enough to have a defined benefit plan have developed an entitlement mentality.     They are so focused on their retirement being provided that many miss the obvious - if the company cannot afford to exist they may not even have a job that will last until retirement.   And they refuse to accept any responsibility for planning their own retirement or future.

And as far as "help" is concerned I don't think the Government (that's your tax dollars and mine) can afford to bail out these plans.   Why should they be bailed out - what about all of the people who don't have a retirement plan and will have to work until the day they die?

For the sake of our national employment numbers I hope we don't give up on them.   Think of all the actuaries, lawyers and administrators that would lose their jobs!!!  

It appears that DB plans have become dinosaurs and will eventually become extinct. It seems doubtful there is anything that can be done to reverse this trend.

The retirement plans of the future are likely to be hybrid plans such as the cash balance plans and perhaps 401(k) plans with annuity payout features. An example might be a 401(k) plan where the employer money is invested by the employer, controlled by the employer and use to provide an annuity payout only (like a money purchase pension plan). It sounds like the new IBM 401(k) "pension" plan is moving in this direction. It would be interesting to get more details on this plan.

Give help--Determination letters would be a good start!

I don't think we should give up on Defined Benefit plans, and I'd be very sorry if we did, because I cut my pension teeth on those plans.   I think they are badly regulated, because there have been some less-than-completely-scrupulous actuaries who manipulated the looser regulations that existed in the past.   IMHO, the JBEA bears some responsibility for that, by not policing its own well enough.   I also believe that the accounting requirements, going back to FAS 87, are unrealistic and exacerbate the perception problems.  

My solution would be either (a) to have a single funding method, and a single set of actuarial assumptions that would be used by all plans, or (b) make the JBEA an oversight body, responsible for individually reviewing all defined benefit plan calculations for reasonability.   Both of those steps are radical, but I believe they will restore integrity to the system.   I would also hope that the FASB would be part of either solution, and conform its rules to match what is done for funding purposes.

I could write a book more, but that's the basic idea.

  Our company has a defined benefit program in addition to a defined contribution program.   I personally would like to keep the pension plan although I understand all too well that it is costly, complex, and administratively burdensome.

  When I talk to employees about retirement, most do not know how to invest their 401(k) funds.   Many can certainly use and need the set annuity that a pension plan can offer when they do retire.

What can be done to lessen the financial impact for companies?   Employee contributions, conservative investing, simpler plans.

Defined Benefit Plans are the glue that holds discerning employees focusing on the long term to the organization.   While health insurance benefits are more dramatic particularly with the media focus on very costly cutting edge medical treatments, huge windfall settlements for medical malpractice cases and cost increases in health insurance coverage, the defined benefit program represents a benefit of significantly higher cost and benefit for the truly discerning, one that will pay off to almost all participants in a known way as contrasted with the medical benefit which will only pay in the event of a catastrophe with a remote chance of occurrence.   Paying health insurance premiums or insisting on health insurance coverage is like playing the lottery or demanding lottery tickets in lieu of salary.   Defined benefit plans on the other hand are long term investments with only a very small probability that they will not reward the participant such as would be the case in the event of an early death.   "Give them circuses.   Let them eat cake."   

DB plans can be improved, but should not be eliminated.   Improvements:   combine DB plans across an industry so that the benefit could be portable within a specified group of employers; look at the formula for paying out the benefits --- if a career average, least impressive benefit but cheapest to fund; if based upon a final 5-years compensation, best benefit, most expensive to fund.   DB plans could be one of a 2- or 3-part pension program:   e.g. DB + 401(k) or 403(b) + some kind of profit sharing where the assigned profit goes into a designated 401(k) fund.

That's my 2 cents.

I'm sorry this is after the deadline, but I was so busy on the phones advising employers on the establishment of defined benefit plans I didn't have a chance to read it until now.   Defined benefit plans are seeing a remarkable resurgence in the small plan market and, as far as I'm concerned, are the best things going.   I would like to see the law amended to permit advance funding of the plans in good years, to negate the effect of a couple of bad years.

Yes, it is time to give them up.  

It's too easy for people to 'point fingers' at the persons running their money while they don't take responsibility for over spending their income.   The tools are available and they are not easy; but then there are educational courses.

Parents and/or schools need to develop courses and skills for American students to run responsible budgets.   Efficiencies are getting better, thereby increasing productivity which in turn reduces the profit margins placing more responsibility on the heads of the public.