When it comes to corporate decisions, tax considerations are always in play. Given the current and potential tax laws, now is a good time to talk to your corporate clients about taking their pension obligations off the table. Aside from the tax impact, there are several good reasons, to have the conversation with your clients.
Pension plans continue to lose their status in retirement planning for a lot of small to mid-size corporations. While defined benefit plans can make sense for a lot of single-employer plans, they largely are not helping recruit talent for many businesses in America. Small pension contributions don’t seem to entice younger workers or recent college graduates as much as profit sharing or stock option incentives. That’s because the value of guaranteed income is lost on many of workers younger than 45 years old.
The cost of administering a defined plan continues to escalate as well. Even for fully funded plans, the cost of Pension Benefit Guaranty Corporation (PBGC) premiums will increase 25 percent by 2019.1 So, even if your corporate client makes no changes in their plan, it will cost more to simply have the plan – even if it is not being offered to new employees.
One solution could be a Pension Risk Transfer (PRT). A PRT gives a corporation multiple benefits:
By transferring plan assets to an insurer, the corporation shifts many of its pension obligation risks. And, as many believe that tax reform might happen in the next 18-24 months, corporate assets can be used to bring plan obligations to 100 percent funding levels. In doing so, those contributions receive a tax deduction in today’s higher corporate tax brackets.
For too long, corporations have ignored their defined benefit plan obligations. Now, we find that many employers have underfunded plans, which is putting many retirees’ guaranteed income plans at risk. With today’s tax rates, it’s a prime time to engage corporate clients in using stale and underperforming assets to complete the obligations that were made to so many current and past employees.
When talking about pensions, it is rarely about interest rates or performance of the plan assets. Without a doubt, the valuation of the assets comes into play. But, in reality, executives want to honor the commitment they made to the employees that helped build the company. For decades, pensions have been the way to reward employees. Now, it’s time to make sure that actually happens.
Tax rates, interest rate risk, and longevity risks all play into managing pension assets. Our tax policy favors contributing to plan assets now. There is considerable uncertainty in the world today, and the potential rise or fall of interest rates will affect bond values. Bonds continue to make up large portions of corporate pension plans, so our retirees are truly at risk.
Even with plans that are wholly funded, the assumptions from two decades ago do not account for today’s longer life expectancies. We increase our life span by 2.5 years for every decade in America.2 Therefore, with a normal, 20-year retirement, pension plans really need to have 25 percent more assets than they do today. It’s time to pay attention to this retirement risk and make it an opportunity to help corporations meet the obligations they promised.
Even with a fully funded pension plan, increased longevity has likely not been accounted for. With changes in tax policy and asset performance, transferring pension risk from a corporate balance sheet to an insurer makes perfect sense today. Take the chance to talk with employers about how they can benefit from PRT.
The marketplace is demanding financial professionals to work in our clients' best interest, which will not only need to address retirement income, but also the risk of longevity.
1Society for Human Resource Management, “Study: Pension Plans Overpay PBGC Premiums by Millions,” April 12, 2017: https://www.shrm.org/resourcesandtools/hr-topics/benefits/pages/pensions-overpay-pbgc-premiums.aspx
2Population Health Metrics, “Changes in Life Expectancy 1950–2010: Contributions from Age- and Disease-Specific Mortality in Selected Countries,” 2016: https://www.ncbi.nlm.nih.gov/pmc/articles/PMC4877984/
Mike McGlothlin is a tireless advocate for the retirement planning industry. As executive vice president of retirement at Ash Brokerage, he heads a team providing income planning solutions focused on longevity and efficiency. He’s also a thought leader who provides guidance and assistance for advisors and broker-dealers navigating marketplace and regulatory changes. You can find a collection of his blog posts in his book, “Above the Clouds … Winning Strategies from 30,000 Feet.”