Analysis: Pension woes are complicating retirement
NEW YORK (Reuters) - Deteriorating conditions in the pension system are jeopardizing the lump sum payouts workers count on, and pushing some workers to retire ahead of schedule.
Stock market losses began dragging down pension assets a few years ago, but the current near-zero interest rates - intended to spur the American economy - have worsened the problem and created the largest gap in assets and liabilities since the end of World War II. "While low interest rates help people borrow money, they dramatically shoot up the pension obligations of plans," says Rebecca Davis, an attorney at the Pension Rights Center in Washington.
And the problem isn't unique to the U.S. A new study from consulting giant Mercer says the problem is global in scope. The sustainability of pensions in other countries is also at risk, according to the 2011 Melbourne Mercer Global Pension Index released on Tuesday.
That's the kind of uncertainty prompted American Airlines Captain Rod Carlone to leave the work force last month, much sooner than he had expected. Carlone says he did not want to risk missing out on a lump sum payment if the American Airlines Pensions Inc. Pilot Retirement Benefit Program Fixed Income Plan (the pilot pension plan) was underfunded. After almost 24 years at American, he flew his last flight on September 30 from Dallas to Los Angeles.
"I can't afford at almost 62 a financial setback I could not recover from," Carlone says. "I live in Las Vegas, and this is one wager I didn't want to make."
Concerns about the pension have resurfaced in recent months, but the airline says participants shouldn't worry. "We have a history of meeting our pension obligations," says Sean Collins, director of financial communications at American Airlines.
How bad is the cash crunch for companies? The aggregate deficit of pension plans among S&P 1500 companies climbed by $134 billion in September to $512 billion, according to Mercer. The funded status of the 100 largest corporate pensions dropped by $124 billion during September, according to Milliman, an actuarial and accounting firm. Looking at it another way, the funded ratio of companies in the index slipped to less than 73 percent from almost 80 percent at the end of August.
The situation is deteriorating rapidly: The decline in the last quarter was the most significant three-month drop since the start of the financial crisis at the end of 2008, Milliman says.
Even more worrisome, pension obligations are expected to grow because companies must meet funding requirements set out in the Pension Protection Act of 2006. "You're talking about dramatically increasing funding obligations in just a year's time," says Lynn Dudley, senior vice president policy of American Benefits Council, a Washington, D.C. trade association. "What businesses do is halt projects, and they halt hiring to save the money because it's not a choice. They're going to have to put it into the plan."
Companies typically make up for these shortfalls by borrowing or using cash on hand, and most should be able to pay the minimum necessary. But many sponsors have large pension liabilities, says Alan Glickstein, senior retirement consultant at Towers Watson.
For example, the Goodyear Tire & Rubber Co. expects to contribute almost $400 million a year in 2012 and 2013 to improve the funding status of its pensions, according to the company. Since April, new retirees can only get half their pension in a lump sum and the other half as a monthly annuity, because the pension for salaried employees is less than 80 percent funded, which is typical for companies with underfunded pensions.
American says an outside analysis of its plan in the first quarter of 2011 "found that all four AMR pensions were more than 80 percent funded." The company says it has contributed more than half of the $520 million it needs to provide this year to its four plans.
"Companies with lots of cash can probably weather the storm," says Jonathan Barry, a partner in Mercer's Retirement Risk and Finance business. But not every employer has a lot of cash, he says, including nonprofits.
More companies may decide to freeze pensions, say experts. When that happens, workers don't get to accrue additional benefits beyond what they've already earned. Companies typically add a 401(k) plan, but that leaves the retirement saving and investing to employees rather than the pros.
How do you know if your pension is in trouble? Companies must notify workers if a plan falls below 80 percent funding. Plans with a funding level below 60 percent are forced to freeze and to provide only an annuity.
Companies obviously don't like to slip below the 80 percent threshold, says Mike Dulaney, consulting actuary, retirement and investor services at Principal Financial Group. Employees "are going to get their pensions, but they may lose some flexibility in terms of the pension payments they receive," Dulaney adds. "They don't want to give notice to workers about the restrictions," he says. "It might cause panic among participants."
But they shouldn't, says Davis of the Pension Rights Center. Even in the worst-case scenario such as when a company files for bankruptcy, workers receive most if not all of their benefits from the Pension Benefit Guaranty Corp., which insures private pensions and pays benefits when companies can't.
Currently, a 65-year-old would receive a maximum of $54,000 a year in pension benefits from the PBGC, if that is what they would have received from their company.
Davis recommends that workers stay on top of a plan's funding status by reading the fund's annual report, typically sent by mail. Plans must provide additional notices when benefits are restricted because of pension underfunding.
Historically, most people eligible for a lump sum take it rather than choose a lifetime annuity. But that's not necessarily the best choice. New rules allow smaller lump sums, and since January, the Standard & Poor's 500 stock index dropped 4 percent. -- good reminders that managing your own money isn't easy.
Consider your age, life expectancy, company health and other investments before making the choice about whether to take an annuity or lump sum. Most importantly, don't be tempted to spend that money now if you're going to need it for retirement. Another consideration, if your company freezes the plan you might want to save more in a 401(k) or IRA.
(Additional reporting by John Crawley and Kyle Peterson, editing by Lauren Young and Beth Gladstone)