Ken Silverstein EnergyBiz Insider Editor-in-Chief

The Bush administration would like to enforce stricter funding requirements so as to avoid any scenario akin to the savings and loan crisis of the 1980s. As such, Congress is now considering a bill to ensure employers properly fund their plans and provide workers with meaningful disclosure about the status of their retirement plans. It also seeks to protect the interests of taxpayers who could otherwise be forced to fund a multi-billion dollar bailout of the Pension Benefit Guaranty Corporation (PBGC) should its financial condition continue to deteriorate.

"This bill brings a new ability and new flexibility to defined benefit plans which will allow prudent, well-managed companies the ability to continue or return to relying on the defined benefit plan as the core of their retirement benefit strategy, differentiating themselves competitively in a positive manner to a labor force eager to gain and retain financial security," says Bart Pushaw, with the actuarial firm Milliman.

The bill has been introduced by House Education & the Workforce Committee Chairman John Boehner, R-Ohio and House Ways & Means Committee Chairman Bill Thomas, R-Calif. It has passed the workforce committee and is expected to be taken up by the Ways and Means Committee this fall. The Senate is considering similar legislation.

At issue are defined benefit plans that are promised to retirees and are calculated using various assumptions such as age, salary, mortality -- and equity growth. Therein lay the dilemma: When the stock market surged throughout most of the 1990s, companies could make minimum contributions to their pensions. But, in the last few years, those returns as well as interest rates generally, nosedived and triggered new funding requirements.

In all, the PBGC, which insures most defined benefit plans, said that the level of underfunding in such plans is nearly $354 billion. Almost 300 pension plans since 1975 have relied on the insurer to pay out claims. It now says it faces another $96 billion in potential liabilities from businesses that might terminate their defined benefit plans. About a third of those potential losses come from the airline, telecom and utility sectors.

If lawmakers are unable to agree on a solution, the likelihood of other conglomerates such as United Airlines filing for bankruptcy and then turning over their pension plan obligations to the federal government would only increase. In the utility world, Entergy New Orleans has filed for bankruptcy because of losses it has incurred from Hurricane Katrina, although it says it wants to mitigate any repercussions to its parent corporation.

Pending Legislation

Clearly, companies don't have to offer defined benefit plans. With cash flow at a premium, companies are cutting those pension obligations. Many, for example, are eschewing their defined benefit plans in favor of those that place the risks on plan participants. In fact, the number of defined benefit plans numbered 112,000 in 1985 but last year totaled about 30,000, covering 17 million workers. Many of those plans were converted to so-called defined contribution plans, or 401(k) pensions.

Any new public policy must walk a fine line: Employers don't want to be saddled with cumbersome rules and onerous financial obligations. At the same time, pension plan participants need to know that their employers are making timely contributions that are adequate to fund their retirement accounts.

The so called Pension Protection Act would require employers to use an "appropriate" interest rate to accurately measure their pension benefit promises. Under current law, the funding rules permit underfunded plans to make up their funding shortfalls over a long period of time, putting workers at risk of having their plans terminate without adequate funding. Generally, today's rules only require plans to meet a 90 percent funded status target, or in some cases just 80 percent.

The Pension Protection Act requires employers to make sufficient and consistent contributions to ensure that plans meet a 100 percent funding target, phased-in over five years. "This legislation is a great first step," says James Hoffa, president of the Teamsters.

"The alternative is not the continuation of the status quo, but a much worse fate that includes the loss not only of accrued ancillary benefits, but a substantial portion of a participant's normal retirement benefit as plans are assumed by the PBGC," adds Judy Mazo, director of research for The Segal Company. Indeed, it's fairly common for plan participants to receive just half of what was guaranteed to them if the PBGC takes over the pension.

The good news is that share prices and interest rates are rising, putting less pressure on companies to allocate additional resources to their pensions. But, those increases are not expected to be enough to ease the current funding shortages that are at record levels, or $353 billion -- up from $279 billion in 2003. In 2004, the PBGC disbursed more than $3 billion in benefit payments to 517,000 retires, up from $2.5 billion paid to 459,000 individuals in 2003.

Companies, however, can't just shirk their responsibilities to retirees. Avista Corp., for example, made $12 million in contributions to its pension in 2002 and 2003. Those utilities with the largest underfunded pensions at year-end 2002, says Merrill Lynch, include Exelon ($2.4 billion), FirstEnergy Corp. ($977 million), Public Service Enterprise Group ($837 million) and American Electric Power ($788 million).

Balancing Act

Utilities are in a jam. But the reality is that they must adequately fund their pension plans. Putting too little money in not only jeopardizes the retirement security of their employees but also prompts the pension agency to assess it with higher premiums. Meanwhile, accounting rules will force those businesses to recognize any underfunding -- a standard that affects debt-to-capital ratios and therefore credit quality.

The 401(k) alternative is attractive because the risks fall squarely on plan participants. But, even those plans are coming with some peril to employers. Williams recently said it has settled with plaintiffs and will pay $55 million -- most of which is covered by insurance -- because of allegations it breached its fiduciary duties.

Meantime, employees at Southern California Gas Co. filed suit alleging that older workers there were discriminated against when the company dumped its defined benefit plan in favor of a defined contribution plan. The plaintiffs want the original plan, dropped in 1998, to be reinstated.

Most companies want to maintain their pensions, whether they are defined benefit or defined contribution plans. Congress is remiss to add a new layer of requirements but the risk of default in some defined benefit cases has reached alarming levels. The goal now is to protect workers without impeding start ups or causing the termination of existing plans.

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