In August of 2006, President Bush signed into law what he characterized as “the most sweeping reform of America’s pension laws in over 30 years.” Touted as “one of the most important pieces of legislation” that passed Congress in 2006 and the cure-all to pension funding ills and Enron-type scandals, the Pension Protection Act of 2006 (“Act”) responded to a federally regulated pension system in crisis.
There were numerous factors contributing to the pension crisis. Corporate bankruptcies and growing reports of defined benefit plan underfunding raised serious concerns about the Pension Benefit Guaranty Corporation’s (“PBGC”) financial viability. Created under the Employee Retirement Income Security Act of 1974 (“ERISA”), the PBGC is a federal corporation that provides insurance for employer-sponsored defined benefit plans. The PBGC receives premium payments from sponsoring employers, and, in turn, the PBGC guarantees benefit payments to almost forty-four million active workers and retirees in more than 30,000 active plans. If an employer is unable to meet its obligations under the terms of a plan, the PBGC takes on plan administration and liabilities and makes annual benefit payments to plan participants.
By the end of 2005, the PBGC’s administration of terminated plans left it with a projected $23 billion deficit. PBGC’s reported deficit included then-recent plan terminations, including the United Airlines and US Airways terminations, which discharged $9.6 billion in pension liabilities. The deficit did not, however, reflect the magnitude of defined benefit plan underfunding in plans not currently administered by the PBGC. Some of these underfunded plans are sponsored by employers that have filed for bankruptcy protection, and, in all likelihood, these employers will turn over plan administration and liabilities to the PBGC. Other underfunded plans are sponsored by employers that are facing various levels of financial crisis. For example, General Motors (“GM”) sponsors the largest defined benefit plan in the United States, covering more than 600,000 workers. In December of 2005, around the time the PBGC estimated that GM’s plan was underfunded by $31 billion, GM announced several plant closings and 30,000 job cuts as part of a global restructuring plan. If GM’s financial picture does not improve, bankruptcy reorganization could become a reality. Such a reality, back in 2005, would have more than doubled the PBGC’s deficit.
Collectively, in 2005, over 1,100 active plans reported underfunding of more than $353 billion. Under its own calculations, the PBGC estimated that active defined benefit plans were underfunded by a total of $450 billion. These potentially staggering liabilities fueled talk of a taxpayer bailout, resurrecting memories of the $124 billion bailout of the Federal Savings and Loan Insurance Corporation in the early 1990s.
The defined contribution plan front illustrated another part of the crisis in the five years predating the Act, as thousands of workers and retirees lost all or a major portion of their retirement savings through poor investment selection, including large losses stemming from company stock investments in bankrupt companies. For example, the corporate scandals at Enron Corporation (“Enron”) and WorldCom Corporation (“WorldCom”) left their employees with over $2 billion in 401(k) plan losses attributable to company stock holdings.
The Act responded to a federally regulated pension system in crisis by purportedly shoring up defined benefit plan funding, reducing the PBGC’s financial exposure, and providing additional incentives for defined contribution plan sponsorship. According to White House press releases, the Act strengthens the PBGC’s position by enacting numerous requirements. First, the Act raises defined benefit plan funding requirements by instituting a new system for determining required minimum funding contributions, including plan funding of one hundred percent of plan liabilities and amortization of underfunded liabilities over a seven-year period versus the old thirty-year time frame. Second, the Act imposes additional funding requirements on “at-risk” plans. Third, the Act accelerates and increases funding requirements on plan terminations. Fourth, the Act raises tax deduction limitations on employer contributions to encourage full funding. And fifth, the Act restricts underfunded plan sponsors’ ability to amend plans and provide additional benefits.
Purportedly, the Act also strengthens defined contribution plans through various requirements. Addressing the abuses raised by the Enron and WorldCom scandals, the Act prohibits employers from making employer contributions in the form of company stock and then restricting participants’ ability to diversify those investments. Also aimed at promoting plan asset diversification, the Act encourages employer-facilitated investment advice by providing a prohibited transaction exemption that partially insulates plan sponsors from liability for investment advice rendered by qualified financial advisers. To encourage asset accumulation, the Act allows employers to automatically enroll plan participants in the salary deferral feature of a 401(k) plan, essentially forcing participants to opt out of making contributions, and then provides for annual increases in the automatic salary deferral contribution percentage.
This Article maintains that the death knell for traditional defined benefit plans has already rung, and that the Act does not provide sufficient protection for retirement plan participants. Even before the increased legislative requirements, traditional defined benefit plans were dying. Imposing additional burdensome and costly requirements on defined benefit plan sponsorship will almost certainly accelerate what now seems inevitable–employers’ abandonment of defined benefit plan sponsorship. Additional incentives for defined contribution plan sponsorship will also fuel the shift away from defined benefit plan sponsorship and toward defined contribution plan sponsorship. With the abandonment of defined benefit plans, employees are left with defined contribution plan coverage that provides minimal benefit accruals during working years and no fixed benefit in postretirement years.
Part II of this Article looks at the changing landscape of private employer-sponsored retirement plans, including recent defined benefit plan terminations, conversions, freezes, and the growing dominance of defined contribution plans, particularly 401(k) plans. Part III discusses some of the economic, social, and political factors that led to the shift away from defined benefit plan sponsorship and the embracement of 401(k) plan sponsorship, including a series of legislative and regulatory initiatives that made defined benefit plan sponsorship more burdensome and costly and defined contribution plan sponsorship more attractive. Part IV discusses how defined contribution plans fail to provide the level of benefits once offered under traditional defined benefit plans. Part V analyzes how the Act fails to encourage continuing defined benefit plan sponsorship and does little to shore up the retirement security offered under defined contribution plans. And Part VI recommends additional legislative changes that promote a higher level of retirement security for retirement plan participants.