PBGC Premiums: Prepare to Be Soaked

By David J. Kupstas, FSA, EA, MSPA

David J. Kupstas, FSA, EA, MSPA

David J. Kupstas, FSA, EA, MSPA Chief Actuary

In the next few months, plans covered by the Pension Benefit Guaranty Corporation (PBGC) will find out how much they have to pay in 2015 for their annual premium.  The news will not be good.

The PBGC premium consists of two parts:  (i) a flat-rate premium paid on behalf of each participant and (ii) a variable-rate premium paid by underfunded plans.  As shown in this table, the flat-rate per-head premium was $35 for 2012.  It rose to $42 in 2013 and $49 in 2014.  Now it’s at $57 in 2015.  Note the upward trend.  Meanwhile, the variable rate premium percentage was 0.9% for many years but rose to 1.4% in 2014 and is 2.4% in 2015.  Another way to state the 2015 variable-rate premium is that it’s $24 per $1,000 of unfunded premium target.  The flat and variable premium rates are scheduled to rise further for 2016 and beyond.

In the past, the flat premium rate would see an occasional small increase for cost of living, while the variable premium rate stayed at a constant percentage.  Now the variable rate is increasing, too.  That is most curious.  That’s like saying you should tip your waiter 15% in 2014, 20% in 2015, 25% in 2016, and then a higher rate thereafter based on inflation.  Dollar thresholds typically go up.  Percentage rates do not – unless you’re the PBGC.

To illustrate, consider a pension plan with 200 participants, $10 million of benefit obligations, and $9 million of assets.  Thus, the PBGC premium shortfall is $1 million.  Here is what the premiums would have looked like over the last four years:

Year

Flat-Rate Premium Variable-Rate Premium

Total Premium

2012

$7,000 $9,000

$16,000

2013

$8,400 $9,000

$17,400

2014

$9,800 $14,000

$23,800

2015 $11,400 $24,000

$35,400

 

Look at how much the total premium has gone up in three years.  It’s more than doubled!  That’s terrible.  And it’s only going to get worse.  In 2016, the flat rate goes up to an appalling $64 per person, while the variable rate zooms up to $29 per $1,000 of unfunded benefit obligation.  The 2016 premium from our example above would be $12,800 + $29,000 = $41,800.

PBGC premium increases like this provide no incentive for an employer to adopt or continue a defined benefit pension plan.  One might think our friends in Washington are doing everything they can to send these plans to extinction.  Unfortunately, PBGC premium increases are an attractive option whenever Congress needs revenue.  What do the Moving Ahead for Progress in the 21st Century Act from 2012 and the Bipartisan Budget Act of 2013 have in common?  Neither law had much to do with pensions, but both had PBGC premium increases tucked inside the provisions.

What can be done about this?  You could try writing to your Congressperson.  Besides that, you may want to reduce your exposure:  reduce the participant count, the unfunded benefit obligation, or both.  Many plans have taken to “de-risking,” which can mean a lot of different things but in this context usually means offering lump sum payouts to participants or purchasing an annuity contract and transferring the benefits to an insurer.  The idea is to get the participants and the benefit obligations off your books.  Reducing the benefits, freezing the benefits altogether, or increasing employer contributions can help.

If you’re reading this article and saying, “I don’t even know what this is talking about,” then you probably aren’t affected by these increases.  The PBGC applies to defined benefit plans.  Defined contribution plans such as 401(k) and profit sharing are not covered by PBGC.  Neither are small defined benefit plans sponsored by professional service employers (doctors, lawyers, accountants, etc.).  Even small defined benefit plans that are covered have a cap on their premiums and thus don’t experience too much pain.  But those who do pay big PBGC premiums know exactly what this article is about.  These organizations are going to feel a big sting in their checkbooks later this year.

— Topics: Retirement, Financial Planning