What a can of worms the House Ways and Means Committee has opened with its proposed easing of rules on the reversion of surplus pension assets to corporations.
Unfortunately, in its haste to grab a projected $10 billion windfall in tax revenue, the Republican majority may inflict significant damage on the U.S. capital markets.
The committee has proposed allowing companies to recapture surplus pension assets without terminating the plan. The companies could use the recaptured assets for any purpose, but they would be required to leave a cushion of at least "125% of current liability" (presumably the accrued benefit obligation). If the reversion of the surplus assets occurs before July 1, 1996, no excise tax will apply, although income tax would be incurred. After July 1, a 6.5% excise tax will be assessed.
This proposal is troubling for several reasons. First, if the proposal becomes law in anything like its current form, corporations with large pension surpluses may become targets of asset-stripping corporate raiders, much as similar companies were in the 1980s.
Second, even if the raiders aren't attracted to the honey pot of surplus pension assets, companies interested in recouping surplus pension assets are likely to try to beat the July 1, 1996 deadline for the excise tax-free recapture.
Pension fund assets will have to be sold. If even half of the expected number of companies try to recapture surplus assets, they likely will dump $20 billion of securities on to the markets in just six months.
And because it will take time for companies to decide whether they want to take the opportunity, to decide which securities to liquidate, and to decide how to protect surplus assets once they are recaptured, most likely will be liquidating in the last six to eight weeks of the window.
The dumping of $15 billion to $20 billion of securities on to the markets in a narrow time frame would undoubtedly have severe market repercussions. It could even trigger a bear market.
Third, where is the need for this proposal at this time? Companies can now recoup surplus pension assets over time with contribution holidays.
Where is the urgent need for additional investment capital that makes reverted pension assets essential now? Many companies are using high current earnings not for capital investment, but to buy back their stock. Would the surplus pension assets be used the same way?
Further, companies now can borrow any capital they need for capital investment at rates that give relatively low cost-of-capital hurdles for any investment projects.
Finally, the motive is wrong. This is not about helping companies; it's about a $10 billion quick-fix of revenue for the government.
As a general rule, companies ought be allowed to withdraw true excess pension assets, after a prudent reserve has been established, but this proposal is flawed and half-baked.
For example, a reserve of 125% of the accrued benefit obligation is marginal, and the figure should be substantially higher, perhaps 135%.
In addition, Congress should mandate conservative assumptions to be used in calculating the ABO so the reverted surplus really is "surplus".
Finally, companies ought not be allowed to recapture the surplus in one year. Spreading out the recapture over, say, three years would lessen the impact on the capital markets and reduce the attractiveness of the surpluses to raiders.