By Daniel F. McGinn
ERISA, which marked its 30th anniversary this year, contained many worthwhile provisions to better secure pensions but one significant flaw, the creation of plan termination insurance.
That insurance, overseen by the Pension Benefit Guaranty Corp., became a basic part of the Employee Retirement Income Security Act of 1974 and contributed to the decline in defined benefit plans.
When Congress was holding hearings on proposed federal legislation in 1973, I was invited to testify. I said I thought many provisions of the bills before Congress had much merit. But I was aghast at the section of ERISA that mandated that pension benefits be insured by a federal agency. The premium for such "insurance" was just $1 per employee per year, because there was no way to measure the risks associated with plan termination. But as I pointed out to the House committee that held hearings before ERISA was passed, pension benefits can't be guaranteed without also controlling in some manner the actions of the sponsoring company to reduce corporate risks and to ensure the plan's funding.
Initially, the teeth in the provision on plan termination insurance were linked to a corporation's net worth. Naively, government agencies thought that, if a pension plan couldn't meet its obligations, the government could claim up to 30% of the sponsoring company's net worth. But those teeth weren't sharp enough for thousands of firms with little or no net worth that terminated plans.
It soon became clear that the $1-per-employee premium paid to the PBGC wasn't nearly adequate to cover the liabilities transferred to the PBGC when plans terminated. So the premium level has been frequently raised, and now stands at $19 per employee, plus 0.9% of the plan's unfunded vested benefit liability, calculated under assumptions mandated by the PBGC. The added burden of these premium increases had a snowballing effect, providing a further incentive to other employers to bail out of their defined benefit plans.
ERISA was tough enough on private pension plans, but more headaches were to follow. ERISA's plan termination insurance applied only to single-employer plans; there was no penalty for cancellation of multiemployer defined benefit plans covering the hundreds and thousands of workers for whom contributions and benefits were negotiated. So in 1980 Congress attempted to provide a unique form of plan protection with the passage of the Multiemployer Pension Plan Amendments Act.
To discourage contributing employers from withdrawing from multiemployer defined benefit plans, the MPPAA imposed a severe penalty: A company withdrawing from a multiemployer plan with an unfunded vested benefit liability had to pay a share of that liability. In general, the share of liability would be based on the company's record of contributions relative to the contributions of all companies.
The MPPAA had a discouraging effect, all right, but not the one Congress intended. Companies that might have joined multiemployer defined benefit plans shunned them because they realized they would have no control over the growth of a plan's liabilities. Trustees of a plan that was well funded could create an unfunded vested liability overnight, simply by increasing benefits.
Congress has continued to tinker with the private pension system, passing more legislation through this year. The net effect of all these laws and regulations is reflected in the sharp decline in the number of defined benefit pension plans.
There are some bright spots in the defined benefit pension plan picture. For one thing, many of the surviving defined benefit plans owe their continued existence to union leadership that stalwartly fought to maintain and improve their plans. Had it not been for them, defined benefit plans, as we have known them, might have become nearly extinct. Another favorable development is that in the wake of the MPPAA, many multiemployer plans, representing workers in a single industry, have merged with plans covering several industries. The result of such mergers is that the surviving defined benefit plans have maintained a sound financial condition and also benefit from risk sharing through industry diversification.
ERISA has been a limited success. The price of plan termination insurance has been too high. That program has devastated employee plan participation and coverage. Today, there are thousands of employers without any long-term retirement benefits for their employees. In light of the near-total public confusion caused by ERISA and succeeding legislation, Congress has succeeded in nearly destroying a major portion of pension protection it intended to provide.
Daniel F. McGinn is principal and chief actuary of McGinn Actuaries Ltd., Anaheim, Calif. His commentary is adapted from a report to clients.