Companies with underfunded pension plans will borrow to cover the increased contributions required under the pension reform legislation signed by President Bush, but the borrowing should not affect credit ratings because the companies will be effectively exchanging pension-related debt for contractual debt, according to a report released today by Moody's Investors Service. Also, the law's 2008 effective date and transition provisions should generally allow companies to prepare themselves adequately for any additional funding requirements, according to the report.
"The reform act will likely lead to a more direct relationship between the funding status of a company's pension plan and its required pension contributions," said Rohit Mathur, Moody's vice president and a co-author of the report.
Well-funded plans, according to the report, will not see a meaningful change in their required contributions, and they may even benefit by being able to put additional money into plans in a "tax-efficient way." Companies with underfunded pension plans will redirect cash flows into those plans to avoid "at risk" designation under the new law — a designation that would require them to make additional contributions.
In 2008, companies are likely to freeze or jettison pension plans because the new law enhances their volatility and makes new cash balance plans more attractive by protecting them from age-discrimination lawsuits, according to the study.
The new law may also encourage companies to shift funding away from equities and into fixed income investments "to better match the cash flow from their assets to benefit payments, thus immunizing their pension liabilities."