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Pension Funds

Contributions to corporate plans likely to be down with ‘17 tax law

Mercer’s Scott Jarboe

Employer contributions to corporate defined benefit plans are expected to be lower this year because a number of companies in 2018 opted to take advantage of the 2017's tax law. That left more plans closer to being fully funded.

"2018 is when the new tax reform rules became effective for plan sponsors. So it made sense to take advantage of those deductions and accelerate their contributions," said Scott Jarboe, a partner in Mercer's U.S. wealth business in Washington.

The Tax Cuts and Jobs Act, which was signed into law by President Donald Trump on Dec. 22, 2017, reduced the corporate tax rate to 21% from 35%. Corporations had until Sept. 15 to deduct those contributions at the higher 2017 rate.

"What we saw in 2018, the tax law changed, corporations got a 14-percentage-point change in their tax rate, so making a contributions for the 2017 plan year was a tax-deductible contribution at 35% as opposed to 21%," said Ned McGuire, managing director at Wilshire Consulting, Santa Monica, Calif. "Plans took advantage of that tax deferential to prefund as many years as possible at the highest possible rate."

U.S. corporations plan to contribute some $17.35 billion to their global pension funds this year, according to Pensions & Investments' analysis of individual S&P 500 companies that announced expected contributions of at least $100 million.

Among the 46 companies P&I analyzed, two said they would contribute more than $1 billion and another eight companies said they would contribute between $500 million and $1 billion in 2019, based on 10-K filings with the Securities and Exchange Commission through March 14. Those 46 companies contributed a total of $26.1 billion to their global pension funds in 2018, including 10 that contributed nearly $1 billion or more.

By comparison, last year P&I reported 66 S&P 500 companies expected to contribute at least $100 million to their global plans, totaling $37.8 billion. Those same 66 companies contributed $39.3 billion to their plans in 2017.

"If we look at pension plan performance in 2018, the funded status improved for plans in general," Mr. Jarboe added.

Funded status falls

The median funded status of the 46 U.S. corporate plans tracked was 82.5%, down from a median 83.8% the year before. However, Wilshire, which tracks the funded status of S&P 500 companies, reported those plans were 91.5% funded as of Sept. 30 before a market downturn in the fourth quarter. Funding ratios were 84.5% as of Dec. 31 and have since rebounded to 88.8% as of Feb. 28.

The median discount rate also rose to 4.3% from 3.65% the year before, which decreased liabilities and helped offset a down 2018 market.

Royce Kosoff, a managing director in Willis Towers Watson PLC's Philadelphia office, said that the discount rate increase "was offset by negative investment returns during 2018, which left average pension funded ratios relatively unchanged from the beginning of 2018 to the end of 2018."

"That said, plan funded statuses have generally improved to start 2019. The reason: While interest rates have fallen slightly thus far in 2019, U.S. equity markets have posted their best two-month start to a year in a generation," he added.

United Parcel Service Inc., Atlanta, projected the largest contribution of the companies reviewed, announcing in its 10-K filing with the SEC on Feb. 21 that it planned to contribute $2 billion to its U.S. pension plans in 2019. UPS contributed $19 million to the U.S. plans in 2018 and had a U.S. plan funding ratio of 82.7% as of Dec. 31, up from 80.7% the previous year. It contributed $7.3 billion to its plans in 2017.

Exxon Mobil Corp., Irving, Texas, plans to contribute $1.02 billion to its U.S. pension plans in 2019 after contributing $490 million to its U.S. plans in 2018, the company disclosed Feb. 27 in its 10-K filing.

The energy company's U.S. pension assets and benefit obligations totaled $11.13 billion and $18.17 billion, respectively, for a funding ratio of 61.3% as of Dec. 31, down from 66.2% the year before.

Mr. Kosoff said in a phone interview that he, too, expects to see lower contributions in 2019 due to tax reform, improved funding ratios and from funding reforms. MAP-21 funding relief still applies, he said, which will entice some sponsors to defer 2019 contributions to later years. However, Mr. Kosoff expects many sponsors will contribute in 2019, "in large part to help mitigate the impact of increasing PBGC variable premium rates."

Mr. Kosoff also pointed out that although he expects to see lower contributions in 2019, there are still a number of plans "in underfunded positions."

"When we look at 2019, the expected number is so much lower when you look at the 10-Ks, but that number never plays out," he added.

Plans to terminate

Mercer's Mr. Jarboe noted that the majority of plan sponsors aren't just making the mandatory minimum contribution, but instead now have their own funding policy in place. "We think a large portion of the DB market is managing their plans toward some sort of end state, which in many cases will be termination."

The Mercer executive pointed out that somewhere around 80% of DB plan sponsors have either closed or frozen their plans. And in 2017, in response to the question in Mercer's CIO survey, more than half of respondents said they plan to terminate within the next 10 years.

Industry observers with whom P&I spoke agreed that the high amount of employer contributions in 2018 to their DB plans was driven in large part by change in the corporate tax rate.

"Given the reduction in the corporate tax rates, corporations found it advantageous to prefund their plans by making contributions reported for the 2017 plan year in 2018," Wilshire's Mr. McGuire said.

But another factor was that plan sponsors are currently looking at what the best use of their corporate assets are to determine whether or not to make pension contributions.

"Part of what goes into that is a consideration of what are the fees that go with the plans," he noted.

Mr. McGuire added that the dip in equity values during the fourth quarter depressed the year-end asset values, which are used to calculate minimum contributions and could impact the figures this year.

"It's to be determined at this point," Mr. McGuire said.