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Return of old-fashioned pensions

By Jennie L. Phipps · Bankrate.com
Monday, October 1, 2012
Posted: 5 pm ET

For many people, having an old-fashioned, defined benefit pension is a real retirement planning advantage. People who have them feel much more financially secure, both as they plan for retirement and after they actually pull the trigger.

But in the last 20 years, the number of workers with defined benefit pensions has declined, in large part because companies have been unsure about their ability to pay for them as retirees live longer. Plus, returns on fixed-income investments, which have been considered key to funding these plans, have been historically low, at least for the last half-dozen years.

That's all likely to change and defined benefit pensions will make a comeback, predicts Rich Rausser, senior vice president of client services at Pentegra, a retirement services company. Rausser wrote in a white paper: "Underlying macroeconomic trends such as the 30-year bull market in bonds, the decade-long stagnation in the equity markets and the lack of viable options to extend duration for pension investment managers all exhibit signs of changing for the better."

Rausser says that in the current low-interest rate environment, the typical defined contribution plan -- such as a 401(k) -- costs an employer about 6 percent of payroll. Meanwhile, the typical defined benefit plan today costs 17 percent of payroll. But it doesn't take very long for the situation to change if interest rates rise.

For instance, if interest rates go back to where they were in 2006 and 2007, the typical defined benefit plan would have a surplus of 115 percent to 125 percent, Rausser calculates. That would allow plan sponsors to use these excess dollars to fund the plans for several years without having to contribute anything additional. That makes a defined benefit plan much cheaper than a defined contribution plan where annual employer contributions are locked in.

So when will rates turn around and defined benefit pensions roar back? Rausser doesn't have a crystal ball, but he says some companies are already anticipating that day. At least one of his large company clients recently re-opened its frozen defined benefit pension plan. The company made that decision after running the numbers and concluding that any expansion of a 401(k) was already going to be at best cost neutral and possibly more expensive than offering a defined benefit plan, especially when the company took into account the cost of employee turnover, which defined benefit plans tend to reduce.

"The whole point of the white paper is that things are going to change dramatically once rates go up, and we shouldn't forget the impact of those changes on pension funding," Rausser says.

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6 Comments
sanjosemike
October 02, 2012 at 11:22 am

Return of pensions? I have never seen such a ridiculous article. Even if interest rates go up, businesses will STILL be concerned that paying pensions will siphon off their ability to stay profitable.

Pensions will never come back. Companies could see the advantages of people setting up their own retirements and living below their means...in order to do it.

Plus, they don't care about their employees. It's really that simple.

sanjosemike

Ray
October 02, 2012 at 9:40 am

1. I have serious doubts about the authors claims about the costs of defined benefit versus defined contribution.

2. Companies will do what is perceived to be in the shareholders' interests.

3. Does anyone really care about employee turnover anymore? I don't see any. Where is one to go?

Dmitry
October 01, 2012 at 7:24 pm

It's scary to think that lesson is so quickly forgotten.

Does any company has ability to foresee future interest rates as well as it's own profitability as well as future life span 20-50 years ahead?

Or will they simply control "employee turnover" if the numbers go against their bet? Or dump it on PBGC (taxpayers)?

High employee turnover usually sign of sub-market working conditions - pension is not the best way to control that.