Next Market Loser Deferred Compensation

By Staff Report

Nov. 5, 2008

As large corporate pension plans plunge deeper into the red, there’s more on the line than just retirement benefits for rank-and-file workers. Pension benefits for top executives may soon be in jeopardy too, thanks to regulations put in place a few years ago.

Tucked into the Pension Protection Act of 2006—which was designed to shore up the funding levels of corporate pension plans, among other things—is a provision that says companies with defined-benefit plans that are funded only 60 percent or less may not set aside money for nonqualified pension plans for executives, including supplemental executive retirement plans, or SERPs.

While this rule received little notice in the heady days of 2006, it’s bound to get more attention given the deterioration in the funded status of many companies’ defined-benefit plans this year. Some experts predict that collectively, large corporations could end the year with their pensions more damaged than ever before.

If that proves to be the case, companies with the most severely underfunded pensions would be subject to the new rule, which was created to encourage executives to make significant contributions to their workers’ defined-benefit plans and keep the funded status of these plans from approaching precarious levels. It was hoped that the rule would help prevent companies from terminating or freezing traditional pension plans.

“The thinking was that executives shouldn’t be able to have money set aside for their personal pension plans if they’re not doing an adequate job of funding their employees’ pensions,” said Gregory Ash, a partner in the employee benefits practice of law firm Spencer Fane Britt & Browne. “If workers are in danger of losing their retirement benefits, then the PPA says there should be consequences for executives as well.”

This may not single-handedly propel executives to make larger-than-required contributions to their workers’ defined-benefit plans, “but it does give them a personal interest in the health of their workers’ pensions,” noted Howard Silverblatt, a senior analyst at Standard and Poor’s. “And many of these pensions, right now, appear as if they could be on life support.”

Silverblatt estimates that the defined-benefit plans of companies in the S&P 500 are currently underfunded by more than $200 billion combined, in contrast to the $63 billion surplus they boasted at the beginning of the year. If equity markets don’t improve, or if corporate bond yields decrease (which would cause companies to calculate a larger stream of pension liabilities), these large plans could easily end the year being more underfunded than they were in 2002, when their collective deficit was a record $219 billion.

Ordinarily, Silverblatt said, it’s unusual for a plan’s funded status to fall below 60 percent. Last year, for instance, only four of the 100 largest companies—Delphi, Procter & Gamble, ConocoPhillips and Delta—had funding levels that were below 80 percent, according to data compiled by actuarial and consulting firm Milliman. Delta, with a funded status of 66 percent, had the most underfunded plan among the group.

“Companies don’t usually see their plans get to that point unless there are extraordinary circumstances and they’re in great distress,” Silverblatt said. “But these are obviously very unusual times, so anything is possible.” He said the funding restrictions on executive pensions could wind up applying to more than just one or two companies.

Executives at any companies that may be subject to this provision would also be faced with a number of other issues related to their workers’ pension plans, of course, which could have significant implications for their employees.

Under another provision in the Pension Protection Act, companies with defined-benefit plans that are only 60 percent funded may be forced to freeze their plans, said Kenneth Raskin, head of the executive compensation, benefits and employment practice at law firm White & Case. He also noted that when funding levels fall below 60 percent, the Pension Protection Act limits the distributions that can be made to participants. Most notably, workers are not permitted to take full-value lump-sum payouts.

“So if your funded status falls that far, you are probably in pretty bad shape on a number of levels,” Raskin said. “Losing some funding for your executive benefit will likely be the least of your concerns.”

Filed by Mark Bruno of Financial Week, a sister publication of Workforce Management. To comment, e-mail

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