Administration November 2, 2020

A Look at Hospital and Health Care System Pensions

Health care organizations face an uphill battle financially, but the right strategies for investing and controlling PBGC premiums can help them get to the other side.
Reported by

One would hope that pensions for health care system employees working on the front lines of the pandemic would remain viable, and many industry experts still believe they will.

However, S&P Global Ratings’ outlook for hospitals and health care services was negative pre-COVID-19 and still is. And, recently, the outlook for not-for-profit hospitals was downgraded from stable to negative.

For more stories like this, sign up for the PLANSPONSOR NEWSDash daily newsletter.

S&P Global Ratings says hospitals and health care services, as well as pharmaceuticals, were already at negative before the pandemic due to increasing disruption in the industry, payor pressures and increasing merger and acquisition (M&A) activity taking a toll on credit metrics.

John Lowell, an Atlanta-based actuary and partner with October Three Consulting, explains that the delivery model in the U.S. has changed from a provider-based model to a consumer-based model. “In theory, hospitals have less ability to set their own prices. Most people are in a network and the incentive to use in-network care is so high,” he says. “Hospitals no longer have the margins they once did on procedures, but, at the same time, costs of operating have increased with inflation or perhaps more. For example, real estate and electricity costs don’t go down because the delivery model changes.”

During the beginning of the coronavirus pandemic, most health care systems reserved their capacity for COVID-19 patients and canceled elective procedures, notes Gary Wyniemko, a partner in NEPC’s Philanthropic Practice Group. “They were burning through cash until the government provided liquidity,” he says. “Since then, they have reinstated elective surgeries, but some revenue is lost and some people are still putting off care for safety concerns.”

An NEPC flash poll in April found that more than half of health care organizations were seeing daily burn rates increase more than 10%, and about one-quarter saw an increase of more than 25%, notes Kevin Novak, a senior consultant in NEPC’s Philanthropic Practice Group. The burn rate measures how quickly it’s spending its financial reserves

In addition, hospitals saw their expenses go up, says Wyniemko. “The cost of PPE [personal protective equipment] substantially increased, and is again now with a new surge in cases,” he says. “The cost of syringes is going up in anticipation of a vaccine. And there have been unforeseen expenses, such as refrigeration units to store vaccines when they become available.”

Problems With Pensions

Novak says NEPC saw that about 54% of health care organizations had a pension funded status of more than 90% in 2019, but as of June 30, only 25% have a funded status of more than 90%. “It’s not surprising if you think about what’s gone on in the capital markets and with interest rates,” he says. “Assets have gone down from the lasting impact of Q1, and rate decreases have caused liabilities to go up. It’s a double whammy.”

Half of health care pension plan sponsors responding to a September NEPC poll of corporate and health care pension plan sponsors reported their organizations have issued debt in 2020, but none said they did so to make additional contributions to their defined benefit (DB) plans. Seventy percent of health care plan sponsors said they are using debt proceeds for “other.” Novak explains that refinancing old debt falls into the “other” category; many hospitals are taking advantage of low rates to refinance. He adds that financing company operations is a big component, and it comes before making DB plan contributions.

Three-quarters of health care pension plan sponsors reported they are not planning any pension risk transfer (PRT) activities in 2021. “PRTs could reduce the costs of pension plans,” Novak says. “It’s hard to say why many in the survey are not planning to do so, but maybe reduced funded status makes those transactions cost prohibitive.”

As far as their DB plans, one thing that has gotten out of hand for many in the hospital industry is Pension Benefit Guaranty Corporation (PBGC) premiums. Lowell says he had a conversation recently with the chief financial officer (CFO) of a large, well-run hospital that has recently gotten its PBGC premiums under control to the point it is paying no variable-rate premiums. “I pointed out that most of her peer group hasn’t done that. Based on our data, hospitals are the worst-performing [group] when it comes to premiums,” he says. “The CFO said that hospitals compare themselves to other hospitals; they don’t compare themselves to other industries. As long as they are not doing worse than their peer group, they think they are doing OK. And, if others are not doing well with PBGC premiums, they think it’s normal and something they’re stuck with.”

Lowell says part of the problem is that hospitals, as a group, and especially those with frozen plans, tend not to have pension specialists. They have hospital financial professionals, but many of those professionals haven’t dealt with or thought about pensions. “I recently came across one hospital with a plan that has been frozen for 28 years and not yet terminated,” he says.

The advisers these plan sponsors are using might not be showing them how much money the plan is really costing them, so they don’t do anything about it, Lowell says. “Hospitals, in my experience, are not asking questions that would lead to creative solutions for their plans,” he notes. “Generally, they don’t have an inclination to spend large amounts of money with traditional benefits consulting firms, so they may not be getting absolute top tier consultants assigned to them.

“They need to say, ‘My pension plan has been frozen for a long time and I’m still spending a lot of money on it. Is that necessary? Are there suggestions you can make to help me cut those costs?’” Lowell adds. “If the only answer is to contribute more money, ask the consultant, ‘Can you help me build a model to show the value of additional contributions, so I can see if the value exceeds costs?’”

He says hospitals should also ask whether there are any creative financing strategies that other hospital clients have come up with.

If a consultant is not helpful, Lowell suggests hospitals find another one that is willing to be more creative. He also says, “I believe if a hospital hired somebody part of whose job is to help get pension costs under control, it would save more than the compensation it pays for that person.”

PBGC premiums for single-employer plans are calculated as the sum of a flat-rate premium ($83 per participant in 2020) plus a variable-rate premium (4.5% of unfunded PBGC liability in 2020, with a cap of $561 per participant). Lowell points out that if a DB plan’s situation puts it far over the variable-rate premium cap, then contributing to the plan won’t help right away because it will take a large amount to get closer to the cap. However, if the plan is at cap or slightly under, contributing to the plan gives an immediate 4.5% return because it is reducing that amount of PBGC premiums.

Creating a More Positive Outlook

The hospital with the CFO Lowell was talking with had an enormous revolving credit line that was almost untapped and it used that to make a contribution to its DB plan. Lowell notes that most hospitals can’t do that. “So, if I were them, I would not just look at traditional sources of access to cash and capital; I would look at all assets and determine whether some assets are potentially convertible to cash for pension contributions,” he says. “A hospital probably can’t convert an MRI machine to cash, but there might be other things they don’t need that can be.”

Lowell also notes that some hospitals are doing well and their credit is good, so they can consider borrowing to fund the plan. “Those that are less creditworthy may have to consider whether there are some other sacrifices they could make,” he says. “Would a hospital cut pay for employees? Would they cut other benefits? These are hard decisions, but if they’re in a situation where the cost of a legacy pension is so high, they may consider making them.”

Wyniemko says those hospitals that are able to should contribute to their plans. However, he notes that most are protecting their liquidity right now. They are anticipating a strong new wave of COVID-19 cases that might disrupt business.

Respondents to the September NEPC poll of corporate and health care pension plan sponsors cited COVID-19 as the biggest threat to their investment program (38% of corporate pension plan sponsors and 45% of health care pension plan sponsors). “In a market where it doesn’t look like there are a lot of screaming buys, DB plan sponsors should make sure they are comfortable with their asset allocation,” Wyniemko says. “Having liquidity is the first, second and third conversation clients want to have.”

NEPC is encouraging health care clients to revisit liquidity needs to make sure they have one quarter’s worth of cash needs on hand, remain disciplined and stick to their long-term asset allocation, confirm their risk profile and ensure they have an enterprise risk framework, and be mindful of short-term rebalancing opportunities. “Q1 was a test for health care organizations in terms of their comfort with the investment risk they have in place,” Novak says. “And, as we’ve seen market volatility on the upside and downside, which shifts the weights of different asset classes, rebalancing makes sure plan sponsors are adhering to the long-term investment framework they have in place.”

“I do think, overall, things will improve,” Wyniemko says. “Obviously, we’re at historic low interest rates, and the expectation is they will be lower for longer. But health care systems have a playbook now, so if we see a resurgence [in COVID-19 cases], they’re in a better position than at the start of the pandemic. The more certainty health care systems feel, the more comfort they will have to do activities they’re maybe not considering now, such as pension risk transfer.”

Novak notes that health care systems’ financial situations have improved somewhat since NEPC did a survey in June. “The third quarter of this year, we saw a few percentage points gain in funded status in general. Asset gains outpaced the increase in liabilities,” he says. “Going forward, while I think things will improve, it will do so at different magnitudes for different organizations. In part, it will be based on interest rates and, in part, how assets are managed. Our clients follow a range of investment frameworks—from LDI [liability-driven investing] to a total return approach. If things continue the way they are, we might see that those with a total return approach will have a higher funded status.”

Administration October 27, 2020

Retirement Planning Needs of Private- and Public-Sector Employees More Similar Than Different

Yes, public employees are more likely to have pensions, but some do not get Social Security, and health care costs are increasing for everyone.
Reported by

There has been a general perception in this country that public-sector, or government, employees have more generous retirement benefits than employees in the private sector and, thus, do not face the savings and planning needs private-sector employees do.

However, Mike Sanders, principal at Cammack Retirement Group, says there are many similarities in retirement planning needs for private-sector and public-sector employees. Still, there are some differences his firm focuses on when dealing with the two types of plans.

Get more!  Sign up for PLANSPONSOR newsletters.

When the firm is working with a public plan sponsor, such as a city or state, it emphasizes that retirement planning should consider the differences in jobs, Sanders says. “For example, first responders tend to retire much earlier than other public-sector employees or those in the private sector. On average, they retire around age 55,” he says. “They need education about early retirement and possibly having a second career. They should be prepared for more time without the same level of income coming in. They need to save more and invest better because of the additional risk.”

Sanders says public employees tend to have a much longer tenure with employers than private-sector employees, and that allows public plan sponsors to gather better data about all sources of savings and compensation trends. Public employees are more likely to have access to a defined benefit (DB) plan, but he warns that public DB plans have been going through changes. “Some are starting to move to a hybrid plan. We’ve helped launch two of those with large public employers over the past two years,” he says. “New employees are not getting the same benefits they have in mind from what their parent public employee had.”

It’s important to show public employees how to supplement their DB plans. “Higher education 403(b) programs in which employees get 10% to 12% of their compensation put in a year is the closest thing to having a public DB plan,” Sanders notes.

In states where public-sector employees have a DB plan and get Social Security, they might only need to replace about 4% more of their income in retirement, so plans such as 403(b)s and 457s are truly supplemental, Sanders says. However, not all public employees get Social Security.

“You have to look at every employer’s benefits and determine employee planning needs. It’s different for each group,” he says.

From a knowledge standpoint, public employees have a very similar base, Sanders says. The exception, he says, is police and firefighters; “I find they have a very high financial acumen.” But, overall, public employees need to understand basic finance and why retirement is important, he says.

In the private sector, where the majority of companies do not offer a DB plan, there have been discussions for years about adding lifetime income options or annuities into defined contribution (DC) plans, so, upon retirement, participants can annuitize and get a DB-like income stream, Sanders notes. “Annuities often can deliver fantastic results,” he says.

“Still, there is a large proponent of people who, if not properly educated, will go into retirement and look at an annuity and look at the large amount saved and make a poor decision,” he continues. This is why working with a financial adviser would be helpful. However, Sanders says, many workers might not feel comfortable or even know how to reach out to an adviser.

“We still don’t know how to overcome people being uncomfortable with handing a large amount of assets over to an annuity provider,” Sanders says. “But that’s the next thing to happen for our industry.”

Consider Health Care Costs

Health expenses should also be considered in retirement planning, Sanders suggests, no matter if a retiree is a public-sector or a private-sector employee.

“Even if a person gets retiree health benefits, it’s important for them to know the costs and what benefits they are getting,” he says. “More education about costs is needed for private-sector employees. And, some studies say, those who are healthy will have more health expenses in retirement because they’ll live longer.”

The things people don’t think about or don’t talk about ultimately results in hidden costs, Sanders says.

There has been a long trend of retiree health benefits going away in the private sector, says John Barkett, senior director of policy affairs at Willis Towers Watson. “It’s stabilizing now. Around 25% of private-sector companies still offer retiree health benefits, but, 30 years ago, 50% to 65% were,” he says. “In general, public-sector employers continue to provide retiree health benefits at a higher rate than in the private sector—between 60% and 80% do.”

However, Barkett says, while public-sector benefits in general are stickier, there are factors that could be creating conditions that might change retiree health benefits. “Combined with GASB [Government Accounting Standards Board] rules for more transparency about other post-employment benefits [OPEBs], there are a couple of things that could drive employers to look for new options—the threat of declining financial health of employers or governments and the threat of lawsuits if benefits are changed,” he explains.

And public employees aren’t the only ones who might see retiree health benefit changes. Some courts have ruled that health benefits private-sector employees thought were for life are not, Barkett says. Add that potential change to the cost of health care getting more expensive, and it shows all employees need to plan for health care costs in retirement.

“I start discussions with employees reminding them what the costs are,” Barkett says. “Medicare is not as generous as people think and it does have premiums.” He explains that even with Medicare, individuals are still on the hook for about 20% of costs unless they buy supplemental insurance. “They get no drug coverage without purchasing a separate drug plan, and the Part B premium is around $120 to $140 a month. So, they’re looking at $1,300 a year in Part B premiums, and potentially more costs if buy they buy a supplemental plan,” Barkett notes. “With Medicare premiums, individuals are looking at $5,000 a year before any cost sharing. That’s a huge chunk of a retiree’s budget, so planning for this is important.”

Barkett says using a health savings account (HSA) is a good idea for both private- and public-sector employees. “It really makes sense to try to save for health costs in retirement using those accounts because of their triple tax advantage. It’s the most tax-efficient vehicle for saving for retirement,” he says. “The challenge people have is they might need their HSA accounts to pay for care in the present. Or do they have enough money to put into an HSA? Not everyone’s situation is the same.”

If an employee does have a retiree health benefit, he might need to save less; however, Barkett says planning needs are still the same. “Health costs continue to increase, and public-sector employers have changed how they offer health benefits to retirees,” he says. “Anyone relying on retiree health benefits to cover costs hopes they can rely on it, but they should be prepared. Some public employers have capped how much they contribute to premiums or have implemented different eligibility requirements. The fact that those changes have been made implies similar changes can happen in the future.”

Barkett adds that employees should remember there will be health care costs that aren’t included in retiree benefits—such as hearing aids, for example. So it is still a good idea to save for such items.

Having savings in an HSA is valuable if retiree benefits don’t cover everything or if they change. Barkett notes that once an HSA-holder reaches age 65, he can use the money in the account for non-medical related items, and it is taxed as ordinary income. “So, if retiree health care covers health costs and you have to use your HSA for other things, that’s not the worst situation to be in,” he says.

Sanders says public and private employees differ when it comes to the adoption of technology, such as mobile applications—which could be helpful for retirement expense calculations and planning.

“There’s more adoption in the private sector than in the public sector. It comes from long tenures in employment. Public sector employees may not have gone through job changes and had to adapt to technology for benefits enrollment and education,” he says. “However, tech use may become more aligned because of COVID-19.”

«