PBGC Premiums Getting in the Way of Its Mission

The Pension Benefit Guaranty Corporation (PBGC) was created by the Employee Retirement Income Security Act (ERISA) to encourage the continuation and maintenance of private-sector defined benefit (DB) pension plans, provide timely and uninterrupted payment of pension benefits and keep pension insurance premiums at a minimum.

An Issue Brief from the American Academy of Actuaries argues that the way PBGC premiums are set is leading many plan sponsors to decide to discontinue their plan, reduce the size of their plan or not to adopt a plan—running counter to the mission to encourage the continuation and maintenance of private-sector DB plans.

The per-participant flat rate premium for plan years beginning in 2020 is $83, up from a 2012 rate of $35. The 2020 variable-rate premium (VRP) is 4.5% of the value of unfunded vested benefits (UVB), up from a 2012 rate of 0.9%. The VRP is subject to a per-participant cap, which is $561 per participant in 2020. The initial cap in 2013 was $400 per participant.

As the Academy’s Issue Brief notes, from 2012 to 2020, the flat rate premium has more than doubled and the VRP has increased by a factor of 5, though the cap has limited this increase for the most poorly funded plans. One issue, according to the Academy, is that Congress, not the PBGC, sets premiums.

In 1980, Section 406 of the Multiemployer Pension Plan Amendments Act (MPPAA) allowed PBGC premiums to be calculated as general fund revenue for budget scoring, even though the premiums themselves are not used to pay for unrelated programs. Basically, PBGC premiums are categorized as an increase in general revenue and Congress increases them to offset the costs associated with other government expenditures in order to achieve budget neutrality.

The Academy argues that letting the PBGC set its own premiums would not only take them “off budget,” but would allow the agency “to review the premium structure and adjust it to be more timely when needed, to more appropriately reflect its risks, to reduce moral hazards and anti-selection and to discourage termination of plans and lump sums.”

Linda K. Stone, senior pension fellow with the American Academy of Actuaries, says it would be helpful for the PBGC to set its own rates because there is a disconnect between the level of premiums and the risk the agency bears for carrying out its mission. “Congress is independently setting rates, and it has an incentive to raise them to use them as a budget balancer,” she notes.

She says the outcome may be that high-risk pensions pay more in premiums, but “something is wrong with the system if plan sponsors with healthy pensions are exiting the system because of high premiums.” Stone notes that a recent PBGC report about risk transfer activity (RTA) shows as many healthy plan sponsors are exiting the DB system or reducing participant count as are unhealthy plan sponsors.

The PBGC’s VRP is based on how much a plan is underfunded. Stone points out that there is nothing in the calculation that considers the health of the plan sponsor. “Two plans could have the same amount of underfunding, but one is in distress and the other healthy,” she says. “And it’s the one in distress that is more likely to end up taken over by the PBGC.” Stone points out that the agency has the ability to use sophisticated models for assessing risk and setting premiums.

“We don’t know how much the premiums set by the PBGC would be compared to what is being paid now,” she says. “However, the single-employer program is in surplus by $8.7 billion and it’s projected that in 10 years it will have a surplus of $46 billion. So, it seems like everyone is overpaying. There needs to be modeling to restructure premiums for what healthy companies should be paying versus those companies whose plan is more likely to end up with the PBGC.”

DB plan sponsors might have different reasons for offloading some or all their pension obligations, but Stone says she think premium levels are a bigger driver of plan sponsors’ actions than other things. “For example, many sponsors are looking at retirees who are only getting a small benefit and cutting them from their plans,” she says. “They are paying a premium of $600 per participant to keep them in the plan when the liability for these participants isn’t that high. That’s why plan sponsors are sending small benefit annuitants to insurance companies.”

Stone says she checked with the PBGC about how to get premiums off budget. She was told that since only Congress can change premiums, the agency believes only Congress can get them off budget. “That would take a lawmaker understanding the ramifications to the system,” she says.

A bill intended to prohibit the use of premiums as an offset for other federal spending was introduced in 2016 and reintroduced in 2017, but Stone says she doesn’t know of anyone who is working on the issue now. The Academy wrote a letter to Senate leaders in 2017 about the effect of pension-related revenue offsets.

“We know how important DB plans are to retirement security. An annuity paid for a lifetime makes such a difference in dealing with longevity risk and making money last. The DB system has been very beneficial,” Stone says. “But seeing a large number of plan sponsors exiting the system doesn’t support trying to have a robust DB system to enable a secure retirement.”