Will Pension Funds Come Back in Vogue?

Despite well-known costs, current widespread surplus funding levels have prompted reconsideration of defined benefit offerings.

A timely confluence of higher interest rates and robust equity markets has led many private sector U.S. employers to have more assets than liabilities in their defined benefit pension plans.

This development is offering a range of opportunities, including reopening the plans, for the companies to utilize those excess assets.

Some are watching tech giant IBM’s 2023 decision to reopen its defined benefit cash balance plan and end its defined contribution plan match, as a possible bellwether of more changes to come.

“People are thinking about it, and there’s definitely some other plan sponsors who are probably in a very similar situation or even more positioned to do this than IBM was,” says Andy Hunt, a San Francisco-based senior investment strategist with Allspring Global Investments.

The Risks

Data from PLANSPONSOR’s 2024 Defined Benefit Administration Survey show that 52% of the DB plans served by respondents are open, 32% are frozen, 15% are closed and 1% are terminated.

The largest group of participants in the plans addressed by the survey, 40% are retired, while 36% remain active in their plans and 24% are separated from the company that offers the plan.

This shows that options are available to plan sponsors for approaching their pension funds and viewing the assets there as part of the full corporate balance sheet.

Other recent surveys have revealed a significant focus on this question of reviving pension plans. Mercer’s 2024 DB CFO Survey, for example, fielded in the spring of 2023, found that 65% of those surveyed reported considering reopening their DB plan, and that predates IBM’s decision, according to Mercer. Of those respondents, 88% said they would consider reopening their plan “if they could eliminate their risk concern with a new design,” and 90% agreed that defined benefit plans “are a valuable tool for attracting and retaining talent in their industry,” according to the report. In contrast, the top risks shared by those not considering reopening their plans included 63% for interest rate volatility, 62% for investment risk, 14% for mortality and 10% for compliance.

In an analysis of all U.S.-listed companies that report data about a defined benefit pension plan, Hunt identified a group of firms at which the pension surpluses exceeded $200 million, the funded ratios were greater than 110% and the service cost was less than 2.5% of their current liability, according to Bloomberg data. Some exceeded 130% funding, including JPMorgan Chase, Bank of America, Bank of New York Mellon, Campbell Soup and Honeywell, according to Hunt, though he noted these figures represent combined global plans and do not distinguish between U.S. and non-U.S. assets.

“They’ve possibly the most to gain by considering reopening because they’ve got effectively a surplus in their plan that they’re not using,” Hunt says. “It’s a strategic asset, and you could argue they could redeploy it by using it for employee benefits.”

Companies’ Response

Mike Moran, a New York-based senior pension strategist at Goldman Sachs Asset Management, also sees many companies discussing how to regard these strategic assets. He likens it to prior periods when some pensions showed surpluses, such as in 1999 and in 2007. Every year, he analyzes the level of pension funding among firms in the S&P 500 Index, and at the end of last year, he found 30% of plans had at least 105% funding.

“In some periods of overfunding, some sponsors didn’t take action to protect that overfunding and, consequently, saw deficits reemerge,” Moran says. “Today, we are seeing sponsors take action to capitalize on this position of strength, although the actions are quite varied.”

Those choices include considering redirecting surpluses to pay for employee health care costs and using them as a strategic asset in mergers and acquisitions, which can be key when considering firms with underfunded pension plans.

“In this environment, we’re seeing a lot of organizations appropriately evaluate this position of strength,” Moran says. “They’re saying, ‘What are my goals and objectives with my plan?’”

Some sponsors who want out of the pension business are using this period of overfunding to reduce funded status volatility and, at times, shrink the plan through annuitization, he says. But others are also reevaluating their goals and objectives and considering reopening their plan and pursuing a cash-balance structure.

“When a plan is 80% funded, sponsors can’t wait to get out of the pension business,” says Moran. “Now that many are overfunded and potentially generating pension income on their income statements, some are recognizing the value of the plan and are looking to retain it.”

John Lowell, a partner in October Three Consulting who is based in Woodstock, Georgia, also expects the analysis to be company specific. Many companies with a surplus may see a strong argument for redirecting the surplus to pay Pension Benefit Guaranty Corporation premiums and other expenses, he notes.

Search for Solutions

While many companies are posting pension surpluses, Lowell also notes an increasing political interest in fostering pensions. Earlier this year, the Senate Health, Education, Labor and Pensions Committee held hearings on the topic of what could be done to expand defined benefit pension plans in the private sector and followed up with requests for solutions. Lowell is part of a working group, as a member of the National Institute on Retirement Security, that is currently developing ideas.

“They’re really asking us for solutions for ‘What would it take to give them more intrinsic incentive to be starting defined benefits plans? What could we do?’” Lowell says of one of the groups he is currently working with on possible solutions for Senate HELP. “One of the big pushes is around PBGC premiums.”

Both Hunt and Moran also regard the current premiums and regulatory environment as a possible stumbling block.

“There are a lot of plans looking at it, evaluating it in line with the other use of surplus options, but there are a number of reasons that are probably holding some plans back, and that has to do with the broader regulatory environment where PBGC premiums continue to go higher and the regulatory environment is very complex; you have multiple definitions of the liability,” says Moran. “I would not be surprised if some other companies do potentially reopen, but I don’t expect it to be a massive wave because of these other forces.”

Hunt describes the PBGC premiums as a modest friction point compared with the larger benefit of making use of large plan surpluses.

“There are well-known costs that are associated with running a DB plan, such as administration fees, PBGC premia, actuarial fees,” Hunt notes, adding that companies should, as always, seek professional guidance about their circumstances. “But to the extent that a plan sponsor already has a DB plan, reopening does not materially increase these costs going forward, and certainly they are small in relation to the potential financial lift given by making productive use of the surplus in the plan.” —Elizabeth Harris