By Eddie Vaughn
It’s no surprise that the market downturn arising from the COVID-19 outbreak has left many U.S. defined benefit pension plan sponsors uneasy and unsure of the financial effect on their plans. Generally, with a precipitous drop in assets, various measures of a plan’s funding health will decline, and plan costs will rise. Is that the situation we are facing right now, and how severe is it?
Measurement Date is Key
First of all, the issue depends on the date at which a given measurement is being made. Generally, measurements are made annually, at the beginning of the plan year for regulatory purposes under federal law, and at the beginning of the employer’s fiscal year to assess costs under applicable accounting standards.
Regulatory measurements include a determination of annual contribution requirements, insurance premiums to the Pension Benefit Guaranty Corporation (PBGC) and a measurement of the ratio of assets to liabilities. This latter funding ratio drives a number of outcomes, including the frequency of required contributions to the plan, and the possible cutback of benefits for plans that have low ratios. Accounting measurements comprise a determination of annual expense to be reported on the employer’s income statement, and a measurement of plan assets and liabilities for the year-end balance sheet.
Thus, for example, organizations whose fiscal and plan years both begin on January 1 will for the most part see their 2020 accounting and regulatory measures unaffected by recent events, having been based on a January 1, 2020 measurement of assets and liabilities. The real question for these employers is whether assets will recover before their next measurement date, January 1, 2021. If not, the table is set for the year-end 2020 accounting disclosures and the 2021 accounting expense and regulatory measures to feel the brunt. On the other hand, an employer whose fiscal year and/or plan year begins in March or April could feel the effects now.
CARES Act and Defined Benefit Plans
In a further development, on March 27, 2020 President Trump signed into law The Coronavirus Aid, Relief, and Economic Security Act (CARES Act). In addition to widely-touted economic stimulus payments, the CARES Act also affords some relief to defined benefit plans, with respect to some of the Federal regulatory requirements. These measures include the ability to delay certain plan contributions otherwise due during calendar 2020 until January 1, 2021, and the ability to adopt the 2019 funding ratio for use as the 2020 funding ratio, to mitigate benefit restrictions that could otherwise come into play.
Considerations Moving Forward
- For employers expected to be unaffected in 2020 due to having a valuation date early in the year, go ahead and confirm that to be the case now on an estimated basis, since 2020 valuations may not be complete for several more months. Then, estimate the effect on the upcoming 2021 valuation based on current assets, trended to the year-end under asset scenarios of improvement, no improvement, and worsening.
- For employers with other valuation dates, estimate the effect on the current or near valuation date, trending assets into the future under similar scenarios, as needed.
- Once the accounting and regulatory measures are reasonably estimated, your actuary can advise on actions that might reasonably be taken to mitigate the effects of the downturn. This advice includes working with plan sponsors to advise what specific relief is granted under the CARES Act, and whether or not it offers any given advantage or disadvantage in particular circumstances.
In summary, the situation may not be as bad as initial perceptions indicate. In any case, the estimates and projections prescribed above are a first step in charting a course to tend to your pension plan’s funding health in uncertain times.
Eddie Vaughn
McGriff Retirement Consulting Practice Leader
336-291-1142
[email protected]
The information, analyses, opinions and/or recommendations contained herein relating to the impact or the potential impact of coronavirus/COVID-19 on insurance coverage or any insurance policy is not a legal opinion, warranty or guarantee, and should not be relied upon as such. This communication is intended for informational use only. As insurance agents or brokers, we do not have the authority to render legal advice or to make coverage decisions, and you should submit all claims to your insurance carrier for evaluation. Given the on-going and constantly changing situation with respect to the coronavirus/COVID-19 pandemic, this communication does not necessarily reflect the latest information regarding recently-enacted, pending or proposed legislation or guidance that could override, alter or otherwise affect existing insurance coverage. At your discretion, please consult with an attorney at your own expense for specific advice in this regard.