Pension Funding: To De-Risk or Not to De-Risk

Trend of handing off pension liabilities to insurers is expected to accelerate next year.

Companies that sponsor defined-benefit plans are confronted with a conundrum—whether to de-risk their pension liabilities by transferring them to an insurance company or maintain the liabilities in the hope interest rates will soon rise.

What’s a pension sponsor to do? The answer is not an easy one, and at this juncture sponsors seem to be falling into three different camps. Some are hanging tight waiting for interest rates to rise and their funding status to improve. Others are not making significant changes now, but are committing to implementing de-risking strategies as interest rates and their funding status perk up. For the third, much smaller camp—like General Motors and Verizon—de-risking is the name of the game.

Richard McEvoy of MercerThe rationale behind these decisions is compelling: By de-risking, sponsors trade potentially volatile investment activity for a predictable expense—the payment to insurance companies—although that payment carries a premium. “Sponsors can expect roughly a 20% to 30% increase in their pension expenses on their income statements, which is a very broad estimate,” says McEvoy, pictured at left.

Nevertheless, for some companies the premium may be worth it. In addition to a reduction of funded status volatility from mark-to-market gains and losses, they can pare plan expenses related to PBGC premiums, administration and investment costs.

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