This year's improvement in pension plan funding is seen aspaving the way for a groundswell in pension de-risking transactionsnext year. And the prospect of additional rules for suchtransactions from the U.S. Department of Labor isn't expected tointerfere significantly with that pickup.

Companies can lower the risk involved in defined-benefit pensionplans by reallocating plan assets to hold more fixed-incomesecurities, by offering lump-sum buyouts to some participants, orby buying an annuity to cover a group of plan participants.

The two types of de-risking transactions—lump-sum buyouts andannuity purchases—hit the headlines in 2012 when General Motors,Verizon and Ford did big deals. Verizon transferred $7.5 billion ofpension obligations to Prudential by purchasing a group annuity for41,000 retirees, while Ford offered buyouts to 98,000 retirees andformer employees. General Motors unloaded $26 billion of itspension liabilities by offering buyouts to some retirees and buyinga group annuity for those who didn't accept the lump sum and otherretirees.

While there were no mega-transactions this year, consultantscite a steady stream of smaller pension de-risking deals. And theyexpect activity to pick up next year, in part because plan fundingimproved so much this year. Mercer's calculations put the fundedratio of S&P 1500 plans at 93% in November, the highest levelin five years and up from 74% at the end of 2012.

“Clearly funded status is one of the—if not the—leadingindicator for pension de-risking activity,” said Matt Herrmann,leader of the retirement risk management group at HR consultancyTowers Watson. “As funded status improves, it improves the optionsthat are available to plan sponsors, or makes them morepalatable.”

According to a Towers Watson survey of executives at 180companies, 75% say they have a journey plan—a program forde-risking the pension plan that includes triggers for makingfuture changes—or are planning one. And half of the executivessurveyed said their company's journey plan includes unloading someof its pension obligations.

Journey plans, which have beenaround for seven or eight years, started as a way to implementinvestment strategy more effectively when markets were changingrapidly and investment committees met only periodically, saidHerrmann, pictured at left. “There was a recognition that we neededto put some triggers in place, so as funding status improves, thesponsor is in a position to take action,” he said.

In the last couple of years, Herrmann said, journey plans havebecome “more holistic.” Now they can include transactions likelump-sum offers as well as asset allocation changes.

The Towers Watson survey suggests that small pension plans aremore likely to undertake de-risking transactions. Half of therespondents whose pension plan has more than $5 billion in assetssaid they only plan to change their investment allocations, versusjust 31% of those with under $5 billion in assets.

Fifty-eight percent of respondents said they have offered orplan to offer lump sum buyouts, while just 16% said they haveconsidered such buyouts and decided against offering them.

Herrmann said that lump-sum buyouts have been “a materiallylarger tactic over the last couple of years than annuitypurchases.” Companies usually offer such buyouts to “terminatedvested” employees, those who are not yet retired but no longer workfor the company, he said, and that smaller portion of the planpopulation makes “a nice starting point.”

Prospect of New Rules

Recently, though, the ERISA Advisory Council, a group that makesrecommendations to the Labor Department related to ERISA, suggestedthat Labor provide companies with additional guidance on pensionde-risking.

At public hearings the council held earlier this year, somespeakers argued that transferring pension obligations from thecompany to an insurer via an annuity purchase leaves planparticipants less protected because their benefits are no longerbacked by the federal Pension Benefit Guaranty Corp.; instead,they're protected by an annuity backed by a state guaranty fund.Speakers also expressed concern that lump-sum buyouts are not inthe best interests of employees.

The council is expected to recommend that the Labor Departmentmake clear that buying an annuity for a de-risking transactioninvolves fiduciary standards identical to those that apply when acompany buys an annuity for a plan termination. It's also expectedto suggest additional disclosures to participants for lump-sumbuyouts and ask Labor to warn companies about the consequences ifthey breach fiduciary standards.

Lawyers say there is little in the council's recommendationsthat companies aren't already doing.

“In fiduciaries I counsel, I don't think there's ever any doubtthat the same standards apply anytime a plan purchases an annuityto pay benefits,” said Rosina Barker, a partner at Ivins Phillips& Barker, a law firm that specializes in tax and employeebenefits.

Barker questioned the council's recommendation that the LaborDepartment consider providing a set of factors fiduciaries shouldconsider when selecting an annuity, which would serve as a safeharbor, limiting plan sponsors' liability if they complied withthem. “The fiduciary has to keep abreast of every piece ofinformation that indicates a financial institution may not besafe,” she said. “In an era where a lot of people are thinkingabout what is the indication of a safe and sound financialinstitution, and their thinking changes as events change, Iquestion whether a safe harbor would really enhance the process.”Barker also questioned whether the Labor Department has theauthority to develop a safe harbor or to require the posting of abond if a safe harbor requirement is not satisfied.

The other section of the recommendations, about disclosures forlump-sum offers, are “almost all current law,” Barker said, exceptfor the recommendation that companies give a minimum 90-day noticefor lump-sum buyouts, up from the current requirement for a minimum30-day notice period.

“I think any additional look the Labor Department wants to takeon the sufficiency and transparency of notifications would bewelcome,” Barker added. “In my opinion, some of these notices arecomplex and could usefully be simplified.”

Jeffrey Capwell, leader of employee benefits and executivecompensation at the law firm McGuire Woods, said he doesn't expectthe proposal for Labor Department guidance to discourage companiesfrom undertaking de-risking transactions.

“Requiring the election period [for lump sums] to be at least 90days would impact the design some people have been using, but thatshouldn't make it particularly more difficult to conduct one ofthese programs,” he said.

Capwell added that it's not surprising that the Labor Departmenthas concerns about lump-sum buyouts, since such transactions runcounter to the emphasis Labor and the Obama administration haveplaced on encouraging the annuitization of retirement benefits.“There's a general view in this administration that annuities makesense and lifetime payments make sense and there are risksassociated with lump sum cash-outs of benefits,” he said, notingthat the Labor Department has put forward a proposal for 401(k)plans to express participants' benefits in the form of anannuity.