Offering workers both DB & DC retirement plan options: The best of both worlds?

A new look at premium rates for private-sector pensions was the topic of a recent report and webinar by the National Institute on Retirement Security (NIRS). The group is calling for a reduction in premium rates as part of a broader effort to expand access to defined benefit (DB) plans such as a pension.

The NIRS report was prompted by recent developments in Congress—specifically, a request for information issued by the U.S. Senate Health, Education, Labor, and Pensions (HELP) Committee. “Congress has expressed an interest in learning what the federal government can do to make it easier for private sector employers, who wish to do so, to offer pension plans,” the report said. The report is an effort to provide clarity around any upcoming policy actions on private pensions.

“The research indicates that future policy solutions must address two key issues. First, private sector pension plans should provide an avenue for retirement adequacy for the large majority of Americans lacking pensions regardless of their demographic profile and income,” NIRS said in a release that accompanied the report. “Second, private-sector pension plans must be affordable and sustainable for employers.”

The NIRS report noted that both DB and defined contribution (DC) plans have advantages and disadvantages. For DC plans, there is concern that they might not provide enough income in retirement—for example, many surveys show that 401(k) enrollees worry that their retirement savings will not be sufficient over time. Pensions, the DB option, are seen as more generous and reliable for retirees, but bring more financial risk to employers.

“The DC industry is working to solve post-retirement challenges with in-plan spend-down options that will be more efficient and effective, if retirees choose these options and utilize the tools that are available,” the report said. “And the DB industry has provided an array of innovative benefit designs including cash balance account-based formulas and variable annuity formulas to address financial risk to employers.” The report and webinar focused on a particular area of concern to employers who sponsor DB plans: the cost of premiums. NIRS and the experts it consulted said that a top recommendation for Congress is lowering the per-person premiums rates of the Pension Benefit Guaranty Corporation (PBGC) for single-employer plans, as well as reducing the variable PBGC premium rates. The report also explored the benefits of acknowledging risk-sharing plans in statute, regulations or laws permitting greater flexibility in the use of DB plan funding surpluses, and other steps to make private pensions more attractive to employers.

Top ideas: reduce premiums, share risk

At the webinar, NIRS gathered five pension experts to discuss the recommendations of the report. The participants also helped write the NIRS report.

Zorast Wadia, principle and consulting actuary at Milliman, noted that there are two types of PBGC insurance premiums. It can be a flat rate premium based on the number of enrollees in a pension plan, or a variable rate premium, based on the funded status of the pension plan.

“Both the flat and variable rate premiums haves increased considerably over the last decade,” Wadia said. “In fact, the rate of increase has been double the rate of inflation. At one point this might have made sense… but based on the funded status health of the PBGC and plans in general, we believe the time is now to consider a decrease in the premium rates.” He added that high PBGC premiums have been a major reason that employers have exited the DB market in recent years.

Related: PBGC’s new report shows surplus: Feds should lower plan premiums, say employers

Micheal Kreps, principal at Groom Law Group, noted that the original PBGC rates were set in the 1970’s with relatively little data to base them on, and that there are some basic problems with how Congress has considered their budgetary impact. “Congress has taken a couple of small steps, they reduced premiums for a sliver of plans… but it’s time to fully embrace it, right-size those premiums and make them more reasonable, especially given the very positive financial condition of PBGC and the DB system.”

John Lowell, partner at October Three, agreed that high premiums have been a disincentive for companies to create or continue pension plans, and asked whether more risk sharing could also make DB plans more attractive.

Lowell discussed variable annuity plans, which have been in the market for some time, and market-based cash balance plans, which are newer, having been introduced in 1996. “What these designs and some other designs, have in common is that they have an element of risk-sharing,” he said.

“There is good reason for PBGC or Congress to consider putting in a decrease in premiums for designs that are risk bearing and therefore represent a smaller risk to PBGC,” he said.

Plans change over time

Jonathan Price, senior vice president and national retirement practice leader at Segal, noted that the goals of retirement saving and plans themselves can change over time—for example account holders in earlier years might take more risk with 401(k) investments and switch to safer investments over time. “Retirement plans are intended to play the long game,” he said. “Over time the value proposition for employers and employees does shift; so, the need to be able to modernize over time is an equal pressure… so employers are not locked into something forever. So that what they’re providing today does have secure promise for the future.”

Participants also talked about how some in the industry are discussing ways to offer employees the best of both worlds by giving them both DB and DC options. “The vast majority of corporate America is 401(k) only… Those are at the wealth accumulation funds at their core—savings plans, and the (DB) plans are at their core retirement income programs.”

The current situation, Price said, allows employers to think “more holistically around not a plan but a program—defined benefits and defined contributions living side by side,” he said. “How can they support each other? That may not be the perfect combination, but it may be the good that can help society and employers support their employees as they’re going from employment into retirement; to be able to piggyback off their 401(k) in a way that generates retirement income through a DB plan.”

The report said that NIRS is seeking to remind policymakers that rebuilding retirement security for U.S. workers must include increasing pension coverage.

“We remain encouraged that the Senate HELP Committee is taking action to address the retirement savings crisis facing middle class Americans,” said Dan Doonan, NIRS executive director. “The recommendations set forth in this issue brief offer pragmatic ways to ensure more working Americans will have access to a pension that delivers adequate retirement income that won’t run out. As importantly, these policy solutions will help ensure pension costs are sustainable and predictable for employers. American workers and employers deserve a sustainable, win-win solution, and there indeed is a way to get there.