Pension Reform Under Active Discussion

Congress has started public discussions about the administration’s pension reform proposal. The Senate Finance Committee, House Education and the Workforce Committee, and House Ways and Means Select Revenue Measures Subcommittee held hearings in March. In addition, the Senate Health, Education, Labor and Pensions (HELP) and Finance Committees conducted a joint forum to discuss the future of the private pension system.

The hearings are an important step in the pension reform debate. Although Congress held pension reform hearings during the 2003-2004 legislative term, the administration’s proposal focuses the debate on specific reforms in addition to broader issues.

During the hearings, administration officials testified about the need for fundamental reform. They claimed that the administration’s proposal would improve accuracy and stabilize the Pension Benefit Guaranty Corporation (PBGC) while offering flexibility to plan sponsors. But witnesses representing plan sponsors and participants voiced their concern that the proposed reforms would discourage plan sponsorship. Lawmakers affirmed their interest in pension reform, but it is not clear which legislative proposals — if any — will make it all the way to enactment this year.

One complicating factor is that the budget resolution for the 2006 fiscal year directs Congress to raise PBGC premiums as part of the budget reconciliation package. Separating provisions to raise PBGC premiums from the rest of the pension reform proposal could get in the way of Congress acting on other pension reform provisions this year.

The Administration States Its Case

A panel of administration officials opened the March 1 hearing at the Finance Committee, the March 2 hearing at the Education and the Workforce Committee, and the March 9 hearing at the Ways and Means Select Revenue Measures Subcommittee. PBGC Executive Director Bradley Belt summarized the PBGC’s financial condition and told lawmakers that the current funding rules have led to systemic underfunding and “moral hazard.” Assistant Treasury Secretary Mark Warshawsky outlined the administration’s proposed funding rules. Echoing Mr. Belt, he told the committee that weaknesses in today’s defined benefit system result from failings in the current funding rules and regulatory structure. Assistant Labor Secretary Ann Combs agreed with Mr. Belt’s and Mr. Warshawsky’s assessments. She also summarized the benefit limitations, disclosure requirements and PBGC premium provisions in the administration’s proposal.

In addition to administration officials, committee members heard from plan sponsors, participant groups, labor organizations and academic experts. Larry Zimpleman of the Principal Financial Group testified before the Finance Committee on behalf of the Business Roundtable. He expressed the business community’s support for enhanced disclosure and a higher deductible contribution limit. But he also voiced his concern that increased volatility and steeper PBGC premiums would ultimately do more harm than good. He maintained that a healthy, vibrant defined benefit system is the key to a sound financial future for the PBGC. Several business groups, including the American Benefits Council, ERISA Industry Committee, Financial Executive Institute, National Association of Manufacturers and U.S. Chamber of Commerce, supported Mr. Zimpleman’s testimony. Business community witnesses also echoed those sentiments at the Education and the Workforce Committee and Ways and Means Select Revenue Measures Subcommittee hearings. And witnesses from labor and participant groups expressed many of the same or similar concerns.

Yield Curve, Disclosure Key Discussion Topics

While lawmakers at the hearings asked about several of the provisions in the administration’s proposal, many of the questions focused on the yield curve, benefit limitations and expanded disclosure requirements.

Some lawmakers were concerned about how the yield curve would affect volatility and plan sponsors’ investment strategy. At the Ways and Means Select Revenue Measures Subcommittee, chair David Camp (R-Michigan) asked why the yield curve would be more accurate than the corporate bond rate and whether the yield curve has been tested. Mr. Warshawsky responded that the administration believes the yield curve would be more accurate and that it is widely used elsewhere, such as in calculating mortgage rates.

But other witnesses stated that the spot-rate yield curve proposed by the administration would increase volatility, making it difficult for sponsors to project their pension contributions and discouraging continued plan sponsorship. In addition, Finance Committee ranking member Max Baucus (D-Montana) asked how the administration’s proposal would affect the investment of plan assets. Mr. Warshawsky replied that the proposal does not tell plan sponsors how to invest plan assets.

Many lawmakers and witnesses expressed support for the proposed disclosure requirements. Education and the Workforce ranking member George Miller (D-California) applauded enhanced disclosure. Ron Gebhardtsbauer of the American Academy of Actuaries said that the academy would support even stronger disclosure requirements than those the administration is proposing. Finance Committee member Jeff Bingaman (D-New Mexico) expressed his support for the proposal’s benefit limitations and said he would support additional limitations on benefits for corporate executives.

Participants also discussed the elimination of credit balances. Education and the Workforce Committee chair John Boehner (R-Ohio) and Representative John Kline (R-Minnesota) asked about the consequences of eliminating credit balances. The business community witnesses were vocal in their strong support for retaining credit balances, explaining that they could minimize volatility and encourage advance funding of pension liabilities.

Senate Committees Hold Joint Discussion Forum

On March 15, the Senate HELP and Finance Committees held a joint forum that focused on the long-term outlook for employer-provided retirement benefits. Although the forum did not specifically address the administration’s funding reform proposal, it focused on the importance of preserving the defined benefit system and encouraging savings. Many participants called for funding rules that would foster stability and predictability, increase flexibility so that plan sponsors could respond to changing demographics and business environments, and clarify the legal status of hybrid pension plans.

Forum participants included large and small plan sponsors, service providers, mutual fund companies, think tanks, and groups representing seniors and plan participants. In his opening and closing statements, HELP Committee chair Mike Enzi (R-Wyoming) expressed support for the defined benefit system.

Much of the discussion addressed defined benefit plans. Senator Orrin Hatch (R-Utah), a member of both the Finance and HELP Committees, questioned the sustainability of defined benefit plans. Forum participants expressed enthusiastic support for defined benefit plans, noting that these plans minimize investment risks to employees, which has become particularly important given the higher risks workers face in health care coverage and costs. Others noted that defined benefit plans are an efficient means of delivering compensation to employees, and emphasized the need to promote the benefits and security of defined benefit plans to employees. Forum participants also noted that plan sponsorship will continue its current decline if pension reform increases volatility or the overall cost of plan sponsorship.

The low U.S. savings rate was another key discussion topic. Forum participants questioned whether American workers are saving enough, especially given the steep increases in health care costs future retirees are likely to face. Several participants asked Congress to provide fiduciary clarification for lifecycle investments under automatic enrollment arrangements. Participants asked Congress to expand the SAVER credit to encourage more savings; one participant asked Congress to consider increasing available tax credits — especially for low-income workers — to encourage Americans to save more. Forum participants also emphasized the need to educate American workers about saving and retirement, and asked Congress to provide legal clarification and financial incentives to encourage employers to provide a financial education to their employees.

Budget Resolution Complicates Process

The House and Senate have approved separate budget resolutions, and both resolutions could affect PBGC premiums and the pension reform debate.

Budget resolutions guide the budget reconciliation process by determining how much revenue congressional committees must raise from the federal programs they control, and how much lawmakers may spend on tax cuts and other items. The House and Senate budget resolutions would instruct the Education and the Workforce, HELP and Finance Committees to set aside substantial revenues. For the Education and the Workforce and HELP Committees, the PBGC is a major source of such revenue. So, PBGC premium increases will be under discussion as part of the budget reconciliation process.

In addition to increasing the cost of plan sponsorship, including PBGC premiums in the budget resolution would have important implications for the content, process and timing of pension reform. If PBGC premium provisions were removed from the broader funding reform debate, revenue raised by a premium increase may not be available to offset the cost of other pension reform provisions, such as increasing the deductible contribution limit. Budget reconciliation deadlines could accelerate the legislation, moving reform provisions through the legislative process before they have been fully discussed and vetted. Furthermore, strict and complicated procedural rules for the Senate’s reconciliation package could make it difficult to add funding rules and other pension reform provisions to the budget reconciliation.

Next Steps

The debate is still in the early stages. Lawmakers will continue reviewing the administration’s funding reform proposal, and additional legislative action is expected during the next several months. Senator Chuck Grassley (R-Iowa) and Senator Baucus have reintroduced the National Employee Savings Trust and Equity Guarantee Act (NESTEG), which they hope to move through the Finance Committee. Education and the Workforce Committee chair Boehner is working with Employer-Employee Relations Subcommittee chair Sam Johnson (R-Texas) and Ways and Means chair Bill Thomas (R-California) to draft a pension reform bill. But, the debate over the budget resolution could have important consequences for lawmakers hoping to act on pension reform this year — and for pension plan sponsors.