Single-Employer Plans Can Lower Target Returns to 4% and 5%

What can corporate allocators expect now that the pension relief bill has passed? For starters, they can target lower returns and pursue less risky investment strategies.

Plan sponsors at single-employer pension plans can reduce their return targets to as low as 4% or 5%, versus higher targets of 6% or 7%, when they extend their amortization periods to 15 years as a result of the stimulus bill, according to calculations from asset manager Insight Investment.

Earlier this month, several provisions passed under the Butch Lewis Emergency Pension Plan Relief Act of 2021 (EPPRA), in the $1.9 trillion American Rescue Plan, alleviated funding pressures for defined benefit (DB) plans. Single-employer plans cover about 23.5 million workers, according to the Pension Benefit Guaranty Corporation (PBGC).

Corporate plans have experienced pension relief in the past under different bills. But under the COVID-19 relief bill, they not only can extend their amortization periods to 15 years, up from seven years, but they also got an extension on smoothed interest rates.

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In other words, pension plans that could amortize higher discount rates and lower liabilities over seven years in the past can now close the funding gap over 15 years. It would reduce minimum contribution requirements for plan sponsors or defer them out into the future.

“This will be very helpful to them to manage their near-term cash flow,” said Kevin McLaughlin, head of liability risk management, North America, at Insight Investment.

Without the pension relief, a typical fund would have needed returns of more than 10% per annum for the next four to five years to close the gap without minimum contributions, according to McLaughlin. But, he said, “now they can move that down significantly.”

For single-employer allocators, the pension relief bill also means they can close the gap on their unfunded liabilities with less risky investment strategies over a longer time horizon. That’s a boon for those that have been seeking high returns in a low-interest rate environment, even as corporate plans managed to emerge from last year in relative health compared with multiemployer pension funds. It also means they can de-risk their plans that much more aggressively.

That could hasten other investment trends at corporate plans, Insight Investment reports. Plan sponsors could use this as an opportunity to push deeper into fixed income and alternative assets over equities.

It could also reduce the number of pension risk transfers (PRTs) for corporate funds. Well-off DB plans may want to keep a balanced plan on the books to improve the credit outlook for the firm.

Of course, weaker funds, and even better-funded corporate plans, can still voluntarily contribute more to manage the cost of plans. They could also offset the cost of rising PBGC premiums.

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Tags: Butch Lewis Act, Coronavirus, COVID-19, PBGC, Pension Benefit Guaranty Corporation, Pension Reform, relief bill, single employer

The board of trustees for the $62 billion Pennsylvania Public School Employees’ Retirement System (PSERS) has hired two law firms to investigate a misstatement in its financial reporting.

Earlier this month, the PSERS board released a statement saying it had recently been made aware of an error regarding the reporting of investment performance numbers used in its December 2020 certification.

It also said it hired an outside consultant who was in the process of analyzing the data in detail. The error was brought to the attention of the board by PSERS management, and one of the fund’s outside consultants admitted to the error, although PSERS didn’t name the consultant.

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During the December certification, the fund’s annual investment return was pegged at 6.38%. Although this fell short of the pension fund’s assumed rate of return of 7.25%, it barely surpassed the 6.36% threshold needed to avoid an increase in pension payments for 100,000 school workers. The state’s “risk sharing” law means school employees, along with taxpayers, have to contribute more when the pension’s investment portfolio underperforms.

The mistake may have inadvertently prevented an increase in teachers’ pension contributions while at the same time passing the costs onto the commonwealth’s taxpayers. According to The Philadelphia Inquirer, teachers would have had to pay an estimated $25 million a year extra if returns had come in lower.

At a meeting of the board of trustees’ audit/compliance committee last week, Pennsylvania’s largest pension fund voted to hire UK-based law firm Womble Bond Dickinson “to conduct a special investigation surrounding the circumstances of the misstatement of the nine-year investment performance used for the shared risk calculation in December 2020.” The board said the engagement will include recommendations to avoid similar circumstances in the future and any necessary corrective action.

The board also authorized hiring Philadelphia-based Morgan Lewis as special counsel to assist through an additional independent opinion letter relative to federal tax qualification issues involved with the shared risk calculation. The firm will also provide guidance on the advisability and process to recertify the member shared risk contribution rate.

“We do not have any information at this time that anything criminal occurred,” PSERS Board Chair Chris SantaMaria said in a statement. “We expect the law firm will conduct a complete investigation and provide us with a thorough factual review of what occurred.”

The investigators will look into what mistakes were made with the way the pension fund reported investment results in December. Womble Bond Dickinson will conduct “a thorough and independent investigation of the circumstances surrounding the inaccurate reporting of PSERS’ investment performance numbers,” state Treasurer Stacy Garrity, who is also on the pension’s board of trustees, said in a statement, according to The Inquirer. The firm will “examine federal tax qualification issues involved with the shared risk calculation,” she added.