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Cypen & Cypen
JANUARY 25, 2007

Stephen H. Cypen, Esq., Editor

Never Forget - September 11, 2001

1. DO PUBLIC PLANS PROVIDE MODEL FOR RETIREMENT OFFERINGS?: reports on its defined benefit summit last month, at which a panel of industry leaders said DB plans contain elements that are too valuable to discard, and suggested an idea for what the best retirement offering should look like. All panel members agreed that defined benefit plans are a good, and perhaps the best, way to retain talented workers. They are also the most economic means for sustained income after retirement. Employers are better able to shore up retirement funds than are employees themselves. Moreover, the economies of states are helped by maintaining the income -- and spending -- of workers after retirement. Most panelists believed that DB funding is not the problem. Media coverage of situations in the airline, auto and steel industries has made the DB situation seem dire. In reality, however, most DB plans are well-funded. In fact, one panelist, a consulting actuary, said there would have been no problem if companies had put into their DB plans in the 1990s what they are willing to put into DC plans and what they are now promising in DC enhancements as they freeze their DB programs. The best solution seems to be a DB/DC combination. A retirement offering that is DB-based with a DC supplement is a good marriage that takes pressure off the DB offering in bad times. In fact, DC elements have been part of the public sector’s DB offerings since inception. In government DB plans, employee contributions are mandated, as is enrollment. Further, public sector plans contain forced annuitization of benefits upon retirement. Public plans also face one less risk than private plans: there is no need for public DB system insurance such as that provided for the private sector by the Pension Benefit Guaranty Corporation, because governments are perpetual, so there is no realistic threat of their going out of business.


A Towers Perrin Analysis finds that for the first time since 2000, assets of defined benefit plans offered by Fortune 100 companies exceed plan liabilities. The estimates show that the defined benefit pension plans are 102.4% funded in the aggregate at year-end 2006, up significantly from the 91.6% aggregate funding level at the end of 2005. The improved funding picture reflects favorable investment returns in 2006, as well as an increase in interest rates and a high rate of contributions by plan sponsors. Towers Perrin estimates that the 79 Fortune 100 companies that offer defined benefit pension plans now hold an aggregate pension funding surplus of about $23 Billion as of December 31, 2006. The Fortune 100 companies achieved an estimated 12% return on their pension plan asset portfolios in 2006, well in excess of the average expected rate of 8.1% disclosed in their financial statements. Favorable investment return was the most powerful driver of the funding increase. Another factor contributing to the improved funding status is a slight rise in interest rates during 2006. The discount rate used to measure plan liabilities is expected to increase about 25 basis points, from an average rate of 5.5% at year-end 2005 to an average of 5.75% at the end of last year. A discount rate increase of this magnitude is expected to drive down measured liability values by about 3%. Contributions also helped improve funded status. Most companies sharply increased their pension plan contributions in recent years in response to the large unfunded liabilities that arose earlier in this decade. The average Fortune 100 company’s pension contribution increased from a low of approximately $80 Million in 1999 to an estimated $470 Million in 2006. To a great extent, these contributions have been voluntary, in excess of both the value of ongoing benefit accruals (on average, roughly $300 Million per year) and the minimum contributions by law. The excess of pension contributions over the value of annual pension accruals acted to increase the plans’ funded level by over 1% in 2006.


Defined benefit pension plans rode a strong equity market to improved health in 2006, according to the inaugural UBS U.S. Pension Fund Fitness Tracker. The Tracker, a quarterly estimate of the overall health of the typical U.S. defined benefit pension plan, found that the typical fund that started the year with a 90% funding ratio closed out 2006 with a ratio of nearly 103%. The study found that the typical large corporate defined benefit plan saw an increase in assets of almost 14%, while liabilities were roughly flat for the year.


Funding levels of traditional pension plans at Standard & Poor’s 500 companies improved for the fourth year in a row in 2006, according to a report from Credit Suisse reviewed in Credit Suisse estimates that the S&P 500 companies with traditional pension plans could finish the year with a “funding rate” of 95%. That would leave plans $77 Billion underfunded in the aggregate, that is better than the 90% level at the end of 2005. Despite that improvement, some analysts believe that more companies will choose to freeze their defined benefit plans before certain provisions of the Pension Protection Act take effect.


Sponsors of defined benefit plans increasingly recognize the benefits of aligning a plan’s asset allocation with its liabilities: reduced funding and expense risk, with more consistent funding levels. At the same time, there has been a dearth of good information on how liabilities are performing in a real world environment. Benchmarking of both assets and liabilities is an important component of an effective asset/liability strategy. Mellon Asset Management has created the Mellon Pension Liability Index, a set of benchmarks that closely track the market value of actual pension liabilities, using current discount rates. The total return of these benchmarks can be compared to a range of investment portfolios with different asset and risk profiles. These comparisons allow the plan sponsor to evaluate the effectiveness of investment strategies under a variety of economic and interest rate conditions. The principal function of the pension fund is to pay benefits due to its retirees. The ultimate measure of success is whether assets of the plan can grow faster than its liabilities. The relationship between market value of a plan’s assets and its liabilities is called the funded ratio. If assets grow faster than liabilities, the funded ratio would generally increase over time. If liabilities grow faster, the plan will become less well funded. Historically, pension plan sponsors have had good information about asset benchmarks and the market value of plan assets. Unfortunately, there has been much less information about liability benchmarks and the market value of liabilities. In many cases, sponsors do not receive actuarial valuations until 15-18 months after the valuation date. Moreover, the valuation discount rates are government-mandated constructions, not current market rates. Hence, it is very difficult for plan sponsors to compare plan assets and liabilities on a frequent and consistent basis. The Mellon Pension Liability Indexes are designed to help sponsors have a more timely and relevant picture of their liabilities, get a better handle on their funding ratio in real time. Separately, reports that Mellon found the funded status of a typical U.S. pension plan improved by 3.5 percentage points in December 2006 and 10.9 percentage points for all of 2006.


A tidal wave of baby boomers will begin turning 62 next year, making them eligible for Social Security. How to keep this swell of beneficiaries from swamping the country’s retirement system looms as one of the toughest questions confronting the new 110th Congress, according to an Albany (N.Y.) Times Union piece. The answer hinges partly on how long boomers are willing to work and the incentives to keep them on the job. If they follow their parents’ path to early retirement, the number of workers per retiree will plummet, reducing the tax base and squeezing budgets for Social Security and all other government programs. New research suggests that aging boomers plan to work longer than people born just a dozen years earlier. If they do, the economy will pump out more goods and services and mitigate the economic pressures created by an aging population. This good news bucks a century-long trend toward earlier retirement, which petered out about 20 years ago. Labor force participation rates for men 65 and older fell from 84% in 1970 to 46% in 1950 to 16% in 1990. In 2005, they inched back up to 20%. Economic, demographic and social changes are transforming retirement incentives. Social Security reforms have boosted the normal retirement age to 67, deep-sixed penalties for Social Security beneficiaries who work past the normal retirement age and bolstered benefits for those who catch the Social Security train a bit farther down the line. All make work more lucrative. Meanwhile, the changes in employer-provided retirement benefits also promote employment. Between 1992 and 2004, the share of workers ages 51 to 56 with traditional pension plans fell from 40% to 31%, while the share with 401(k)-type plans increased from 33% to 46%. Traditional pension plans discourage work by making participants sacrifice a month of benefits for every month worked past the plan’s retirement age. The 401(k) plans have no such penalty. And nobody needs to remind workers that employer-sponsored retiree health benefits have plunged recently, raising the cost of stopping work before Medicare eligibility kicks in at 65. Fewer physically demanding jobs also have an effect. As the manufacturing sector shrinks and workplace computerization continues, demand for physical work lessens, making it easier for older workers to stay on the job longer. An educated workforce also tends to delay retirement; in 2004, 37% of workers ages 51 to 56 have completed college, up from 22% in 1992.


The U.S. House of Representatives has passed a bill that would deny Congressional pensions to members convicted of crimes like bribery, fraud and perjury. Currently, lawmakers only forfeit pensions for crimes such as espionage or treason. H.R. 476 would extend forfeitures to bribery and similar crimes. As usual, the legislation would permit a refund of member contributions. Neither the House Bill nor the recently-passed Senate Bill is retroactive. Thus, any member of Congress previously convicted of crimes included in the bill would escape its reaches. In other words, former Representatives Bob Ney and Randall “Duke” Cunningham will continue to enjoy their annuities.


A retired professor sent dog feces to her congresswoman’s office after becoming angry with receiving too many mailings, according to The Associated Press. Her lawyer says she had a constitutional right to do it. The academic faces a misdemeanor charge of “use of noxious substance,” after taking dog feces from her backyard, wrapping it in a political mailer from the congresswoman and leaving the package at the Republican’s office. The lawyer says the feces delivery is a form of free expression, protected by the First Amendment to the United States Constitution. “Etiquette and propriety aside, it is commonplace in today’s society to equate a distasteful or disliked person, situation or thing, to feces,” says the lawyer. The retired professor, a Democrat, is scheduled for trial May 15. As they say, always watch out for number one, but don’t step in number two.


“Love your neighbor, yet don’t pull down your hedge.” Benjamin Franklin

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Items in this Newsletter may be excerpts or summaries of original or secondary source material, and may have been reorganized for clarity and brevity. This Newsletter is general in nature and is not intended to provide specific legal or other advice.

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