Question: Maybe sometime when you are looking for a newsletter topic, might you consider the annual funding notice for retirement plans that companies are required to send out each year?
I’m sure they are chock-full of valuable info, but I’m not quite sure what it is! We get two, from two different companies. One has a “Funding Target Attainment Percentage” of 110.94 percent or 92.60 percent, depending on what interest rate period you select; and the other has an 88.9 percent or 73 percent achievement.
What do these numbers mean? Are they something to brag about? Or should these companies be ashamed of themselves? Probably somewhere in the middle, but how would one know?
I get these every year and wonder what I’m supposed to do about them. I’m not asking you to embark on a protracted explanation.
My wife and I are lucky to receive pensions. We appreciate our good fortune, and we’re not particularly worried about these companies going belly-up. But I will bet that a lot of people get these letters, which apparently are required by law, and they’re probably like me — wondering whether it’s good news, bad news or no news.
Ric: I’m happy to explain. As you know, pension plans are essentially promises to pay you a certain monthly income for life, starting upon your retirement. Does your plan have enough money in it to pay the benefits as promised? That’s the “funding” question — and each plan has a “target” amount it is to accumulate in order to meet its future obligations to all the employees.
If your plan tells you it has 110 percent of its target, it has more money (10 percent more) than it needs to meet its obligations. That’s great! If it has 73 percent — uh oh! That means it is currently unable to pay everyone as much as everyone has been promised.
Underfunded plans can be fixed three ways: 1) by having the employer increase its contributions (putting in more money to boost the total amount in the plan); 2) earning a higher return on its assets (something generally not within the plan’s control); or 3) reducing the benefits that have been promised (certain to raise the ire of employees and retirees).
Because a) most employers are unwilling or unable to contribute more money, b) most plans can’t materially improve the rate of return they earn and c) some plans have therefore been known to reduce benefits, we encourage our clients who are due to receive pensions not to rely on those promises exclusively, and to instead save for retirement as though they didn’t have a pension plan. This way, if our plan fails to deliver as promised, you won’t be financially devastated.