General Electric the latest company to freeze their benefit pension plan.
The pension obligations are GE’s largest liability, with future benefits estimated to be around $92 billion. This is second only to IBM’s pension plan of $93 billion, which they froze in 2008. What this means is that new employees aren’t enrolled into the plan and employees already in the plan cease accruing any future benefits.
GE’s pension assets only cover 75% of their liability and the company has to put forward $6 billion each year to fund the benefits of its current and future retirees. As GE faces more financial troubles, they are offloading all the liabilities that they can.
This problem is not unique to GE however, as it stands among 16 remaining Fortune 500 companies that offer benefits plans. These programs offered have been steadily discontinued since the 80s and the remaining few are slated to go the way of GE.
This issue of corporations struggling with pension plans is not isolated to just the US. The rest of the world is also experiencing low interest rates that make benefit plans unmanageable. Even Denmark which is historically known to have the best-funded pension plans in the world required their government to amend the regulations on how pension liabilities were calculated.
There are economists that prop up the benefits of low interest rates, which purportedly increase employment rates and economic activity. But there is also the flip side, as low interest rates make pension plans more expensive and companies end up offloading the costs to their employees.
The Pension Plan Killer
In the US, the enactment of the Employee Retirement Income Security Act of 1974 forced corporate plans to fully fund their internal pension plans. This resulted in many companies dropping their pension plans, leaving only the larger companies which were able to afford these plans and provide the benefits to staff that they wanted to keep on.
But as interest rates keep falling, this increases the costs of pensions, making them virtually too expensive for any firm to maintain.
The only employers that are still offering defined benefits are state governments and municipalities. These organizations face different accounting standards and are not required to use interest rates when calculating their funding liabilities.
Shifting the risk around
As companies drop their pension plans, the risk gets transferred to the employees. Most of them are oblivious to the fact that they bear this cost, as individual pension accounts only show an asset balance and not how much income the assets will have to provide.
That doesn’t mean that retirees won’t need income when withdrawing on their asset balances when they retire. Stable income comes from moving assets into fixed income or annuities, where low interest rates are a liability and make retirement more expensive for the individual. As a result, retirees could end up spending less, which cancels out the benefits of having low interest rates in the first place.
For any more financial advice, call the Financial Helpers, we are ready to assist you with planning for your future.