Despite a Trend toward Pension Freezes, Fund Administrators Report Increasing Confidence in the Sustainability of their Plans
By Mark Johnson, Ph.D., J.D.


Freezing traditional pension plans has been a popular strategy to reduce the unfunded liabilities and long-term debt associated with underfunded retirement benefit plans.


The Archdiocese of Philadelphia recently announced that it will freeze its traditional pension to keep the plan’s estimated $150 million deficit in check and shrink it over time. The Archdiocese’s current plan, known as a “defined benefit plan” because it guarantees certain benefit levels to participants, held $478 million in assets June 30, 2012, about 76 percent of the $630 million it needs to meet anticipated long-term obligations. Defined benefit plans are commonly called “traditional pension plans”.


The change will be effective June 30, 2014, after which time almost 8,500 current employees of the Archdiocese of Philadelphia—including parochial school teachers, church office workers, and other lay employees—will no longer be able to accrue benefits under the plan. Instead, a 401(k)-style plan will be offered in its place.


In recent years, freezing of pensions has taken hold as a viable approach in many nonprofit and religious sectors. For example, archdioceses in Boston, Chicago and Minneapolis-St. Paul have placed freezes on their traditional pension plans for lay employees. Also, a national trend points to more employers offering retirement plans that establish a contribution rate, as opposed to plans which guarantee a pension benefit upon retirement.


The City of Detroit’s emergency manager, Kevyn Orr, proposed a pension freeze as part of a broader strategy to get the city out of bankruptcy. Orr argues changes are necessary to stabilize pension funds, which he says are underfunded by $3.5 billion, for current workers and those nearing retirement. His proposal aims to reduce Detroit’s staggering legacy costs to help resolve about $18 billion in long-term debts and liabilities overall.


Under the proposed plan, about 9,700 current city workers, including police and firefighters, would be affected. As of January 1, city workers could enroll in a 401(k)-style account, and the city would contribute 5% for non-uniformed workers and 10% for police and fire. Workers also could deposit their own money into the accounts. As part of the proposal, employees who were not yet completely vested in the city’s pension plans (8 to 10 years depending on the position), would have their pension service credits erased at the end of this year. However, any money they contributed in the past from their paychecks would be repaid and placed in an annuity account.


Pension reform is not easy to tackle, as the state of Illinois has painfully found out. Underfunded by $100 billion, the state’s pension liability is causing cuts in funding for other state services and is a key reason why credit downgrades have left Illinois at the bottom of ratings among U.S. states.


Illinois’ state legislature will probably not vote on pension reform this session and may have to wait for January, unless a reform plan can be agreed upon. According to House Speaker Michael Madigan’s office, new reform proposals are currently being analyzed by pension systems actuaries.


One proposal is from a bipartisan panel of state lawmakers who have focused on making changes to the current 3 percent compounded cost-of-living adjustments for retirees, including limiting the adjustments to half the inflation rate. Another special legislative panel is considering a plan to save the state $138 billion over 30 years, but legislative leaders are seeking other options to increase savings to at least $150 billion.


Although Moody’s Investors Service noted that preliminary fiscal 2013 data from Illinois' five retirement systems indicated an actual drop of $16.6 billion or 9 percent in their adjusted net pension liability, the credit rating agency believes inaction by the state is not an option. Even with a modest decline this year, significant pension deficits are still ahead unless reform is enacted.


Even though the focal point of pension reform has been on freezes, public pension plan administrators are increasingly upbeat about their funds’ outlook as well as their readiness to address future retirement concerns, a new survey by the National Conference on Public Employee Retirement Systems (NCPERS) reveals.


The 2013 NCPERS Public Retirement System Study also shows continuing financial strength for public funds, with ongoing improvement in long-term investment returns.


In conjunction with Cobalt Community Research, NCPERS surveyed 241 state and local government pension funds with more than 12.4 million active and retired members and with assets exceeding $1.4 trillion. For the first time, NCPERS included nonmembers’ responses.


Noteworthy findings from the research coalition’s survey include:


 • There is a slight uptick in confidence among public pension plan administrators about their ability to address future retirement trends and issues.


 • Returns on long-term investments continue to rise. Three-year investment returns were 10 percent, up from four percent in 2012; 10-year investments were seven percent, up from five percent in 2012; and 20-year investments remained steady at eight percent, versus nine percent in 2012.


 • The overall average expense to administer public pension plans and to pay investment manager fees drastically decreased from the 2012 level of 73.1 basis points to 57.3 basis points (100 basis points is equal to one percentage point).


 • Public pension plans are taking a number of steps to strengthen funding levels, including:


   1. Lowering the actuarial assumed rate of return


   2. Raising benefit age and service requirements


   3. Tightening retiree return to work rules


   4. Shortening amortization periods


   5. Lowering the number of employees receiving health care benefits


 • Overall, funds reported domestic equity exposure at 35 percent, down slightly from 36 percent in 2012. International equity exposure remained steady at 17 percent. Over the next two years, funds plan to increase allocations to international equity, domestic fixed income, private equity, and hedge fund investments, slightly reducing domestic equity.


 • The average funded level of all responding public pension plans was 70.5 percent. Among NCPERS member plans, the level was 71.5 percent, less than 2012’s figure of 74.9 percent. For non-NCPERS plans, the level was 69 percent. Lowering the actuarial assumed rate of return and market volatility were the two most noteworthy reasons for the decline.


According to NCPERS Executive Director and Counsel Hank Kim, Esq., survey results run counter to what public perception of pension funds has been.


“What it tells us is that despite the hyperbole of some high-profile politicians, public pension plans are not in crisis. To the contrary – they are alive and thriving, more than adequately funded, inexpensive to operate and sustainable for the long-term,” he said in a NCPERS news announcement.


November, 2013



ABOUT THE AUTHOR: Mark Johnson, Ph.D., J.D.

Mark Johnson, Ph.D., J.D., is a highly experienced ERISA expert. As a former ERISA Plan Managing Director and plan fiduciary for a Fortune 500 company, Dr. Johnson has practical knowledge of plan documents as well as an in-depth understanding of ERISA obligations. He works as an expert consultant and witness on 401(k), ESOP and pension fiduciary liability; retiree medical benefit coverage; third party administrator disputes; individual benefit claims; pension benefits in bankruptcy; long term disability benefits; and cash conversion balances.


ERISA Benefits Consulting, Inc. by Mark Johnson provides benefit consulting and advisory services and does not engage in the practice of law.


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