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March 12, 2003
Changes Sought in Pension-Calculation Rates
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panies that operate traditional, defined-benefit pension plans are pressing Congress to stop using the interest rate of the 30-year Treasury bond as the basis for making key calculations in pension law.

According to the Washington Post, the stability of the "long bond," coupled with its dwindling supply since the Treasury stopped issuing it, has driven its price up and its interest rate to historic lows.

That's bad news for employers. They use the rate to determine the present value of promised future benefits - a plan's liabilities - and the size of a lump-sum payment. A lower rate for the Treasury bond means higher pension liabilities and larger lump-sum payouts.

The Post reports that lawmakers are being lobbied to rewrite pension law so that computations are based on high-grade corporate bonds, which typically carry higher interest rates. That would mean lower pension liabilities for companies and lower lump-sum payments for workers.

The ERISA Industry Committee, an organization of large companies that operate pension plans, has proposed using a composite corporate bond rate derived from several private bond indexes, according to the Post. ERIC's plan also would provide for a three-year phase-in of the new rate for lump sums, to ease the impact of the sharp decline expected in those payouts.

ERIC officials acknowledged for the Post that their plan would cut pension liabilities and lump sums but argue that it would help, not hurt, pensions. "We are not proposing less funding. We have nothing to gain from having an underfunded defined benefit system," said the group's vice president, Janice Gregory.

She went on to explain that real money is at stake for companies; in some cases, swings of $50 million or more in cash could hinge on what interest rate is used.

While there is general agreement among pension experts that 30-year bond rate should be changed, there is a lot less agreement on what that rate ought to be, and on whether it should be the same for pension liabilities and for lump-sum calculations.

J. Mark Iwry, former benefits tax counsel at the Treasury, said the rates need not be the same and in fact are calculated differently under current law. Among the arguments for different rates, Iwry said, is that "employees and employers have very different capacities to bear risk. A company is in a position to make up for unexpected perturbations in interest rate and equity markets by funding more later or in advance. "By contrast, an individual, especially nearing retirement and counting on a benefit of a particular value based on information from the plan, has much less resilience, less ability to protect herself from an unexpected benefit shortfall," he said.


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