Furthermore, because of leeway in the actuarial methodology and  assumptions sponsors may use to measure plan assets and liabilities,  underfunding may actually have been more severe and widespread than  reported at the end of the period. Because of flexible funding rules  permitting the use of accounting credits other than cash contributions to  satisfy minimum funding obligations, on average 62.5 of the 100 largest  plans each year received no cash contributions from their sponsors,  including 41 percent of plans that were less than 100 percent funded. In 2001 there were signs of  increased underfunding, and by 2002, more than half of the largest plans  were less than 100 percent funded, with 23 plans less than 90 percent  funded. 3). Very Few Sponsors of Underfunded Large Plans Paid an AFC from 1995 to 2002

From 1995 to 2002, an average of only 2.9 of the 100 largest DB plans each  year were assessed an additional funding charge, the funding mechanism  designed to prevent severe plan underfunding, even though on average   10 percent of plans each year reported funding levels below 90 percent. Further, during  this period, 2 of these 6 plans that owed an AFC were terminated, each  with assets far below promised benefits and each without having had to  make a cash contribution in the 3 years prior to termination. Sponsors that owed an AFC had mixed success at improving their plans’  financial conditions in subsequent years, and most of these plans remained  significantly underfunded. Just over 30 percent of the time a plan  was assessed an AFC, the funding rules allowed the sponsor to forgo a  cash contribution altogether that year. Again, terminated plans provide a stark illustration of weaknesses in the  rules’ ability to ensure sufficient funding. Large Plans’ Sponsors’ Credit Ratings Appear Related to Certain Funding Behavior and Represent Risk to PBGC

The recent funding experiences of large plans, especially those plans that  are sponsored by financially weak firms, illustrate the limited effectiveness  of certain current funding rules and represent a potentially large implicit  financial risk to PBGC. From 1995 to 2002, on average, 9 percent of the  largest 100 plans had a sponsor with a speculative grade credit rating,  suggesting financial weakness and poor creditworthiness. As a group,  speculative grade-rated sponsors had lower average funding levels, and  were more likely to incur an AFC than other sponsors. To the extent that this depresses cash  contributions, such plans may have a higher chance of underfunding, thus  creating additional financial risk to PBGC. PBGC’s best  estimate of the total underfunding of plans sponsored by companies with  credit ratings below investment grade and classified by PBGC as  reasonably possible to terminate was an estimated $96 billion as of  September 30, 2004 (see fig. Further, the very  small number of sponsors of underfunded plans that pay the AFC indicates  that the rule needs to be strengthened if it is to serve as the primary  mechanism for shoring up assets in underfunded plans. Thus, while our sample data set  represents only a small portion of the total plans in the single-employer  program, it constitutes a significant proportion of the liabilities of the DB  system and the financial risk to PBGC while allowing for more manageable  analysis. Defined benefit (DB) pension plan—a pension plan that promises a  guaranteed benefit, generally based on an employee’s salary and years of  service. Related GAO Products

Pension Benefit Guaranty Corporation Structural Problems Limit  Agency's Ability to Protect Itself from Risk, GAO-05-360T.
Why GAO Did This Study

Pension funding rules are intended to ensure that plans have sufficient assets to pay promised benefits to plan participants. However, recent terminations of large underfunded plans, along with continued widespread underfunding, suggest weaknesses in these rules that may threaten retirement incomes of these plans' participants, as well as the future viability of the Pension Benefit Guaranty Corporation (PBGC) single-employer insurance program. We have prepared this report under the Comptroller General's authority, and it is intended to assist the Congress in improving the financial stability of the defined benefit (DB) system and PBGC. We have addressed this report to each congressional committee of jurisdiction to help in their deliberations. This report examines: (1) the recent funding and contribution experience of the nation's largest private DB plans; (2) the funding and contribution experience of large underfunded plans, and the role of the additional funding charge (AFC); and (3) the implications of large plans' recent funding experiences for PBGC, in terms of risk to the agency's ability to insure benefits.

What GAO Found

Each year from 1995 to 2002, while most of the largest DB pension plans had assets that exceeded their current liabilities, 39 percent of plans on average were less than 100 percent funded. By 2002, almost one-fourth of the 100 largest plans were less than 90 percent funded. Further, because of leeway in the actuarial methodology and assumptions sponsors may use to measure plan assets and liabilities, underfunding may actually have been more severe and widespread than reported. Additionally, 62.5 percent of sponsors of the largest plans each year on average made no cash contribution because the rules allow sponsors to satisfy minimum funding requirements through plan accounting credits that substitute for cash contributions. From 1995 to 2002, only 6 unique plans in our sample were subject to an additional funding charge (AFC), the primary funding mechanism to address underfunding, a total of 23 times. By the time a firm was subject to an AFC, its plan was likely significantly underfunded, and such plans remained poorly funded. By using other funding credits, just over 30 percent of the time sponsors of these plans were able to forgo cash contributions in the years their plans were assessed an AFC. Two very large and significantly underfunded plans terminated without their sponsors owing a cash contribution in the 3 years prior to termination, illustrating further weaknesses in the AFC. To the extent that financially weak firms sponsor underfunded plans, weaknesses in funding rules create a potentially large financial risk to PBGC and thus retirement security generally. From 1995 to 2002, on average each year, 9 of the largest 100 plans had a sponsor with a speculative grade credit rating, suggesting financial weakness and poor creditworthiness. Plans of speculative grade-rated sponsors had lower average funding levels and were more likely to incur an AFC than other plans. As of September 30, 2004, PBGC estimated that plans of financially weak companies with a "reasonably possible" chance of termination had plans with an estimated $96 billion in underfunding.