Therefore, lower interest rate  assumptions result in higher current liability and lump-sum amounts. Interest Rate Should Reflect Group Annuity Purchase Rates

Our analysis of the law and related congressional documents, and  discussions with PBGC and Treasury officials, indicates that the interest  rates used in current liability and lump-sum calculations were to have two  characteristics. They were to: (1) reflect group annuity purchase rates and  (2) not be vulnerable to manipulation by interested parties. However, the Department of the Treasury stopped  issuing new 30-year Treasury bonds in 2001. The 30-year Treasury bond rates that  are currently used as an interest rate for pension calculations are  published by the Internal Revenue Service (IRS) based on rates for the last  30-year Treasury bonds, which were issued in February 2001. Alternative Interest Rates Have Advantages and Disadvantages Compared with Treasury Bond Rates

Actuaries and others have proposed a number of alternatives that could be  used to control the selection of interest rates for current liability and  lump-sum calculations, including (1) interest rates set in credit markets for  various securities, such as long-term Treasury securities; long-term, high- quality corporate bonds; 30-year GSE bonds; and 30-year interest rate  swaps; and (2) PBGC interest rate factors based on surveys of insurance  company group annuity purchase rates. Several pension experts have suggested using 30-year Fannie Mae bond  rates as the basis for the interest rate. However, if the alternative produces a lower interest rate, plan  participants would receive larger lump sums, employers would need to  increase contributions to their plans, and PBGC may experience an  increase in revenue. Each alternative has characteristics that may make it more or less  appropriate as an interest rate. If  the Congress selects one of the market-based rates as the new mandatory  rate, it should consider amending ERISA to require the cognizant  regulatory agencies to (1) periodically evaluate the relationship between  the rate and the group annuity purchase rates and report to the Congress  and (2) provide comments about how any changes to the mandated  interest rate they would recommend would likely affect federal revenue,  employer pension contributions, plan funding levels, and participants’  lump-sum benefits. We also interviewed officials at  the Pension Benefit Guaranty Corporation (PBGC) and other  policymakers who played a role in assessing alternative interest rates. To determine how alternative rates might affect employers, plan  participants, and PBGC, we created hypothetical examples in which we  tested the effect of changes in rate levels on current liabilities and lump- sum payments.
Why GAO Did This Study

Employers with defined benefit plans have expressed concern that low interest rates were affecting the reasonableness of their pension calculations used to determine funding requirements under the Employee Retirement and Income Security Act of 1974 (ERISA). ERISA requires employers to use a variation of the 30-year Treasury bond rate for these calculations; however, in 2001 Treasury stopped issuing the 30-year bond. This report provides information on (1) what characteristics of an interest rate make it suitable for determining current liability and lump-sum amounts; (2) what alternatives to the current rate might be considered; and (3) how using an alternative rate might affect plan participants, employers, and the Pension Benefit Guaranty Corporation (PBGC).

What GAO Found

GAO analysis indicates the Congress intended that the interest rates used in current liability and lump-sum calculations should reflect the interest rate underlying group annuity prices and not be vulnerable to manipulation by interested parties. In 1987, 30-year Treasury bond rates appeared to have both of these characteristics. However, the Department of the Treasury stopped issuing new 30-year Treasury bonds in 2001. Actuaries and other pension experts have proposed a number of alternative interest rates, including alternatives based on interest rates set in various credit markets--including composite rates for long-term Treasury securities, long-term high-quality corporate bond indices, 30-year rates on securities issued by government-sponsored enterprises, such as Fannie Mae, 30-year interest rate swap rates--and PBGC interest rate factors based on surveys of insurance company group annuity purchase rates. Each alternative has attributes that may make it more or less suitable as an interest rate for the calculation of current liabilities, PBGC premiums, and lump-sum amounts. Additionally, the relationship of any interest rate to the underlying group annuity purchase rates may change over time and, unless the relationship is periodically evaluated, the Congress may be unable to appropriately respond to those changes. If the alternative interest rate selected to replace the current statutory rate immediately results in a higher interest rate level, which is likely, it would generally lower participant lump-sum amounts, lower minimum employer funding requirements, and reduce PBGC premium revenue. However, if the alternative interest rate produces a lower interest rate level, plan participants would generally receive larger lump sums, some employers would need to increase contributions to their plans, and PBGC may experience an increase in revenue.