A Ruling That Saved All Our Futures

The U.S. Supreme Court, ruling in the LTV case last week that even in bankruptcy corporations have continuing obligations to their pension funds, rendered a decision that signals a tightening of national standards--and directly affects your pocketbook.

“The decision saved the pension fund system,” says Robert Monks, former chief of pension affairs at the Labor Department and now head of Institutional Shareholder Services, a research firm for pension investors.

And it reversed a worrisome trend. “We have slid into a frame of mind that sees bankruptcy as just another corporate strategy. If you can go bankrupt, you can throw off obligations; pensions are but one example,” says Monks, citing Continental Airlines and Texaco as companies that sought bankruptcy to avoid, respectively, labor contracts and legal judgments. “Well, somebody--ultimately the taxpayer--pays for such attitudes.”

The threat to the corporate pension system--almost $2 trillion in assets representing the retirement income of more than 40 million people--was real enough. If the court had decided that LTV, the nation’s third-largest steelmaker that has been operating in bankruptcy since 1986, could simply hand its pension obligations to the Pension Benefit Guaranty Corp.--the government’s insurance agency--other companies would have followed suit.

Competitors would do so to offset the advantage that LTV gets by saving a $300-million-a-year contribution to its pension plan. Also, the troubled airlines Eastern and Pan Am, which have stopped contributing the required amounts to their pension plans, would hand the under-funded obligations to the government. The PBGC would then be forced to raise insurance premiums on solvent companies, and the pension system might have slipped into the destructive pattern of the savings and loan industry, where the backing of government insurance only encouraged undisciplined, and often illegal, business conduct.

Enough, the Supreme Court said last week. By insisting that the company and not the government insurer is responsible for paying the pensioners, the court said the easy way out would not be acceptable this time.

In effect, the decision made the pensioner a prime creditor of the corporation. And whether you’re young or old, as a creditor you should understand how much money and risk are involved.

For today’s retirees, company pensions generally run $8,000 to $28,000 a year and contribute half as much as Social Security to monthly income, according to the Employee Benefit Research Institute (EBRI). But for the baby boom retirees of tomorrow, company pensions will contribute a greater proportion of income and, with Social Security, will often bring retirement pay up to 75% of pre-retirement levels. So the money is reassuring.

Even greater assurance comes from the formidable health of the pension system, where investment gains have given many plans a surplus over and above the money that they will need to satisfy future obligations.

Talk of under-funded pension plans gives the wrong impression, as when the PBGC reports a potential shortfall of $16 billion. That figure is misleading; it reflects the agency’s calculation of its liability assuming that all companies with pension plans having less than the total they’ll need to pay benefits over 30 years go out of business.

But reality is different. To begin with, most under-funding is caused by technical or regulatory factors, not financial weakness. For instance, companies whose pension contributions are set by union negotiations are prohibited by the Internal Revenue Service from estimating employees’ future pay raises and budgeting in advance for the resulting pension.

So when labor negotiates pay hikes, the whole 30-year pension plan must be adjusted upward, and fresh cash added immediately, to account for the rise in future benefits. If cash isn’t added, the appearance of under-funding is created--which is why such strong and solvent companies as General Motors and American Airlines are listed along with weaker companies as having slightly under-funded pension plans.

The reality is that almost all pension plans are safe because the sponsoring companies will continue in business, make profits and make contributions as needed.

“Think of it like the mortgage on your house,” explains Michael Clowes, editor of Pensions & Investments magazine. “It too is an under-funded, 30-year obligation, but that’s no problem as long as you have a job.” Obviously, just as people sometimes lose jobs and have a tough time with the mortgage payment, so some companies get into trouble and have difficulty funding the pension plan. That’s why there is government insurance--financed by contributions from industry of $17 to $50 per employee, per year.

The point is that the U.S. pension system is sound, well-conceived and an awesome responsibility. At $2.6 trillion in total assets, the largest sock of capital in the world, the pension funds are capable of financing U.S. industry and government--and your retirement. The Supreme Court, in a firm 8-to-1 majority, said last week that that responsibility would not be treated lightly.