Pension advocates are horrified about a key provision in the current proposed tax package that would make it easier for some companies to raid their employee pension plans.
The proposal has a good chance of passing into law, despite the fact that major groups such as the American Assn. of Retired Persons and the AFL-CIO are fighting it, Washington insiders say.
"This is going to make pension plans a tax-free checking account for companies," says Nell Hennessy, deputy executive director of the Pension Benefit Guaranty Corp., a government agency that backs defined benefit pension plans. "Nobody anticipated that Congress would do this."
"It's unbelievable," adds Cindy Hounsell, staff attorney at the Pension Rights Center. "It's a return to the 1980s."
What the provision would do is simple: It would drastically reduce tax penalties for taking money out of an "overfunded" pension, cutting the excise tax to 6.5% from penalties that range from 20% to 50% today. Indeed, it would actually give companies an incentive to raid their pensions quickly--before July 1, 1996--by waiving all tax penalties for taking surplus money out of pensions that have more than 125% of the money needed to pay future retiree benefits. (The companies would still pay the corporate income tax on the funds.)
Currently, if companies take money out of a defined benefit pension, they must pay income taxes and excise taxes on the amount, similar to the taxes and penalties you would face if you withdrew money early from an individual retirement account. However, the corporate penalties are more severe: between 20% and 50% of the withdrawn amount in addition to regular income taxes. In the end, a corporation that took money out of a pension today would lose 80% to 85% of the withdrawn amount to federal taxes, says Bruce Ashton, a Los Angeles-based pension attorney.
The high penalties were instituted in the late 1980s after waves of corporate raiders took over companies, spent their pension "surpluses" and ultimately left both retirees and the government at risk. The government, in the form of the Pension Benefit Guaranty Corp., insures defined benefit plans to set limits essentially putting taxpayers on the hook for any big losses in the pension system. However, some retirees are also at risk because the government insurance only covers up to set amounts--currently about $2,574 in monthly benefits.
How can it be risky to withdraw money from a pension when the company has more than 125% of the amount it needs to pay future benefits? The tricky thing about pension surpluses--and shortages--is they're all estimated. In reality, companies don't know precisely how much they'll need to pay retiree pension benefits. The real cost will depend on how long employees live and collect monthly payments--and on how much the company earns on its savings in the interim.
Many of the overfunded plans of the 80s are today's underfunded plans, according to the PBGC.
If a company's pension actuaries assume that retirees will die within a few years of leaving work, or that the plan will earn double-digit returns every year on its investments, the plan can appear overfunded even when more conservative mortality and investment estimates would make the funding appear paltry.
At the end of last year, pension regulators were given more authority to reign in those assumptions, forcing more conservative estimates. However, the rules that reigned in pension estimates don't apply when determining your funding level for this law, says Hennessy.
There are hundreds of pension plans that are considered overfunded enough to take advantage of the law and pull billions of dollars out of their plans. Indeed, the PBGC ran out a listing of 100 such plans, which included pensions at BellSouth Corp., Ameritech, Northrop, Pacific Telesis, Prudential Insurance, Citibank and GTE.
The proposed law says companies that decided to withdraw funds from an overfunded plan would not be required to inform their workers, says Hennessy.
How much damage could this do to the income of future retirees?
"It's hard to judge," says Hennessy. "It is very difficult for consumers to stop a raid of their pension when the law allows it. But most people are paid what they are owed by their plan."
In fact, many believe that the law has wings for one simple reason. It could allow the government to immediately collect billions in income taxes from companies that take money out of the pension and declare it as income. At the same time, any costs associated with the plan are likely to come years from now--potentially long after today's Congressional leaders are retired.
Note to readers: Several attorneys noted that Allan Friedman, the subject of last week's story on living trusts, shouldn't have faced such difficult hurdles in getting access to his mother's accounts. Although not a complete protection, California Probate Code section 18100.5 requires financial institutions to release funds to a trustee who presents a certified copy of a living trust or the original trust itself. However, his mother died in Florida, which has different probate laws. If you drew up a will or an estate plan and then moved across state lines, you should have these legal documents reviewed to ensure they are valid in your new state of residence.
Kathy M. Kristof welcomes your comments and suggestions for columns but regrets that she cannot respond individually to letters and phone calls. Write to Personal Finance, Los Angeles Times, Times Mirror Square, Los Angeles, CA 90053, or message firstname.lastname@example.org on the Internet.