Pension plan underfunding is widespread and a heavy burden for many public- and private-sector employers. They have and are attempting a variety of means to address the funding shortfall, but taking on debt in order to do that generally has not been one of them. Yet that is what a new paper is advocating.
In “Borrowing to Fund Pensions Could Enhance Shareholder Value,” a paper released by Prudential, Senior Vice President and Head of Global Product & Market Solutions Rohit Mathur, Senior Vice President, Head of Pension Risk Transfer Scott Kaplan and Vice President, Global Product & Market Solutions Peter Kahn argue that borrowing in order to fund a pension plan would be beneficial regardless of plan size and whether or not the plan is frozen. “Complementing plan design and investment strategy enhancements aimed at pension risk reduction, borrowing to fund is an integral tool for plan sponsors to use in the context of an overall risk-reduction strategy,” they write.
Part of the reason they contend that such a strategy would be beneficial is that the timing right now is favorable, at least regarding interest rates. They argue that “the enduring low interest rate environment offers a unique opportunity” for funding pension plans. They contend that it is possible to borrow for underfunded plans “at attractive rates and contribute the proceeds to their pension plan, thereby reducing — or even eliminating — their pension deficit, while having the potential to create shareholder value.”
The authors posit that a company that borrows to fund a pension plan replaces a variable debt obligation with an amount of debt that is certain and a fixed funding cost. Further, they argue, “Recent rounds of Pension Benefit Guaranty Corporation (PBGC) premium increases highlight another important benefit of funding the plan — the elimination of variable PBGC premiums, which are scheduled to rise to 4.1% of unfunded liability in 2019. The combination of increasing annual PBGC premiums and the low rate environment make borrowing to fund a very attractive potential opportunity.”
Mathur, Kaplan and Kahn analyze a sample plan that for which funds are borrowed in order to fund its plan, and compare how the plan fares if it is funded with equal payments over a decade and, alternatively, if debt is issued and the proceeds are contributed to the plan immediately. They examined key variables affecting the outcomes of this approach and said that their analysis “suggests that companies across the ratings spectrum can generate economic benefits from a borrow-to-fund strategy.” Further, they find, “The net economic benefit can still be significant even if the plan sponsor is not a full taxpayer, or if the costs of borrowing rise.”
In “Borrowing to Fund Pensions Could Enhance Shareholder Value,” a paper released by Prudential, Senior Vice President and Head of Global Product & Market Solutions Rohit Mathur, Senior Vice President, Head of Pension Risk Transfer Scott Kaplan and Vice President, Global Product & Market Solutions Peter Kahn argue that borrowing in order to fund a pension plan would be beneficial regardless of plan size and whether or not the plan is frozen. “Complementing plan design and investment strategy enhancements aimed at pension risk reduction, borrowing to fund is an integral tool for plan sponsors to use in the context of an overall risk-reduction strategy,” they write.
Part of the reason they contend that such a strategy would be beneficial is that the timing right now is favorable, at least regarding interest rates. They argue that “the enduring low interest rate environment offers a unique opportunity” for funding pension plans. They contend that it is possible to borrow for underfunded plans “at attractive rates and contribute the proceeds to their pension plan, thereby reducing — or even eliminating — their pension deficit, while having the potential to create shareholder value.”
The authors posit that a company that borrows to fund a pension plan replaces a variable debt obligation with an amount of debt that is certain and a fixed funding cost. Further, they argue, “Recent rounds of Pension Benefit Guaranty Corporation (PBGC) premium increases highlight another important benefit of funding the plan — the elimination of variable PBGC premiums, which are scheduled to rise to 4.1% of unfunded liability in 2019. The combination of increasing annual PBGC premiums and the low rate environment make borrowing to fund a very attractive potential opportunity.”
Mathur, Kaplan and Kahn analyze a sample plan that for which funds are borrowed in order to fund its plan, and compare how the plan fares if it is funded with equal payments over a decade and, alternatively, if debt is issued and the proceeds are contributed to the plan immediately. They examined key variables affecting the outcomes of this approach and said that their analysis “suggests that companies across the ratings spectrum can generate economic benefits from a borrow-to-fund strategy.” Further, they find, “The net economic benefit can still be significant even if the plan sponsor is not a full taxpayer, or if the costs of borrowing rise.”
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