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The phasing out of defined benefit pension plans is not a new story.
Indeed, over the past 25 years, employers have been moving away from the planswith their contribution and cost volatilityin favor of defined contribution plans, especially 401(k) plans, whose contributions and costs are more predictable.
But what made 2006 so extraordinary in terms of defined benefit plans was the sheer number of big-name companies that announced they were phasing out some or all of their defined benefit plans. Those corporations included Alcoa Inc., General Motors Corp., IBM Corp., NCR Corp., Unisys Corp. and WellPoint Inc.
Corporations freezing their pension plans did so in several different ways. For example, aluminum giant Alcoa is retaining its defined benefit plan for existing employees, with new employees receiving retirement savings benefits exclusively through a 401(k) plan.
Others, such as health insurer WellPoint, allowed existing employees whose combined years of service are at least equal to a certain number to remain in the existing plan, with younger, shorter-tenured employees, as well as new employees, receiving future benefits through souped-up 401(k) plans.
And some, such as Unisys, implemented so-called hard freezes in which all future retirement benefits will be earned through defined contribution plans.
For some companies, the pension plan freezes they announced in 2006 were the second and final step away from defined benefit plans. For example, in 2004, IBM announced that employees hired as of Jan. 1, 2005, would be covered only by an enhanced 401(k) plan; existing defined benefit plan participants, though, continued to earn benefits under the defined benefit planseither a cash balance or a pension equity planin which they were enrolled.
Then earlier this year, IBM said that beginning in 2008 all defined benefit plan participants would earn future benefits through an enriched 401(k) plan.
For some companies, a key motivator behind their moves away from defined benefit plans was cutting costs to a level more in line with competitors that don't offer defined benefit plans. For example, Randy MacDonald, IBM's senior vp-human resources, said an all-defined contribution plan approach would allow IBM to provide benefits that "remain ahead of, but more in line with our competitors." IBM pegged the cost savings of its pension revampalong with several other contemplated pension plan changes outside the United Statesat between $2.5 billion and $3 billion between 2006 and 2010.
The volatility associated with defined benefit plans also was a big driver away from the plans. For example, Lincoln Electric, a Cleveland-based designer and manufacturer of welding products, said "eliminating potential volatility in the cost elements" of its pension plan was a key reason behind the phaseout of its plan.
The long-term implications of the move away from defined benefit plans could be good for some employees, but disastrous for others. Shorter-service employees, for example, might do better in enriched defined contribution plans compared with being in traditional plans where it can take decades to earn meaningful benefits.
Similarly, employees who are savvy investors could reap a huge pot of savings through an all-defined contribution plan design. On the other hand, employees who don't contribute in a big way to defined contribution plans or those whose investments go south may find themselves working a lot longer than either they or their employers anticipated.