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If any further evidence was needed on how the nation's defined benefit pension plan system is unraveling, Bank of America Corp.'s announcement last week that it will freeze its plan provided it.
More than a quarter of century ago, Bank of America was at the forefront in the defined benefit pension plan design arena. It recognized, after much analysis, that its traditional plan, where significant benefits accrued only after many years of service, was of little value to a big chunk of its workforce, many of whom left after a few years of service.
In response, Bank of America became the first company to put in a cash balance plan—a much more appealing design to many employees due to the more rapid buildup of benefits and the visibility of the benefits, which are expressed and communicated as a cash lump sum.
But now, even this cash balance plan pioneer, like so many other big employers, is phasing out its plan. And who can blame it?
The climate for offering a defined benefit plan could not be worse. Government policymakers—as a way of boosting the economy—have held interest rates down to historic lows.
A low-interest-rate policy may be good for the economy, but it is poison for pension plan sponsors. That is because the mandated use of low interest rates inflates the value of pension plan liabilities, forcing employers to contribute far more than is necessary to the plans in order to comply with federal funding rules.
With pension plans becoming such a big cash drain on corporate finances, it should be no surprise that more and more employers are closing out the plans in favor of beefed-up 401(k) plans, which have no such requirements.
Some employees—those who are skillful investors—may in fact benefit from such a change. But plenty of others will not.
We urge Congress to look more closely in this area to see what actions it can take to encourage employers to retain their defined benefit plans, while there are still ongoing plans left.