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Borrowing Considerations to Fund Retirement Plan Liabilities

Pension sponsors often deal with fluctuating annual contributions and a funded status that never seems to improve. A troubling reality since a well-funded plan and predictable plan contributions would obviously be ideal.

A pension plan’s annual contribution can be determined by considering the plan sponsor’s funding policy (limited by ERISA’s minimum contribution requirements). Nevertheless predictable annual contributions and a well-funded plan are both difficult to achieve. Even more so for under-funded plans.

When it comes to the more volatile under-funded plans, are fluctuating annual contributions the best strategy to improve the plan’s funded status? Maybe there’s a better way.

Plan sponsors of any size, especially organizations with a strong balance sheet and debt capacity, may have an untapped resource that could help, i.e., the capacity to borrow.

First, consider a one-time, larger contribution that could be financed. The amount might be determined 

  • The next five years (or some specific period) of plan contributions
  • An amount to fully fund the PBGC variable-rate premium liability
  • Half of the plan’s current shortfall based on the funded status on the company’s balance sheet

What are the benefits of a larger single contribution to the pension plan?

  • Eliminating the minimum required contribution for a period of time, creating a contribution holiday
  • Paying back the loan with fixed annual payments that are potentially less than current contributions
  • A balance-sheet-neutral transaction, exchanging a variable pension debt for a fixed debt
  • A higher funded status that lowers investment risk by swapping volatile return-seeking assets for stable liability-hedging assets
  • More benefit security allows additional de-risking action such as annuitization, or lump-sum settlements
  • Increasing corporate earnings if the pension cost is lowered as a result of an immediate increase to plan assets
  • Potentially lower PBGC variable-rate premiums
  • Potential for taxable entities to deduct the borrowing costs

There are several considerations in evaluating whether a borrow-to-fund strategy is optimal:

  • A large, financed contribution requires careful evaluation of the investment strategy for the plan, including the borrowed assets
  • Taxable entities may want to delay a larger one-time contribution if higher corporate tax rates are expected soon
  • An organization’s debt capacity may not be sufficient, or the company may need to keep some debt capacity for other business needs, such as acquisitions or capital improvements
  • Depending on a variety of factors, the contribution may not generate a significant reduction to the PBGC variable-rate premium

It takes careful analysis to see if a borrow-to-fund transaction is right for your plan. For certain plan sponsors, a larger onetime financially engineered contribution could be an advantageous tactic. This approach may create a positive outcome on the funded status of the plan and reduce risk. It can lead to lower cash flow commitments for the near future, a balance sheet-neutral transaction, and improved earnings.

For more information about borrow-to-fund considerations, optimizing contribution strategies, or other retirement topics, contact Steven Bull, Actuarial Business Development, McGriff Retirement Consulting at (336) 291-1137 or sbull@mcgriff.com.

© 2021 McGriff Insurance Services, Inc. All rights reserved. McGriff Insurance Services, Inc. is a subsidiary of Truist Insurance Holdings, Inc. The information, analyses, opinions and/or recommendations contained herein relating to the impact or the potential impact of coronavirus/COVID-19 on insurance coverage or any insurance policy is not a legal opinion, warranty or guarantee, and should not be relied upon as such. This communication is intended for informational use only. Given the on-going and constantly changing situation with respect to the coronavirus/COVID-19 pandemic, this communication does not necessarily reflect the latest information regarding recently-enacted, pending or proposed legislation or guidance that could override, alter or otherwise affect existing insurance coverage.

This communication is intended for informational use only. As insurance agents or brokers, we do not have the authority to render legal advice or to make coverage decisions, and you should submit all claims to your insurance carrier for evaluation. At your discretion, please consult with an attorney at your own expense for specific advice in this regard.

This bulletin is provided for informational purposes only. McGriff is not providing legal advice and recommends you consult with your own counsel for legal guidance/opinion. The information, analyses, opinions and/or recommendations contained herein relating to the impact or the potential impact of coronavirus/COVID-19 on insurance coverage or any insurance policy is not a legal opinion, warranty or guarantee, and should not be relied upon as such. This communication is intended for informational use only. As insurance agents or brokers, we do not have the authority to render legal advice or to make coverage decisions, and you should submit all claims to your insurance carrier for evaluation. Given the on-going and constantly changing situation with respect to the coronavirus/COVID-19 pandemic, this communication does not necessarily reflect the latest information regarding recently-enacted, pending or proposed legislation or guidance that could override, alter or otherwise affect existing insurance coverage. At your discretion, please consult with an attorney at your own expense for specific advice in this regard.

Insurance products and services offered through McGriff Insurance Services, Inc., a subsidiary of Truist Insurance Holdings, Inc., are not a deposit, not FDIC insured, not guaranteed by a bank, not insured by any federal government agency and may go down in value.

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