Supplemental health industry for small companies: Challenges and opportunities
Small companies in the supplemental health products market need to understand the unique challenges these products present in order to compete effectively.
The Spring 2016 update of the Milliman Multiemployer Pension Funding Study reported approximately $150 billion of underfunding in aggregate for all 1,286 multiemployer defined benefit plans with complete IRS filings as of December 31, 2015. That measure of underfunding is based on each plan’s long-term funding assumptions, including expected asset returns most commonly targeting a 7.5% annual investment return on plan assets. Of the $150 billion in aggregate underfunding, the Central States, Southeast and Southwest Areas Pension Plan (“Central States”) is estimated to be responsible for somewhere around 10% to 15% of that amount or around $20 billion of underfunding.
The Multiemployer Pension Reform Act (MPRA), enacted on December 16, 2014, expanded the rules in existence under the Pension Protection Act by defining a new class of multiemployer pension plans as being in a “critical and declining” status if they meet certain criteria and are projected to become insolvent within the next 15 to 20 years. Because these plans have insufficient funds to pay scheduled benefits, MPRA allows these plans to apply to the U.S. Treasury Department to suspend or reduce participant benefits indefinitely. The concept of the law is that if a plan is scheduled to go insolvent at some point in the future, meaning it no longer has enough assets available to pay the full amount of promised benefits, that Trustees should have the option to reduce benefits now for eligible participants to some level that would be higher than the level they would be reduced to if the plan were to actually go insolvent.
When a multiemployer plan goes insolvent, it continues to operate but receives annual financial assistance from the Pension Benefit Guaranty Corporation (PBGC) in an amount equal to that which can support payment of retiree benefits, but only equal to the PBGC maximum guarantee benefit level. In general, that maximum level that is guaranteed is $8,580 as an annual benefit for a participant who worked 20 years, $12,870 for a participant who worked 30 years, and $17,160 for a participant who worked 40 years. Those guaranteed annual amounts converted to monthly pensions are $715, $1,070, and $1,430 per month, respectively.
The PBGC itself is composed of two separate programs, one that insures plan terminations for single-employer defined benefit plans and the one described above that insures plan insolvencies for multiemployer defined benefit plans. Historically, the multiemployer program of the PBGC has not been funded to the same degree as its single-employer counterpart, and the program today stands in dire straits. The PBGC recently published a report to Congress where it projected its own insolvency of the multiemployer program by 2025. At that point, the PBGC is essentially predicting that it will not have enough premium intake to provide support to maintain retiree benefits of insolvent plans at the guarantee levels mentioned above. This could mean that retiree benefits of an insolvent plan could potentially be reduced even below the PBGC guarantee levels because there wouldn’t be enough combined money available from the plan and the PBGC to support those levels.
MPRA’s provisions require that any suspension plan must meet certain requirements. On an individual basis, the plan’s proposed benefit suspensions cannot reduce a participant’s retirement benefit below 110% of the PBGC guarantee level that applies to that participant. Using the example above for a participant with 30 years of service and a maximum guaranteed benefit of $12,870 per year, this would mean any suspension plan could not reduce that particular participant’s benefit below $14,157 per year (or 110% of the PBGC guarantee). It is possible that some participants would not see any benefit reductions if their benefits are already lower than 110% of the PBGC guarantee levels. Further, all disabled retirees and retired participants aged 80 or over at the time the benefit suspensions are proposed to take effect cannot incur any benefit reductions as part of the plan. Retirees between the ages of 75 and 80 can only incur pro-rata reductions, with allowable reductions that would otherwise apply to a similarly situated retiree multiplied by a fraction equal to the number of months before age 80 divided by 60 months. For example, a 78-year-old retiree would incur a benefit reduction equal to 24/60ths (or 2/5ths) of what it would otherwise be.
Proposed suspensions do not need to be exactly equal in dollar amount or percentage for those receiving suspensions. Instead, suspensions must be “equitably distributed” across the plan population, taking into account different facts and groupings of participants based on clear characteristics such as age, service, years in payment status, type of retirement benefit is being received (e.g., early subsidized or normal), and historical formula changes as well as other less easily definable characteristics such as the extent to which benefits are attributable to an employer that withdrew without paying its full share of withdrawal liability and the extent to which active participants might withdraw support for the suspension plan, which could lead to an increase in employer withdrawals.
On a plan-wide level, Trustees must declare and be able to support that all reasonable measures have already been taken to avoid insolvency. Further, any suspension plan must result in the plan being projected to avoid insolvency once the suspensions are taken into account, but not to a materially exceeding degree. Because these types of projections are typically done using best estimates and reasonable assumptions, the end result may still very well be a plan that has a 50/50 chance of going insolvent even with the suspensions.
Central States reported its own projected insolvency to occur in 2026 in its application to Treasury in 2015. As of the writing of this article, Central States is one of five multiemployer pension plans to officially apply for MPRA suspensions. Central States is by far the largest, with close to 400,000 total participants, roughly half of whom are currently receiving annual benefits totaling close to $3 billion. With reported assets only able to cover an estimated 50% of promised benefits, Central States devised its suspension plan to reduce benefits and hopefully stave off insolvency.
The Treasury Department has 225 days to review a plan’s application and either approve or deny it. For the Central States application, the Treasury has until May 7, 2016, to make that determination. As part of the process, Treasury has heard from and reviewed comments from thousands of participants and various retiree representative organizations such as the Pension Rights Center, which have voiced their concerns about the application. Some commentary back to Treasury has included: dissatisfaction that cuts in benefits were not designed in an equitable manner; that not all steps were properly taken by the plan historically to avoid insolvency; that future projections showing the plan will now avoid insolvency after the cuts are not based on reasonable assumptions; and that, in general, the law is unjust and unfair to the participants involved.
Ultimately, it would take Congressional action to address that last concern. In the present, Treasury will have to review the former objections and decide if the Central States Trustees followed the terms of MPRA in designing its solution to avoid long-term insolvency. If Treasury approves the application, it will go to a vote. Within 30 days from Treasury’s approval, all participants of Central States will get a chance to vote yes or no to the suspension plan. However, it will take more than 50% of all participants to vote no in order for the suspension plan to be turned down by participants. This effectively means that a participant who doesn’t vote has silently approved it. In Central States’ case, it may not even matter if the participants are in the majority against it. This is because MPRA contains a provision that requires Treasury to determine if the plan in question is a “systemically important plan.” MPRA defines such a plan as one that, absent MPRA suspensions, would be estimated to require more than $1 billion in assistance from the PBGC to support retiree benefits at guarantee levels as a result of the plan’s insolvency. Central States is believed to be such a plan. In this case, Treasury would override the participants’ vote and implement the suspensions anyway, although it could modify the terms based in part on any feedback received throughout the process.
For now, all eyes are on May 7, waiting to see what Treasury decides on the Central States application. What makes MPRA so important and so controversial is that it is such a departure from past practice in the pension world. Prior to the enactment of MPRA, the Employee Retirement Income Security Act (ERISA) and subsequent related law has always maintained anti-cutback provisions that have generally precluded the reduction of normal retirement benefits that participants have earned, particularly for those in payment status. However, absent MPRA benefit reductions, the Central States plan and others like it are ultimately projected to become insolvent and require assistance from the PBGC, which would also likely result in benefit reductions anyway. The PBGC itself is likely subject to insolvency, at least with its multiemployer program, unless it is allowed to collect higher premiums from plans, which looks like a possibility in the near future. What remains to be seen is what further strain additional PBGC premiums will put on healthier multiemployer plans and whether or not that strain adds too much to the pile of financial burden that these plans currently bear as a result of weak market returns over the last decade and a half, stressed employment levels, and the over-maturation of these plans resulting in an unhealthy imbalance of inactive to active participant ratios well in excess of 1 to 1.
Multiemployer plan sponsors and participants will no doubt pay close attention to the outcome of the Central States MPRA application and stay tuned to any attempts by various parties in repealing or changing MPRA. Most of all, the task of keeping plans healthy and adequately funded is more essential than ever and needs to be executed with careful and constant attention.
Central States Pension Plan and the Multiemployer Pension Reform Act
Central States, Southeast and Southwest Areas Pension Plan reported its projected insolvency to occur in 2026, and the U.S. Treasury Department will soon be making a decision about the plan’s future benefit payments.