In previous decades, a large percentage of workers in America could count on receiving a guaranteed monthly check from their employer’s pension plan when they retired. These traditional plans are called defined pensions plans, meaning that the monetary amount of the pension was fixed, regardless of market fluctuations.  If the market tanked, that was the employer’s problem; the pension was sacred. (To find out more about these plans, see The Demise Of The Defined-Benefit Plan.)

But several factors have substantially eroded the presence of defined pension plans in America and elsewhere. Rising costs and increased life spans have made traditional defined benefit plans more expensive for the employer to fund and more difficult to administer. The tendency of people to change jobs more often has contributed to the disappearance of traditional pension plans in favor of portable, defined contribution retirement plans, in which the fund's value can fluctuate according to the vagaries of the market. Many employees watched in horror during the recent financial crisis as their nest eggs dropped in value.

These combined factors have hastened the disappearance of traditional pension plans from the corporate landscape and caused employers to freeze the benefits of existing plans.

Why Would an Employer Freeze a Pension Plan?

Many pensions have been frozen due to either outright lack of funding or other financial or administrative factors. In addition, employers focused on their current balance sheets and profit margins are offering various types of settlement payouts to reduce risk in their retirement plans. But these offers can be complex and may come with certain conditions. Participants need to read the fine print before accepting a settlement.

What Does It Mean If Your Plan is Frozen?

Not all is lost. If you have all the facts—which your employer’s pensions administrator is required to give you—and if you are proactive, you may be able to stave off the worst-case scenarios.

First, “frozen” does not necessarily mean “disappeared.” According to the Pension Rights Center, a Washington D.C.-based non-profit consumer group, there are several types of freezes, none of which entail the disappearance of your pension. Examples of freezes given in the Center's helpful Fact Sheet include:

1.   The employer stops offering future benefits, but an employee with a fully funded plan is 100% vested in benefits received to date. In other words, the employees get the full amount of what they are due when they retire; it's just that they don't accrue any additional guarantees of future money by staying longer with the company. 

2.   The employer has stopped benefits for some employees but not others, which tends to protect employees who have been at the company  longer.

What to Do if Your Plan Is Frozen: Don’t Panic

Employees with frozen pensions will still receive the benefits that they have earned in the plan before the freeze date; their benefits simply will not continue to accrue if and until the plan is unfrozen. If the plan eventually becomes unfrozen, benefits will begin accruing once more. If the plan is terminated under a standard agreement, employees are typically given the option of receiving either a lump sum or annuity payout from the plan.

In the event of an involuntary or distressed termination, the Pension Benefit Guarantee Corporation (PBGC) will step in and cover any accrued benefits that are owed to employees up to a certain limit if the fund becomes insolvent. Participants in frozen plans need to be proactive in finding out exactly what the worst-case scenario might be as soon as possible so that they are not caught unprepared. A good first step is to obtain the annual 204(h) statement from your employer that shows your benefits, which the employer or pension administrator is required by law to provide upon request. 

If your pension plan has been frozen, now is the time to start making revised projections for your retirement income. Most employees with frozen or terminated pensions are given one of two options: They can either take a reduced monthly payout at retirement or receive a lump-sum distribution that is equal to the net present value of a reduced payout in the future.

More employers are offering the latter alternative because Congress now allows employers to discount the value of their payouts with a higher rate of interest, thus reducing the current balance that is paid to the employee. Many employees who choose this option will invest their money in a commercial annuity contract that pays a guaranteed stream of income, but in many cases the returns will be much less than what they would have received before the freeze.

Women, in particular, need to be aware that their longer life expectancies will net them a lower monthly payout from an insurer than what male contract holders will receive. The lump-sum distribution may be the better course of action for sophisticated investors who feel that they can net higher returns than the reduced pension or commercial annuity payout over time.

A Less Complicated Way of Dealing with a Freeze

A more practical strategy may be to simply choose the reduced guaranteed payout and work a few more years before taking it. Working longer also allows you to delay receiving Social Security benefits until age 70. According to the Social Security Administration's official web site, retiring at age 67 gets you 108% of the benefit you would have received if you had retired at age 66. If you retire at age 70, that amount goes up to 132%. The accrual tops out at age 70.

Investors of all stripes can further help to rectify their savings shortfall by increasing their retirement plan contributions and reassessing their asset allocation in order to maximize growth. A comprehensive review with a financial planner may also be necessary to get an accurate assessment of how the pension freeze will affect you.

How Employers Are Handling the Pension Problem

Although conditions are starting to improve for many pension plans, most plan administrators are still facing tremendous pressure to catch up on their delinquent obligations. A recent Towers Watson/Institutional Investor Forums survey revealed about three quarters of employers with underfunded plans either intended, have considered or have already begun implementing a strategy that will catch the pension plan up on its obligations once the markets have sufficiently recovered. 

A Changing Outlook in America's Biggest Companies

Many of the pension plans in the U.S. today are underfunded. Of the 338 pension plans offered by companies in the Standard and Poor’s 500, only 18 are currently fully funded, and this number may drop in 2014. The total combined funding shortfall in these plans has now reached $355 billion, and this number may continue to rise. Nearly a fifth of this shortfall comes from seven pension plans: General Electric is the worst off with a $21.6 billion shortfall. The remaining six are underfunded by at least $10 billion:

  • AT&T
  • Boeing
  • ExxonMobil
  • Lockheed Martin
  • IBM 
  • Ford Motor Company 

When shortfalls occur, employers might respond by buying employees out of the plan at a reduced cost, or freezing the plan, which halts company contributions into the plan and prevents employees from continuing to accrue entitled benefits. Of course, this provides substantial economic benefits for employers, who see immediate improvements in their cash flow and balance sheets along with a reduction in administrative expenses.

At least 400 of the Fortune 1000 companies had one or more frozen plans in 2011. Perhaps the most disturbing facet of this trend is that even companies that had healthy pension plans began to freeze them shortly after the turn of the century. Nancy Hwa, the Communications Director for the Pension Rights Center, laments that many companies with solvent plans began the freezing process late in 2005, and this trend has yet to reverse. "This represents a major reduction in the efforts of these corporations to help their employees prepare for retirement. The replacement of these plans with 401(k) or other defined contribution plans is no substitute for the security that they have with a pension plan."

The Bottom Line

Although the future appears to be slightly brighter for pension plans than it has been for the past several years, many firms are using this as an opportunity to cut costs by following plans that allow for a reduced payment of future benefits to participants. For more information on pension benefits and freezes, visit the Employee Benefits Security Administration at the Department of Labor, the Pension Rights Center or consult your financial advisor.

Related Articles
  1. Retirement

    The Pros And Cons Of Pension Maximization

    Pension maximization can be an effective solution to the single versus joint life payout dilemma that many retirees face. But, there are several factors, such as tax and investment matters, that ...
  2. Retirement

    What Is The Federal Employees Retirement System (FERS) And How Does It Work?

    Unless you are a government employee, you’ve likely never heard of the Federal Employees Retirement System, but if you work in the public sector or plan to in the near future, FERS is an acronym ...
  3. Retirement

    Mandatory Pension Savings: Should Employers And Employees Be Forced To Make Contributions?

    The scale of the pension crisis in the U.S. cannot be denied, and there's a growing movement that supports the mandatory pension system that's been created in Australia and other parts of the ...
  4. Retirement

    An Introduction To The Keogh Retirement Plan

    Learn more about this popular defined-contribution retirement plan that many business owners, proprietors, and self-employed people can benefit from.
  5. Taxes

    How To Save More For Your Retirement

    The Economic Growth and Tax Relief Reconciliation Act of 2001 made it easier to prepare for the future. Will you be ready?
  6. Retirement

    Top 6 Myths About Social Security Benefits

    Misinformation on retirement benefits is common. We'll set the record straight.
  7. Retirement

    How Much Should You Have In Your 401(k) To Retire?

    Determining how much money should be in your 401(k) when you retire depends on several variables, many of which are uncertain.
  8. Investing

    How To Make Sure Your Healthcare Costs Do Not Ruin Your Retirement

    The best proactive plan of action for a stable retirement is to understand medical costs, plan ahead, invest properly, and consider supplemental insurance.
  9. Investing Basics

    The Top 4 Income Investments for Retirees in 2016

    These four investment types should mitigate risk in 2016 for retirees seeking income.
  10. Mutual Funds & ETFs

    The 5 Best T. Rowe Price Funds for the Income Seeker in 2016 (TROW)

    Find out which T. Rowe Price mutual funds to use to create a diversified income portfolio for current income, income growth and capital preservation.
RELATED FAQS
  1. Am I losing the right to collect spousal Social Security benefits before I collect ...

    The short answer is yes, if you haven't reached age 62 by December 31, 2015. The Bipartisan Budget Act of 2015 disrupted ... Read Full Answer >>
  2. What is the maximum I can receive from my Social Security retirement benefit?

    The maximum monthly Social Security benefit payment for a person retiring in 2016 at full retirement age is $2,639. However, ... Read Full Answer >>
  3. Are target-date retirement funds good investments?

    The main benefit of target-date retirement funds is convenience. If you really don't want to bother with your retirement ... Read Full Answer >>
  4. What's the difference between Social Security Disability Insurance (SSDI) and Supplemental ...

    Disabled persons can receive payments through two programs: Social Security Disability Insurance and Supplemental Security ... Read Full Answer >>
  5. Where else can I save for retirement after I max out my Roth IRA?

    With uncertainty about the sustainability of Social Security benefits for future retirees, a lot of responsibility for saving ... Read Full Answer >>
  6. Will quitting your job hurt your 401(k)?

    Quitting a job doesn't have to impact a 401(k) balance negatively. In fact, it may actually help in the long run. When leaving ... Read Full Answer >>
Trading Center