Many large corporations still carrying defined benefit plans for their workers have underfunded pension plans. For example, here’s an excerpt from a Wall Street Journal article on the issue today:
“It is one of the top issues that companies are dealing with now,” said Michael Moran, pension strategist at investment adviser Goldman Sachs Asset Management.
The drain on corporate cash is a side effect of the U.S. monetary policy aimed at encouraging borrowing to stimulate the economy. Companies are required to calculate the present value of the future pension liabilities by using a so-called discount rate, based on corporate bond yields. As those rates fall, the liabilities rise.
If you think that underfunded pension plans are only a corporate or government problem, you would be wrong. Chances are that the underfunded pension plan is a personal problem, even if (or especially if) you have a defined contribution plan like a 401k. In a corporate plan, the corporation is on the hook for the money. If you have a 401k plan, you are on the hook for the money. And, since there is a contribution cap on 401ks, it may well be that you need to set aside additional money outside your retirement plan to make sure you hit your goals.
Figuring out whether your retirement is funded or not depends on some assumptions—and those assumptions are a moving target. The one thing you know for sure is how much you have saved for retirement right now. You might also have a handle on your current level on contributions. What you don’t know exactly is how many years it will be until you retire, although you can generate scenarios for different ages. What you don’t know at all is what the return on your retirement savings will be in those intervening years—or what the inflation rate will be during that time.
As interest rates fall, pensions are required to assume that their investment returns will fall too. That means they have to contribute much more to reach their funding goals.
Guess what? That means you should assume that you, too, will see lower returns and will need to save more money for retirement. When stock and bond yields are low, it’s realistic to assume that returns will be lower going forward. Investors right now, unfortunately, are stuck with rates that are near 50-year lows. It puts a big burden on investors to get cracking and save as much as they can while they are working. A qualified advisor should be able to give you some sense of your funding level so that you can plan for retirement.
