The Next Scrambled Nest Egg?

By Jyoti Thottam

Former United Airlines marketing analyst Mark Boyle hasn't worked at the struggling air carrier for 10 years, but every time United's latest woes hit the evening news, he warily pays heed. About a tenth of his family's nest egg--money earmarked for his and his wife's retirement, not to mention college tuition for their two teenage children--is supposed to come from Boyle's United Airlines pension. But that potential income is in jeopardy as his former employer tries to reorganize in bankruptcy court. "I watch," says Boyle, 45, "but there's nothing you can do"--except worry.

Watchful worry is the only option for 34 million Americans who, like Boyle, are stakeholders in defined-benefit pensions--corporate retirement programs that once represented a dependable revenue stream for retired U.S. workers but today are increasingly falling into disrepair and deficit. Two weeks ago, the U.S. Comptroller General, concerned about a rise in the number of companies no longer able to meet their pension obligations and the magnitude of their shortfalls, labeled as "high risk" a quasi-federal agency that steps in to pay retirees when companies cannot. Saddled with a deficit of $5.4 billion and counting, the Pension Benefit Guaranty Corp. (PBGC) might need a government bailout--a predicament that Treasury Secretary John Snow told the Wall Street Journal was "a brewing problem somewhat analogous to the savings-and-loan situation," the U.S. financial fiasco of the late 1980s.

Administration officials say a pension-system meltdown is not imminent, but that's no consolation for the pilots at U.S. Airways. When that airline went bankrupt last year, the PBGC took over its orphaned pension program and promptly reduced benefits paid to former high-wage workers whose payouts exceeded agency limits. In some cases, pilots' pensions were slashed as much as 70%.

The prospect of imperiled pension programs further tarnishes what were supposed to be golden years for American workers. In the past few years, retirement portfolios have taken hits from all sides, causing employees to rethink their retirement expectations and in some cases continue working past age 65. Until its recent turnaround, the sagging stock market reduced the overall value of 401(k)s and similar retirement vehicles by double-digit percentages. Company stock options and grants have also declined in value. Moreover, the last line of retirement defense--the Social Security program--will begin running at a deficit in 2017. That means by the time today's thirtysomething workers reach retirement age their benefits could shrink by a third.

Pensions, the steady stream of income granted in return for years of faithful service, were once supposed to offer a dependable security blanket for millions of older Americans. Lately, though, pension-fund values have been devastated by stock market losses and historically low interest rates on fixed-income securities. "That's kind of a double whammy," says Comptroller General David Walker. Over the past 2 1/2 years alone, the total amount of underfunding of corporate plans--basically, the difference between what companies are projected to owe their retired workers and the size of corporate pension funds--has ballooned by more than $260 billion.

Making matters worse, defined-benefit pensions are the mainstay retirement programs in such mature industries as steel and manufacturing, sectors full of declining companies that, as a result of heavy losses during the economic slump, have been struggling to maintain regular pension-fund contributions. At United Airlines, where pension liabilities exceed fund assets by about $6.3 billion, company officials are trying to get labor unions to agree to reduced benefits as the airline tries to reorganize under bankruptcy-court protection. In the meantime, the PBGC, the government-backed pension-insurance agency, is increasingly being forced to step in and pay benefits to meet the obligations of failed companies. The agency three years ago had a $9.7 billion surplus, which has vanished in a spate of fund takeovers. The PBGC warns that it could soon be on the hook for an additional $35 billion in pensions owed by sputtering companies.

It isn't only the most troubled businesses that are feeling the weight of retirement-plan liabilities. The defined-benefits program offered by automotive giant General Motors--which currently pays benefits to 461,000 retired employees or their surviving spouses--ran a deficit last year of $25.4 billion, 23% more than the total value of GM shares. The deficit is so large that the automaker had to issue $13 billion in corporate bonds in June to shore up the fund.

With underfunded plans presenting a drag on profits in a tough economic environment, the largest U.S. companies have teamed up with labor unions to seek relief from Washington. On July 18, a House committee pushed through a temporary measure that would in effect change the rate companies use to calculate how much they must regularly contribute to pension plans, easing their burden for the next three years.

But the PBGC, fearing a spike in claims that would send it deeper into the red and force a taxpayer bailout, wants companies to pay more, not less. Bush Administration officials are pushing for broader reforms at the agency that would limit corporate relief to two years and then switch to a stricter standard. The PBGC could also increase the premiums that companies pay to the agency. "We can't do some accounting fixes and wish the problem away," says a senior Administration official, cautioning against a legislative Band-Aid. "This is not the time to serve the sugar and put the spinach on the shelf for later."

Some opponents of reforms point out that the recent stock market recovery, coupled with signs that the economy is growing again, could mean that the PBGC's situation will improve with the rising tide. "We could be looking back two years from now and be saying 'What deficit?'" says Eric Lofgren, global director of the benefits group at Watson Wyatt Worldwide, a human-resources consultancy. The agency "has always overstated its potential future liabil-ities," he adds.

Though it would stabilize the plans in the short run, increasing the cost of maintaining pension programs could ultimately hurt the PBGC, pension experts point out. That's because it would encourage more companies to simply abandon their existing programs in favor of such less costly schemes as 401(k)s. Small businesses gave up traditional pension programs years ago, and big companies have been following suit. For example, GM and IBM have been using cash-balance pension programs, in which the size of contributions is determined primarily by salary, not years of service. But companies have to be careful how they introduce the programs. A federal judge ruled last week that IBM discriminated against older longtime employees in 1999 when it instituted cash-balance pensions.

In the short term, more corporations may decide it makes sense to boost contributions to underfunded plans, if only to polish their balance sheets; huge pension liabilities can be a red flag to investors. Waiting to be saved by a stock market rebound may not be the best strategy. "I think it's prudent for companies to acknowledge these problems and not just hope to invest their way out of it," says David Bianco, an accounting analyst at UBS. After all, as many Americans have discovered, the stock market isn't necessarily the safest place to keep a retirement nest egg. --With reporting by Eric Roston/Washington, Noah Isackson/Chicago, Joseph R. Szczesny/Detroit and Rita Healy/Denver

With reporting by Eric Roston/Washington, Noah Isackson/Chicago, Joseph R. Szczesny/Detroit and Rita Healy/Denver