Pension funding and management affects healthcare organizations
James S. Sagner
As the Federal government continues to express concern about the long-term viability of the nation’s $4.5 trillion pension plan system, financial institutions and financial managers are scrambling to protect their share of the market. Healthcare organizations will be affected by two significant factors in the administration of pension plans and programs: the funding of plans and the management of assets.
Funding the pension system
Private pension plans may be underfunded by as much as $50 billion, according to some estimates. The extent of the problem is unclear, according to financial projections from the Pension Benefit Guaranty Corp. (PBGC), the government insurer of private defined benefit plans. These plans, the traditional pension plan vehicles in the United States, guarantee workers a specified pension plan payment for life, assuming rules are met pertaining to length of employment and base salary.
There are various interrelated issues, however, suggesting future changes in the private pension system, which inevitably will affect the constraints under which healthcare financial managers will be able to operate.
Payouts from pension plans are expected to exceed plan contributions just after the turn of the century, based on actuarial projections. Pension plan assets also are affected negatively by current low interest rates, resulting in total returns below previous growth assumptions and sharply raising the present discounted value of future pension obligations.
The lessened tax deductibility of pension plan contributions and a sluggish economy have forced some employers to terminate pension plans for their employees or freeze contributions. About 50,000 defined benefit plans have been terminated since 1990. Sixty percent of those defined benefit plans have been replaced by defined contribution plans that require employer and employee contributions. The remaining 40 percent have not been replaced, leaving employees without a retirement program.
There is concern for the long-term solvency of the PBGC and of the entire private pension plan system. Various ideas meant to ensure their survival have been proposed, including:
* Forcing pension plans to increase the amount of premiums paid to PBGC,
* Mandating universal employer/employee pension plan coverage (protection for full-time employees only includes about 40 percent of the current workforce),
* Guaranteeing pension portability when employees change jobs,
* Granting immediate vesting (or ownership in the employer’s pension contribution), and
* Increasing incentives for defined contribution and other savings programs, such as individual retirement accounts.
Healthcare financial managers should stay apprised of developments in funding and tax deductibility issues related to the pension fund system and be prepared to adjust their plans as the system changes.
Managing pension plan assets
New investment alternatives are being created to help manage pension plan assets. For example, insurance company separate accounts were created in the 1960s to permit more aggressive investing than was permitted by regulations covering commingled insurance assets. Separate accounts were developed for all types of investments, including equities, bonds, real estate, and so forth.
Financial managers have been investing pension assets aggressively in mutual funds. Clients have been demanding daily valuation through mutual fund newspaper listings, 24-hour “800” telephone number access, and frequent communications on fund performance.
In response to the trend of increased mutual fund investing, some banks have made major commitments to mutual funds. Mellon Bank, for example, acquired the Dreyfus Corporation, the sixth-largest mutual fund company in the United States, for $1.85 billion. J.P. Morgan Bank recently announced a major marketing effort for its $25 billion investment in Pierpont Funds using the mutual fund hub-and-spoke concept. This concept helps fund managers develop leverage in a single pool (hub), with shares in different funds offered to investors at different prices.
Guaranteed investment contracts (GICs), offering a set interest rate for a specified maturity, remain the most popular investment option for pension plan managers. An option for equity investing is indexing, where a portfolio is not actively managed or analyzed for underlying economic value. Instead, an investment manager attempts to match the performance of a specific index, such as the Standard & Poor 500 Index, for example, within one-quarter of 1 percent (25 basis points per year).
Index fund management fees are small, perhaps 15 basis points for large investments to 40 basis points for small investments. Active fund management fees are estimated at 50 to 75 basis points for large accounts and as much as 100 to 175 basis points for small accounts.
These fees are subject to considerable market competition among banks, mutual funds, and insurance companies. Banks will continue as providers of pension management services, and may, in some cases, subsidize pension fees with other fees, perhaps fees from custody and other commercial banking services. That cross-selling opportunity is not available to insurance companies, which could help drive pension asset management business toward mutual funds and banks.
Healthcare financial managers should monitor closely fees paid for investment management services and consider alternatives to their current arrangements if fees exceed those discussed above, if the fund’s performance is mediocre, or if insurance company separate accounts are used to manage pension investments.
James S. Sagner, PhD, is executive vice president, Sagner/Marks, Inc., a treasury and cash management consulting firm in Chicago, Illinois. Readers’ comments and questions are welcome and should be addressed to him at Sagner/Marks, Inc., 117 N. Jefferson Street, Suite 201, Chicago, Illinois, 60661-2306.
COPYRIGHT 1994 Healthcare Financial Management Association
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