The U.S. government is poised to throw a lifeline to financially troubled multiemployer pension plans. Tucked into the American Rescue Plan Act of 2021, the $1.9 trillion pandemic relief package signed into law in March, is a special financial assistance program offering an estimated $86 billion of grants to struggling plans.
The Pension Benefit Guaranty Corporation (PBGC) is currently finalizing details of the assistance program, with additional guidance due to be published no later than mid-July. Therefore, the next few weeks offer a window for plan sponsors to consider key questions around program eligibility and potential implications for investment strategy.
Funded by the U.S. Treasury and administered principally by the PBGC, the program requires plans to segregate the aid they receive and invest it in investment-grade (BBB/Baa and above) bonds or other instruments that may be permitted by the forthcoming PBGC guidance. The program is designed to ensure that plan participants continue to receive any payments due to them roughly through 2051.
The flow of funds is anticipated to look something like this:
How the money is expected to flow
How can sponsors assess the eligibility of their plans?
During this interim period between enactment of the legislation and publication of PBGC guidance, sponsors may find it helpful to consider their plans as falling generally within one of four buckets.
Where does your plan fit in?
According to the legislation, plans must meet at least one of the following requirements to be eligible for special financial assistance:
- the plan is in critical and declining status within the meaning of section 305(b)(6) of the Employee Retirement Income Security Act of 1974 (ERISA) in any plan year beginning in 2020 through 2022;
- a suspension of benefits has been approved with respect to the plan under section 305(e)(9) of ERISA as of the date of enactment;
- in any plan year beginning in 2020 through 2022, the plan is certified by the plan actuary to be in critical status within the meaning of section 305(b)(2) of ERISA, has a modified funded percentage of less than 40%, and has a ratio of active to inactive participants which is less than 2-to-3;
- the plan became insolvent for purposes of section 418E of the Internal Revenue Code of 1986 after December 16, 2014, and has remained insolvent and has not been terminated as of the date of enactment.
In addition, the law says that in the first two years the PBGC may choose to give priority to some of the most hard-pressed plans seeking assistance — essentially moving them to the front of the line. Such plans must meet at least one of the following criteria:
- the eligible multiemployer plan is insolvent or is likely to become insolvent within five years of the date of enactment;
- the PBGC projects the eligible multiemployer plan to have a present value of financial assistance payments under section 4261 of ERISA that exceeds $1 billion if the special financial assistance is not ordered;
- the eligible multiemployer plan has implemented benefit suspensions under section 305(e)(9) of ERISA as of the date of enactment.
- The PBGC can also choose to give priority to other plans within the first two years of enactment.
What investment-related questions should plan sponsors consider?
The bucket into which a plan falls may impact investment decisions, although the strategic implications are challenging to ascertain with certainty while further guidance is pending.
One possibility, however, is that the legislation could create some form of moral hazard for plans in bucket 3. Here’s why. Plan sponsors are charged with managing plan assets to benefit plan participants, not the government or taxpayers. If the plan incorporates the knowledge of this new assistance program into strategic investment decision-making, then introducing significant incremental risk into the plan in the short term may actually be considered a rather prudent approach. (Whether or not this would be allowable and/or required is a legal question outside the scope of this article.) If the incremental risk-taking is punished by the capital markets, the plan may find that it has gained eligibility for special financial assistance, which in turn would benefit plan participants (at least with respect to benefit payments made before 2052). If, on the other hand, the additional risk-taking is rewarded with incremental returns, the plan may find itself better funded.
There are many other unknowns. The legislation allows the PBGC to regulate some activities of participating multiemployer plans, such as allocation of plan assets, but expressly forbids it from influencing other activities, such as “plan governance, including selection of, removal of, and terms of contracts with…investment managers... .” That raises the question of whether the PBGC will steer asset allocations in a certain direction. If so, might it depend on a plan’s allocation in place at the beginning of plan year 2021, or at the time that the legislation was enacted, or when the PBGC publishes its guidance, or when a plan applies for assistance?
What of the segregated assets? Will the program limit investment options to investment-grade (BBB/Baa and above) bonds? Will asset classes such as hybrids and private credit be allowed? Will there be mechanisms in place to disallow or disincentivize excessive risk-taking or pure yield-seeking within the technical boundaries of investment-grade? Will there be some expectation of cash flow or duration matching, or would plan sponsors want to do this on their own to ensure the plan can make benefit payments as promised? Will plan sponsors be encouraged to address “Climate-Related Financial Risk” in light of President Biden’s recent executive order of the same title?
What should plan sponsors do now?
The questions go on from there. In many cases, the sensible approach may be to wait and see what additional PBGC guidance may bring. But for certain unique situations, an odd blend of strategic incentives and risks (legal, reputational, financial, etc.) could manifest, such that pension decision-makers will require thoughtful deliberation within a tight time frame.
The new special assistance program for financially troubled multiemployer plans may provide critical assistance to help plans meet obligations to participants for the next 30 years. But plan sponsors may want to consider the program’s implications sooner rather than later. Capital Group’s LDI Solutions team is available as a resource for multiemployer plan sponsors as they think through these issues, and for other investors who are working through any potential implications for bond market technicals, asset prices and other considerations.