PBGC guarantee The proposal would provide that the PBGC guarantee does not apply to benefits under a new plan or an increase in benefits resulting from a plan amendment unless the plan is fully funded. In addition, the proposal would provide that the PBGC guarantee does not apply to any new unpredictable contingent event benefits or any increases in such benefits. An unpredictable contingent event benefit is any benefit contingent on an event other than age, service, compensation, death, or disability or an event which is reasonably and reliably predicable. Bankruptcy reforms The proposal would clarify the standing of the PBGC in bankruptcy by giving it the same priority status under the Bankruptcy Code as it has under ERISA and the Code. Thus, it would amend the Bankruptcy Code to include contributions attributable to the pre-petition period and pre-petition priority employer liability claims (that is, employer liability for termination before a bankruptcy petition has been filed) in the list of pre-petition taxes that are accorded priority under section 507(a)(7) of the Bankruptcy Code. The proposal also would amend the Bankruptcy Code to include contributions attributable to the post-petition period and post-petition priority employer liability claims (that is, employer liability for termination after a bankruptcy petition has been filed) among the post-petition taxes that are treated as allowable administrative expenses of a bankrupt company and are accorded priority under section 507(a)(1) of the Bankruptcy Code. The proposal would give priority to claims for underfunding attributable to shutdown benefits triggered within three years of termination. It also would allow the PBGC's claims to arise without having to terminate the plan in the event the plan sponsor liquidates, and the control group assumes responsibility for the plan. Sponsors in bankruptcy with ongoing plans would have to continue to fund the plan as required under the Code and ERISA. The proposal would amend ERISA to clarify that a portion of PBGC's claims for employer liability has priority. The proposal also would prospectively revise the amount of PBGC's priority employer liability claim to be the sum of: (a) unfunded benefits liabilities attributable to the occurrence of unpredictable contingent events arising during the three years preceding termination, plus (b) the greater of: (1) 30 percent of employer net worth; or (2) the currently applicable percentage of the remaining unfunded benefit liabilities. The percentage begins at 10 percent and increases 2 percentage points a year until it reaches 50 percent in 2012. The PBGC could disregard the 30 percent of net worth calculation where cost-effective to do so. Lastly, the proposal would give the PBGC the option to be a member of the creditors' committee, so that it would have access to information routinely available to other creditors. In general V. ISSUES AND ANALYSIS The PBGC contends that, without legislative reforms, its financial condition is likely to deteriorate to the point that it will not be able to meet its obligations under ERISA. According to its calculations, premiums and other income will be insufficient to pay guaranteed benefits for terminated underfunded plans in the future. 7 If the PBGC's forecast is correct, there are a number of possible ways to strengthen the financial condition of the PBGC working within the present termination insurance program. PBGC funding could be improved by increasing the amount of premiums collected by the corporation or by giving the PBGC higher priority status in bankruptcy proceedings. Another option is to reduce PBGC liabilities by limiting the PBGC guarantee or by improving the health of the defined benefit pension system generally, so that fewer plans will terminate with unfunded liabilities. For example, steps could be taken to increase minimum funding standards to reduce the amount of unfunded liabilities in the system. These, and other possible solutions, are discussed in detail below. PBGC funding One way to help ensure that the PBGC will be able to continue to meet its obligations under ERISA is to increase the amount of funds available to pay unfunded benefits guaranteed by the corporation.9 Premiums Since the PBGC is required by ERISA to be self-supporting— there is no annual appropriation from general revenue-most of the corporation's revenue comes from premiums collected from employers sponsoring defined benefit plans. An increase in premiums could be achieved either by increasing premium rates or by increasing the number of plans from which premiums are collected (base broadening). In determining the proper way to structure PBGC premiums, a major issue is risk distribution—that is, should all premium payers 7 Some have questioned whether the PBGC's forecast of impending financial crisis is accurate. For example, critics assert that the PBGC uses very conservative actuarial_assumptions that may overstate plan liabilities and the PBGC's exposure. See Part II.B. above. Because the PBGC has never produced auditable financial statements, it is very difficult to independently verify the accuracy of the corporation's assessment. See U.S. General Accounting Office, Labor Issues (GAO/OCG-93-19TR), January 7, 1993. Possible options outside the termination insurance program, such as appropriations from general revenues, are not discussed here. The sources of PBGC's funds are assets of terminated plans, premiums, claim recoveries from sponsors of terminated plans, and investment earnings. Since, by definition, assets of terminated plans represent funded benefits, only the latter three sources are available to pay unfunded benefits. pay the same premium, or should the premium be adjusted to reflect risk. Those who favor increasing the flat-rate premium charged to all covered plans focus on the social insurance aspect of the PBGC. They argue that providing retirement benefits is an important social good and that, therefore, the cost of providing benefits should be spread equally among a broad group. When the PBGC was created in 1974, this was the approach adopted-every defined benefit plan contributed a premium of $1 per participant, regardless of risk to the system. Under a flat-rate PBGC premium, well-funded plans effectively subsidize high-risk, poorly-funded plans. Proponents of this approach argue that this subsidization is intentional, and is inherent in the concept of the PBGC as a social insurance program. Social insurance programs typically involve transfers of wealth, usually from higher-income individuals to lower-income individuals. Proponents of an increase in the flat-rate premium express concern that increased reliance on risk-based premiums could cause employers to unnecessarily limit or delay benefit increases or, in the case of newer plans, to limit the amount of past service credit. Such changes in plan benefits increase plan liabilities, and thus could cause a plan to be underfunded in the short run, even though the plan may be fully funded over time. Proponents of a flat-rate system are also concerned that a significant increase in premiums for underfunded plans could divert assets away from plan funding (or some other business purpose like research and development or expansion), and even force some companies into bankruptcy. Those who favor risk-adjusted premiums argue that premiums should be based, at least partially, on plan underfunding because of the moral hazard that exists under the present system. The flexibility in the minimum funding rules permits plan sponsors to minimize contributions. Thus, plan sponsors can deliberately underfund plans, knowing that if the plan is terminated, other premium payers (through the PBGC) will provide the benefits. In private insurance companies, insurance is priced to prevent such moral hazards. Proponents of risk-adjusted premiums argue that PBGC insurance should be priced in a similar manner. Although premiums are marginally higher for underfunded plans than for fully funded plans, the difference under present law is not sufficient to reduce the incentive to abuse the system. Proponents of risk-adjusted premiums argue that an increase in flat-rate premiums would be unfair to healthy defined benefit plans. In fact, the PBGC opposes higher premiums for all plans because it fears that there will be a mass exodus of premium payers from the defined benefit system. The more cross-subsidization that occurs between well-funded and poorly-funded plans, the more the premium structure will be perceived as unfair and the more risk there is that healthy plans will simply exit the system. A company can respond easily to the increased cost of pension insurance by switching from a defined benefit plan to a defined contribution plan (although such a switch could not be made unilaterally in the case of a collectively-bargained plan). An increase in premium rates for underfunded plans also may result in overcharges to some plans because not all underfunded plans pose an equal risk to the PBGC. The degree of risk posed to the PBGC also depends on other factors, such as the health of the particular plan sponsor and its industry. In a perfect insurance setting, adjustments for this type of risk may be desirable. However, determining what the appropriate premium should be for any particular plan would likely be unduly complicated. Plan underfunding may be an adequate proxy for risk. Another way to increase the amount of premiums collected by the PBGC would be to broaden the premium base. One method of accomplishing this would be to collect "premiums" 10 from all qualified pension plans, not just defined benefit plans. Defined contribution plans benefit from the same tax-favored treatment afforded defined benefit plans, and the two types of plans generally are considered to be part of the same system established and supported by the government to help ensure that individuals have adequate retirement income to supplement Social Security benefits and private savings. A modest per-participant "premium" collected from all qualified plans could increase PBGC funding substantially without increasing the cost of defined benefit plans relative to defined contribution plans. On the other hand, the less connection there is between the premium payers and the beneficiaries of the PBGC's insurance, the more likely the system will be perceived as unfair, particularly if the incentive to underfund plans remains. Further, the more such connection weakens, the more difficult it is to distinguish the financing method from general fund financing and the more the program is simply a wealth transfer program rather than insurance. If wealth transfer is ultimately the objective of the pension termination insurance system, then there may be better ways to accomplish the desired result than through the existing system. Enforcement Better enforcement of the premium requirements also would improve the financial condition of the PBGC. GAO found that the PBGC's efforts to identify and collect unpaid premiums, underpaid premiums, and penalties are inadequate.11 GAO recommended civil actions, systematic past due filing notices, and systematic statements of account with proper follow-up. Bankruptcy reform Increasing the priority status of PBGC claims in bankruptcy could help to secure the financial stability of the corporation. It would enable the PBGC to claim a larger share of the assets of bankrupt companies to help pay guaranteed benefits. Elevating the status of pension claims also would provide an additional incentive for employers to fund their pension liabilities because of the potential negative effect of unfunded liabilities on the perceived financial health of the employer. 10 Because a defined contribution plan participant could never benefit from the PBGC guarantee, amounts collected from such plans would not technically be "premiums" for insurance. Rather, they would be more like taxes. 11 U.S. General Accounting Office, Pension Benefit Guarantee Corporation (GAO/HR-93-5), January 7, 1993; Pension Benefit Guaranty Corporation Needs to Improve Premium Collections (GAO/HRD-92-103), June 30, 1992. However, increasing the priority status of the PBGC would come at the expense of other creditors. Moreover, creditors may be less likely to loan money to firms with underfunded plans, hastening the ultimate failure of a company in dire financial condition. PBGC liabilities Another way to help ensure the continued viability of the PBGC is to limit the corporation's exposure to excessive liabilities. PBGC guarantee One way to limit the PBGC's exposure is to eliminate or limit the PBGC guarantee in certain circumstances. For example, the PBGC guarantee could be denied to certain benefit increases promised by underfunded plans. Structured properly this might discourage financially troubled sponsors and labor representatives from shifting compensation liabilities to the PBGC by negotiating increased pension benefits in lieu of wages as it becomes apparent that the sponsor may fail. If the increased benefits were not guaranteed by the PBGC, labor would be more likely to insist that the benefits be funded by the sponsor. However, this approach could undermine the whole purpose of the PBGC, which is to guarantee benefits. If benefit increases are not guaranteed, participants of plans that are not fully funded upon termination could receive a reduced pension. Further, participants may be misled, because they may not know that a particular benefit increase is not guaranteed. Collectively bargained flatdollar plans would be particularly affected, since benefit increases under such plans are always at least initially unfunded. A better way to limit PBGC's exposure to unfunded benefit promises might be simply to prohibit, or at least limit, plan improvements that increase unfunded liabilities. For example, benefit increases in underfunded plans could be prohibited unless the plan is funded to a certain level, or unless security is provided. Such a restriction could build on the present-law requirement that sponsors of plans which are less than 60 percent funded provide security for plan amendments that increase unfunded liabilities by more than $10 million. One drawback to this latter approach is that participants in underfunded plans could be denied benefit improvements. Also, companies and labor representatives would be restricted in their ability to negotiate freely in their own best interest (although this concern should be balanced with what is best for the defined benefit plan system as a whole). Moreover, if plan sponsors are required to provide security for benefit increases, sponsors may find it difficult to obtain the credit necessary to keep their businesses in operation. However, if pension promises are to be recognized as significant liabilities, this may be the correct result. A plan sponsor that cannot fund an increase in benefits without jeopardizing its business operations arguably should not make that increase. Increased minimum funding rate Another way to limit the PBGC's exposure is to strengthen the minimum funding standards in ERISA and the Code. Many pension experts argue that the rate of funding required under the |