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Neither DB nor DC: The Composite Plan

Congress may soon consider legislation for a new type of shared-risk multiemployer retirement plan known as a Composite Plan. This design was initially proposed in the NCCMP 2013 Retirement Security Review Commission Report, Solutions not Bailouts,1 but was not enacted as part of the Multiemployer Pension Reform Act of 2014 (MPRA).This issue of Ideas summarizes key points of the Composite Plan design. In addition, it presents the results of our stress testing of a hypothetical Composite Plan.

What Is a Composite Plan?

The Composite Plan’s key distinguishing features, based on the currently drafted provisions, are described below:

  • It is neither a defined benefit (DB) nor a defined contribution (DC) plan but rather is composed of features of both types of plans (hence the name), while mitigating the shortcomings of each.
  • The shared-risk design is intended to provide funding stability, provide lifetime income to participants and promote employer participation.
  • It has a benefit structure like a DB plan.
  • Similar to a DC plan, the employers’ obligation is limited to negotiated contributions.

 

 

  • A Composite Plan can be established as a stand-alone plan or as an add-on component to an existing DB plan, as noted below.

 

 

  • The funding requirements of a Composite Plan are based on a 15-year forward-looking projection (based on the actuary’s best- estimate assumptions), with a target projected funded ratio of 120 percent in 15 years.
  • There are strict limits on the level of allowable benefit improvements: They are only allowed if the projected funded ratio is at least 120 percent after the improvement. To mitigate “overspending” excess reserves, benefit improvements on benefits attributable to prior service are generally limited to 2.5 percent to 5 percent.
  • Should financial difficulties occur (e.g., the 15-year projected funded ratio is less than 120 percent), the trustees must establish a realignment program2, which they must monitor and update annually. Realignment program remedies are described below.

 

 

  • The draft legislation includes provisions to protect the existing multiemployer DB plans that become characterized as “legacy” plans when a Composite Plan is established, as noted below.

 

 

It is too soon to know when legislation may be introduced or enacted. It is important to note that the provisions outlined above are based on a preliminary draft version of the legislative language and are likely to differ from the version introduced and, ultimately, the version enacted.

How Would a Mature Composite Plan Recover from Severe Shocks?

In the first year, the funded percentage is intended to be 120 percent as contributions must equal 120 percent of the cost of benefits accruing. As described above, there are strict limits on the ability to improve benefits and early intervention is required to mitigate the impact of adverse experience. These protections were put in place to recognize the lessons learned after the “Great Recession.”

To assess the ability of a mature Composite Plan to recover from severe shocks similar to those that DB plans experienced in the 2008–2009 period, Segal Consulting performed an analysis evaluating the level of remedies that would be required to restore a plan to its required projected funded ratio of 120 percent in 15 years. Included in our stress-testing was a severe investment loss of –22 percent (mirroring the average plan’s rate of return for 2008), as well as combining that loss with a 25 percent employment decline (as was experienced in some industries following 2008), each with no immediate recovery. The starting point was presumed to be a 100 percent funding level, due to prior adverse experience, with the effect of the shocks taking that down to 73 percent (and projected to decline further). The following graph illustrates typical realignment solutions that would be available to trustees in these circumstances.

 

 

Segal’s analysis provides an illustration of the ability of a Composite Plan to recover from a severe shock, based on timely, aggressive plan trustee management. Such action would be required under the proposal — even for a very mature plan, where shocks are more difficult to absorb. For plan sponsors considering implementation of a Composite Plan, more robust modeling and analysis will be necessary, specific to each plan’s circumstances. This plan-specific analysis should take into consideration factors such as participant demographic characteristics, contribution levels, legacy plan costs, core- and non-core benefit levels, other plan design features, as well as the plan sponsor’s risk tolerance and investment philosophy.

As noted, this Ideas is intended to be a high-level summary of the Composite Plan legislation as currently drafted as well as to provide some context for the ability of a plan to recover from significant adverse experience. When — and if — the legislation works its way through the legislative process, Segal will provide additional details and updates.

 

 

1 This is called the “Target Benefit Plan” design in the NCCMP report.

2 This is analogous to plans having a Funding Improvement Plan if they are in Endangered Status or a Rehabilitation Plan if they are in Critical Status, as defined by the Pension Protection Act of 2006 (PPA’06).

 

Questions? Contact Us

For more information about the Composite Plan design, contact your Segal benefits consultant, the nearest Segal office or one of the following experts:

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Segal Consulting is a member of The Segal Group.

 

 

 

Copyright © 2017 by The Segal Group, Inc. All rights reserved.

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