The landscape of pension plans for labor unions and their members is evolving, with many multiemployer pension plans contemplating a shift from traditional defined benefit pension plans to variable annuity pension plans (VAPPs). This transition carries both potential benefits and challenges, and it is imperative for trustees representing labor unions and their members to be well-informed and proactive in their decision-making process.
Key Considerations for Trustees:
- Intergenerational Equity: Trustees have a fiduciary duty to ensure that the interests of the plan participants are protected. When considering a shift to a VAPP, it is crucial to assess how this change may impact the security and predictability of retirement benefits for plan members. VAPPs tend to be beneficial for younger plan participants at the expense of older participants. Providing for intergenerational equity in a transition to a VAPP may require additional design considerations, such as starting the VAPP effective for new plan entrants only to start.
- Special Design Features: While “pure” VAPPs most strongly mitigate the risks of underfunding, unlimited downside for plan participants is usually not palatable for pensioners. Plan design features, such as caps and floors, can mitigate the risk to pensioners of large reductions in their monthly benefits, but at the cost of the promise of full-funding in all market environments.
- Plan Investments: VAPPs transfer investment risk from the contributing employers to the plan participants, as benefits may fluctuate based on the performance of underlying investments. Trustees must carefully consider the investment strategy, risk tolerance, and the potential for market volatility when making this transition.
- Funding Cost: Because of how VAPPs are valued by actuaries, they are typically more expensive to fund than traditional defined benefit pension plans. This means that converting from a defined benefit plan to a VAPP means that either contributions need to be increased or accrual rates need to be decreased to have a “cost-neutral” conversion.
While transitioning from a traditional defined benefit pension plan to a VAPP can offer higher benefits to participants, it is essential for trustees representing labor unions and their members to approach this change with diligence, transparency, and a strong commitment to protecting the financial security of plan participants.
Contact your Bolton Consultant with any questions about how these considerations and how they relate to your specific plan.