Current discount rate yield curves have increased by approximately 80 basis points since the December 2012 yield curves. For plans that have to disclose their pension plan liabilities under FASB ASC Subtopic 715-20 at the end of the year, that is great news. Assuming a plan not weighted toward active or retired participants, December 31, 2013, disclosure liabilities will be lower than in 2012 by about 8% to 9%. Combined with asset gains, plans should see a significant increase in their funded status. The December 2013 Milliman 100 Pension Funding Index shows an improvement of 16.7% on funded status from December 31, 2012, with a little more than half of that improvement attributable to the rise in discount rate.
However, this may not be true when it comes to the calculation of the cash contributions, done separately under rules from the IRS, and which are referred to as the funding side. The 2014 segment rates will be 4.43%, 5.62%, and 6.22%. This represents a drop in each segment of more than 50 basis points from the 2013 MAP-21 rates of 4.94%, 6.15%, and 6.76%, respectively. Assuming a plan with intermediate duration as described above, this corresponds to an increase in liabilities that is solely due to the change in segment rates of approximately 6%.
There are two reasons for this drop in segment rates: (1) a widening of the corridor used as a minimum to determine the segment rates from 85%/115% of the 25-year average segment rate in 2013 to 80%/120% in 2014; and (2) the 25-year average of segment rates used to calculate the MAP-21 corridor replaces high historical rates with significantly lower current rates.
Moreover, because both the corridor will widen again in 2015 (to 75%/125% of the 25-year average), and low rates will be replacing high rates when calculating the 25-year average, this trend will continue for 2015 valuations. Assuming a constant yield curve from the November 2013 Pension Protection Act (PPA) yield curve, the 2015 low-end MAP-21 corridor rates would be 3.93%, 5.09%, and 5.68%. Because the segment rates prior to MAP-21 would not be higher than these rates, they would be the rates for 2015 valuations. In fact, they would be the segment rates for 2015 valuations (with maybe a movement of 1 basis point) if every segment of the PPA yield curve were to increase or decrease by 10 basis points every month for the next 10 months.
So despite the improvement on the accounting side, pension plans may not see much of an improvement on the funding side in 2014 results from 2013. And depending on if assets can keep up the gains over the past two years, pension plans may be in a position where they will be approaching 100% funded status on an accounting basis but still require a significant level of contributions on a funding basis in 2015. While plan sponsors may want to celebrate the good news on the accounting side, now is the time to work on a plan to help the funding side for the next couple of years.
However, this may not be true when it comes to the calculation of the cash contributions, done separately under rules from the IRS, and which are referred to as the funding side. The 2014 segment rates will be 4.43%, 5.62%, and 6.22%. This represents a drop in each segment of more than 50 basis points from the 2013 MAP-21 rates of 4.94%, 6.15%, and 6.76%, respectively. Assuming a plan with intermediate duration as described above, this corresponds to an increase in liabilities that is solely due to the change in segment rates of approximately 6%.
There are two reasons for this drop in segment rates: (1) a widening of the corridor used as a minimum to determine the segment rates from 85%/115% of the 25-year average segment rate in 2013 to 80%/120% in 2014; and (2) the 25-year average of segment rates used to calculate the MAP-21 corridor replaces high historical rates with significantly lower current rates.
Moreover, because both the corridor will widen again in 2015 (to 75%/125% of the 25-year average), and low rates will be replacing high rates when calculating the 25-year average, this trend will continue for 2015 valuations. Assuming a constant yield curve from the November 2013 Pension Protection Act (PPA) yield curve, the 2015 low-end MAP-21 corridor rates would be 3.93%, 5.09%, and 5.68%. Because the segment rates prior to MAP-21 would not be higher than these rates, they would be the rates for 2015 valuations. In fact, they would be the segment rates for 2015 valuations (with maybe a movement of 1 basis point) if every segment of the PPA yield curve were to increase or decrease by 10 basis points every month for the next 10 months.
So despite the improvement on the accounting side, pension plans may not see much of an improvement on the funding side in 2014 results from 2013. And depending on if assets can keep up the gains over the past two years, pension plans may be in a position where they will be approaching 100% funded status on an accounting basis but still require a significant level of contributions on a funding basis in 2015. While plan sponsors may want to celebrate the good news on the accounting side, now is the time to work on a plan to help the funding side for the next couple of years.