Background

Background

Traditional defined benefit pension plans, based on years of service and either final salary or a flat-dollar benefit formula, provide a stable source of retirement income to supplement Social Security. The number of private-sector defined benefit plans reached a peak of 112,000 in the mid-1980s. At that time, about one-third of American workers were covered by defined benefit plans. The number of plans now stands at about 30,000.

In recent years, many employers have chosen not to adopt defined benefit plans, and others have chosen to terminate their existing defined benefit plans. From 1986 to 2004, 101,000 single-employer plans with about 7.5 million participants were terminated. In about 99,000 of these terminations, the plans had enough assets to purchase annuities in the private sector to cover all benefits earned by workers and retirees (a "standard termination"). In the remaining 2,000 cases, companies with underfunded plans shifted their pension liabilities to the PBGC.

In contrast to the dramatic reduction in the total number of plans, the total number of participants in PBGC-insured single-employer plans has increased. In 1980, there were about 28 million covered participants; by 2004 this number had increased to about 35 million. However, these numbers mask the downward trend in the defined benefit system because they include not only active workers but also retirees, surviving spouses and separated vested participants. The latter three categories reflect past coverage patterns in defined benefit plans. A better forward-looking measure is the trend in the number of active participants, who continue to accrue benefits. That number is moving downward. In 1985, there were about 22 million active participants in single-employer defined benefit plans. By 2002, the number had declined to 17 million. At the same time, the number of inactive participants has been growing. In 1985, inactive participants accounted for only 28 percent of total participants in single-employer defined benefit plans, a number that has grown to about 50 percent today.

Plan terminations are one reason for the decline in active participants. Plan freezes are another. Some plans are frozen because the sponsor falls on hard economic times and decides to temporarily freeze its plans to reduce the contributions it is required to pay into them. Other plans are frozen because the sponsor wants to cover its workers under a defined contribution or hybrid plan and does not want to terminate or convert the old plan. Still others are frozen after one company acquires another, and the plans of the two companies cannot easily be merged.

As noted, a plan can be frozen in several ways. It can be closed to new entrants so that only those in the plan at a point in time continue to accrue benefits. The plan can be frozen for some, but not all, participants. Such a partial freeze could be based on age, tenure, job classification or plant location. Under a hard freeze, no participant accrues any further benefits based on either job tenure or compensation growth. Under a soft freeze, benefits are generally not increased for additional tenure but are increased for compensation growth.

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