Generally, lawsuits are the only way these transactions are flushed into the open. Employees have sued when they learned that the surplus in their pension plans was being used to top up the pension of a newly acquired company, or for some other corporate purpose. But the courts have essentially green-lighted these indirect pension raids.[2]
Companies keep these arrangements out of the limelight because employers are fiduciaries, meaning they’re supposed to manage the plans solely for the benefit of participants and beneficiaries. Actuaries and lawyers discussed this dilemma at a session on “Consulting in Mergers & Acquisitions” at a professional conference in 1996. Their solution? Don’t put it in writing. “The parties need to cut a purchase price and that’s it,” said a partner with the New York corporate law firm Sullivan & Cromwell. “That way nobody can pinpoint what portion of the purchase price, if any, was attributable to the pension surplus.”
A principal at Mercer, the human resources and benefits consulting firm, explained that some of the companies he worked with “believe that none of this should be documented, so they don’t leave a nice paper trail. You need to decide what situation you find yourself in.” The panelists noted that buyers typically pay fifty to eighty cents on the dollar for surplus assets.
PENSION PARACHUTES
Conveniently, when key managers lose their jobs in connection with mergers, spin-offs, and other restructurings, the pension plan can help finance their departure payments. These arrangements also remain off the radar screen of regulators, employees, and the IRS. In 1999, Royal & Sun Alliance, a global London-based insurer, closed a Midwest division and laid off all 228 of its employees. Just before the shutdown, the insurer, commonly known as RSA, amended the division’s employee pension plan to award larger benefits to eight departing officers and directors. One human resources executive, for example, got an additional $5,270 a month for life, paid out in a lump sum of $792,963.
Fruehauf Trailer Corp. used a trickier maneuver to deliver departure bonuses to its human resources executives. The truck manufacturer was going over a cliff in 1996, and about three weeks before it filed for bankruptcy protection, the company transferred $2.4 million in surplus assets from the union side of Fruehauf’s pension plan into the frozen plan for salaried employees. It then awarded large pension increases to a select few. The most substantial increases went to members of the Pension Administration Committee, including a 200 percent increase to the vice president of human resources and a 470 percent increase to the controller.[3]
AT&T used pension assets in a variety of ways. In 1997, AT&T offered 15,300 older managers the equivalent of a half-year’s pay, in the form of a cash payout from the pension plan as severance if they voluntarily agreed to retire. The move consumed $2 billion in pension assets.
Michael J. Gulotta, who led the ERISA Advisory Council task force as it explored ways to use pension assets, was also the president of Actuarial Sciences Associates, AT&T’s benefits consulting subsidiary. In 1998, he helped the company change its traditional pension to a “cash balance” pension (more on these later), which saved the company $2.2 billion by cutting the benefits of more than 46,000 long-tenured employees in their forties and fifties. Many would see their pensions frozen for the rest of their careers.
Employers can use pension assets to pay the actuaries, lawyers, financial managers, and trustees who provide services related to the management of the pension plans, and uncounted millions have gone to pay the actuaries who craft ways to cut benefits and to lawyers who defend suits brought by pension plan participants. For its consulting and administrative services in connection with the cash balance conversion, AT&T paid ASA $8 million from the trust assets of the AT&T Management Pension Plan.
ASA set up a separate cash-balance plan for itself, using assets from the AT&T Management Pension Plan, which provided ASA managers with 200 percent to 400 percent of the value of what they would have if they had remained under AT&T’s management plan.
Six months later, AT&T sold the Somerset, New Jersey, unit, ASA, to the managers for $50 million, and transferred $25 million in pension assets to ASA, more than twice the amount needed to cover the pensions owed. In 2000, two years after buying ASA from AT&T, Gulotta sold it to the giant insurance and benefits consultant Aon Corp. for $125 million. He remained a principal of the firm until his retirement.
Surplus pension assets have ended up in executives’ pockets in more creative ways. In late 2005, CenturyTel (now CenturyLink), a telecommunications firm based in Monroe, Louisiana, attached a list to its workers’ pension plan with the names of select individuals who would get an extra helping of pension benefits from the plan.
Normally, federal law forbids employers from discriminating in favor of highly paid employees who participate in the regular pension plan; everyone in the plan is supposed to have roughly the same deal. There’s also an IRS limit on the amount a person can earn under the plans. These restrictions are why companies provide separate, supplemental pension plans open only to executives.
But by using complex maneuvers that take advantage of loopholes in the discrimination rules, many companies do, in fact, discriminate in favor of their executives and exceed the statutory ceiling on how much they can receive from the plans.
CenturyTel used one of these techniques in its pension plan, which covered 6,900 workers and retirees, to boost the pensions of eighteen executives in the plan. One of them was chief executive Glen Post, who before the amendment had earned a pension of only $12,000 annually in the regular pension plan. But the increase bumped it up to $110,000 a year in retirement.
The technique doesn’t increase the executive’s retirement benefits. When the swap is made, the supplemental executive pension is reduced by an equal amount. The goal, rather, is to enable companies to tap pension assets to pay for executive pensions—and even their pay.
Intel, the giant semiconductor chip maker based in Santa Clara, California, used this method to move more than $200 million of its deferred-compensation obligations for the top 3 percent to 5 percent of its workforce into the regular pension plan in 2005. Thanks to this, when these executives and other highly paid individuals leave, Intel won’t have to pay them out of cash; the pension plan will pay them (more on this in Chapter 8).
Using these methods, companies have moved hundreds of millions of dollars of executive pension liabilities into the regular pension plans, and then have used pension assets originally intended to pay the benefits of rank- and-file employees to pay the additional pension benefits for executives. The practice exists across all industries: from forest products (Georgia-Pacific) to insurers (Prudential Financial) to banks (Community Bank System Inc.).
The practice has something in common with the practice of selling pension assets: Employers prefer to keep it under wraps, lest it spark a backlash when employees find out the CEO with millions of dollars in supplemental executive pensions is also getting an extra helping from the rank-and-file pension plan.
To “minimize this problem” of employee relations, companies should draw up a memo describing the transfer of supplemental executive benefits to the pension plan and give it “only to employees who are eligible,” wrote a consulting actuary with Milliman Inc., a global benefits consulting firm. Covington & Burling, a Washington, D.C., law firm, advised employers to attach a list to the pension plan, identifying eligible executives by name, title, or Social Security number, along with the dollar amount each will receive. CenturyTel, People’s Energy Corp., and Niagara Mohawk Power Corp., a New York utility that’s part of London-based National Grid PLC, all used methods like this.
Initially, employers used these executive pension transfers as a way to use surplus pension assets, and some companies with overfunded pensions still do. To “take advantage of the Surplus Funds in the Pension Plan,” Florida real estate developer St. Joe Co. amended its employee pension plan in February 2011 to increase benefits for “certain designated executives.” These included departing president and CEO William Britton Greene, who was pushed out by a large shareholder. The amendment more than doubled the pension he’ll receive from the employee pension plan, boosting the lump sum amount from $365,722 to $797,349. Greene also received an exit package worth $7.8 million.
But moving executive pension obligations into the regular pension plans can not only use up the surplus assets, it can put a dent in the rest of the pension assets as well. Today, many pension plans with special executive carve-outs are underfunded, including Carpenter Technology Corp., Parker Hannifin, Illinois Tool Works (which
