DB vs DC Savings: About 3% per Year

That’s the payroll difference for plan sponsors who choose to freeze their pension plans, according to a study.

(November 25, 2013) – Freezing a corporate defined benefit (DB) pension plan would save 3.1% of total firm assets, on average, over a 10-year time horizon, researchers have said.

That figure was the net savings calculation, and takes into account the additional defined contribution (DC) matching payouts that most firms take on after closing their pension programs to new members.

The study, published as a working paper in the US Federal Reserve’s finance and economics discussion series, had three co-authors: Stanford University Finance Professor Joshua Rauh, Fed Economist Irina Stefanescu, and Columbia University Professor Stephen Zeldes.  

The researchers primarily sourced the raw data from Form 5500, a mandatory annual filing by plan administrators with the US Department of Labor and Internal Revenue Service. Rauh, Stefanescu, and Zeldes restricted their analysis to US-based plans with at least 1,000 active participants.

The dataset spans the years 1999 through 2010, and includes 213 schemes which were frozen during that time period, in addition to some which remained open.

Comparing the what these plans would have accrued if not frozen to the actual increase in 401(k) and other DC contributions for firms that freeze, the authors found only partial compensation to employees for the lost DB benefits.

“Net of the increase in total DC contributions, firms save between 2.7 % and 3.6% of payroll per year,” the researchers wrote. “Workers would have to value the structure, choice, flexibility, or portability of DC plans by at least this much more to experience welfare gains from freezes.”

Furthermore, they found that firms with potentially more assets to save were also more likely to undertake a plan freeze and switch to DC.

The authors did acknowledge that “there are still many other factors that enter a firm’s decision to freeze, including the impact on the volatility of cash flows, the demand of employees for more portable benefits, and the relative effects of the two types of plans on reported accounting income. The relative importance of these effects compared to the desire to save costs remains an open question.”

Read the full paper, “Cost Shifting and the Freezing of Corporate Pension Plans,” here

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