Covid-19 has wreaked havoc on our lives and, frankly, made a real mess of 2020 so far. But the consequential economic downturn is, some say, only just beginning. It’s extremely hard to predict not only what the next months will hold in terms of improvement of the pandemic, but also what lies in store for the economy and the financial markets.
In the first part of this article, I wrote about the possibilities ahead for Social Security and Medicare, two elements of support for seniors that rely heavily on income from payroll taxes. The current dip in employment means fewer contributions, so the pot shrinks, potentially bringing the funds’ insolvency date closer. But what do you need to know about Covid-19 and your pension plans?
Some Pension Plans Are At Risk
While it’s all very much based on speculation at the moment, the impact that Covid-19 might have on your pension really depends on the type of pension plan, or plans, that you have.
Defined benefit pension plans offer more certainty at the moment than defined contribution plans, as generally speaking, you’ll know how much you stand to be able to take as a payout. However, as people reach retirement during this period of economic uncertainty and take those lump sum payments, the pension plan sponsors are the ones who’ll potentially find themselves in difficulty first.
Covid-19 has led many older workers to seek early retirement, after the pandemic cost them their jobs late in their careers. So, as well as the workers reaching retirement as planned during 2020, we’ve seen a surge in early retirement.
This has a detrimental effect on the pension plans at a difficult time – it’s a bit like reducing your investment portfolio when it’s fallen in value (i.e., don’t). It just isn’t going to have the same chance of a recovery when the market picks up, as their asset value will have considerably fallen.
Corporate Pension Plans
Corporate pension plans will be pretty secure, as long as no major changes to regulations and legislation occur. While their funded status fell by an estimated 8% during the turbulent first quarter of 2020, the Pension Protection Act of 2006 provides some stability.
Signed into law by President George W. Bush in 2006, it strengthened legislation around employers’ contributions to corporate pension funds but also guaranteed the payments of those accrued benefits to employees.
Corporate pension plans are also insured by the federal government, so there’s no great cause for concern here – at the moment. However, multi-employer plans have been historically underfunded and 2020 may likely see their situation worsen. Around 10.6 million workers and retirees have a pension from a multi-employer plan, and at least 10% of these plans are currently critically underfunded.
In simple terms, pension plans are considered underfunded when their total value is less than their combined obligations to plan holders. And the prognosis for some multi-employer plans was dire before Covid-19 hit.
The multi-employer pension, the Central States Pension Fund, was already set to fail as early as 2025, but the economic downturn and the further depreciation of its funds could bring its demise even sooner. The collapse of these plans could mean that retirees won’t see any of their expected pension, or they may well receive a hugely reduced amount.
State and Local Government Pension Plans
Market downturns since the start of the century have already hit state and local government pension plans badly, and their funding status was down to 73% in 2018. To generate return and boost their funds after this decline, many of these funds took on risky investments. This essentially meant they had paved themselves a rocky path to tread, one made even more precarious by the downturn this year.
During and indeed post Covid-19, state and local government budgets are going to be pulled in many directions so there will be less available to help prop up these plans. While most states protect their pensions in some way, they are not fully insured like corporate plans.
Pension Plans – What Now?
The general forecast for the effect the pandemic is going to have on pension plans is really mixed. It will depend heavily on the type of pension plans you hold, and their bill of health prior to the onset of the coronavirus.
Many pension plans were struggling beforehand, being critically underfunded and with an insolvency date in sight.This meant that retirees were facing huge uncertainties about their income already. Covid-19 may well bring critical dates of fund depletion forward, due to the increase in lump sum payments being withdrawn and the decrease in new contributions from payroll taxes.
That said, like much of the rest of the prognosis for the global pandemic, it’s a bit of a waiting game. It’s impossible to predict the depth of the recession we are heading towards, and when the economy will be able to properly pick up steam again. Trillions of federal dollars are needed to support the country through this, and some of those will inevitably go towards pension plans.
Whilst it’s extremely hard to say anything for certain, there are optimistic views from professionals. Alicia Munnell, the director of the Center for Retirement Research says that pension plans will “muddle through” and the impact on retirees won’t be as grim as some predict.
Let’s Look At What It Might Mean For You
As with all financial issues, everyone’s situation is different and influenced by many interwoven factors. If you’d like to take stock and see what impact Covid-19 may have on your retirement security in general, or your pension plans in particular, please do reach out and book an appointment. It might be an unsettling time, but we can look forward to the calm after the storm.