Another Deficit Driver: Contractor Pensions
Since the 1980s, private companies, the federal government, and several state governments have eliminated the uncertainties and risks associated with managing defined benefit pension plans (low interest rates, stock market declines, and an aging work force) and have migrated to defined contribution retirement options. However, many companies that contract with the federal government have continued to offer defined benefit plans, in part because the investment risks are absorbed by the taxpayers through reimbursements for pension shortfalls.
In April 2011, the Government Accountability Office (GAO) released a report analyzing payments by the Department of Energy (DOE) to contractors for the cost of underfunded pensions. The GAO stated that DOE paid $3.64 billion to its contractors over the preceding 10 years, and estimated that future DOE liabilities for these benefits could be $36.7 billion over the next 10 years.
Based on the findings of the GAO report, the Council for Citizens Against Government Waste (CCAGW) sent a letter on November 16, 2011 urging the Joint Select Committee on Deficit Reduction to save taxpayer money by demanding that private sector companies take full responsibility for funding their employees’ pension plans. CCAGW also encouraged Sen. John McCain (R-Ariz.) to request that the GAO conduct a review of contractor pension liabilities at the Department of Defense (DOD). Sen. McCain joined with Sen. Carl Levin (D-Mich.) in requesting the report from the GAO.
In the interim, Citizens Against Government Waste completed a report in February 2012 outlining taxpayer liabilities for government contractors’ post-retirement benefits. The analysis recommended that the federal government base pension reimbursement for contractors on the actuarial assumptions that are required under the Employee Retirement Income Security Act of 1974, with any shortfalls being paid by the contractor rather than taxpayers; that market losses in invested pension funds be recuperated by contracting companies, which would reduce risky investment decisions and taxpayer liability; and that defined benefit pension plan reimbursements for new employees be eliminated.
The GAO released the report requested by Sens. McCain and Levin in January 2013, analyzing the pension costs of the 10 largest DOD contractors. The GAO found that “nearly all of the contractors—as well as a peer group of companies—maintain some sort of tax-qualified, defined benefit plan for their employees.” With more than $100 billion in pension assets, DOD contractors are among the largest providers of defined benefit plans.
To determine costs owed to contractors for pension shortfalls, the federal government uses Cost Accounting Standards (CAS). GAO reported that CAS pension costs increased dramatically over the past decade, from less than $500 million in 2002 to nearly $5 billion in 2011. This considerable cost increase in unfunded liabilities – for which taxpayers were on the hook – was due to losses in the stock market, some of which were attributable to the financial crisis.
The federal government has roughly 200,000 contractors working for just about every agency, taking in approximately $700 billion annually. Company officials control not only the level of benefits offered, but also the strategies used for investing plan assets. Since many cost-plus federal contracts include clauses that ensure these pension plans are fully funded even if the plans’ investment benchmarks are not met, taxpayers ultimately bear the investment risks associated with pension fund investment decisions made by some of the most profitable corporations in the United States.
Legislators in Washington could take an important step in improving the country’s fiscal outlook by ensuring that contracting companies recuperate any market losses in invested pension funds instead of being reimbursed by taxpayers. Contractors should be changed to prohibit reimbursement for new employees unless they are covered by defined contribution pension plans. These changes will not only reduce taxpayer risk and liability, they will improve the financial well being of the contractors.
