Imputation of Property Income in Pension Fund Liabilities

1. Imputation of Property Income in the Case of Liabilities Between the Sponsor and the Pension Fund Brent Moulton Advisory Expert Group on National Accounts Washington, DC 8 September 2014

2. Overview • SNA 2008 recognizes defined-benefit pension entitlements as contractual agreements • Liabilities of sponsors • Assets of households • Pension entitlements are based on net present value calculations • If the pension fund is underfunded, SNA 2008 does not provide explicit guidance on whether the increase in sponsor’s liability due to the passage of time (the “unwinding of the discount factor”) should be treated as property income

3. Background – SNA 2008 framework • “The 2008 SNA recognizes that employment-related pension entitlements are contractual engagements, that are expected or likely to be enforceable. They should be recognized as liabilities towards households, irrespectively of whether the necessary assets exist in segregated schemes or not.” (A3.127) • The level of the employer’s contribution and the liability of the pension fund to the employee are based on actuarial calculations of the net present value of future benefits. • Any excess of the liabilities of the pension fund over the available assets may represent a claim on the sponsor.

4. SNA 2008 – compensation of employees • Defined-benefit plan promises to pay future benefits according to a formula based on level of pay and time in service • Pension component of compensation of employees is based on future benefits accrued through service • Claims to benefits accrued through service (or “normal cost”) • Add service charge (for expenses of administering fund) and subtract employees’ actual contributions to get total employers’ pension contributions • Employers’ imputed pension contributions • Subtract employers’ actual pension contributions from total employers’ pension contributions

5. SNA 2008 – property income • Under SNA 1993, property income earned by pension fund was shown flowing to households • Property income attributable to policyholders • Flow from pension fund to households in allocation of primary income account • Under SNA 2008, property income payable to households is based on “unwinding” of the discount rate for the pension entitlement • Property income payable on pension entitlements • Increase in pension entitlement coming from past service

6. SNA 2008 – claim of pension fund on pension sponsor • If pension plan sponsor (usually the employer) is responsible for meeting the liabilities of the pension fund in case of any shortfall: • Any excess of pension entitlements over assets held by fund is a liability of the sponsor and asset of the pension fund • Any excess of assets over pension entitlements is an asset of the sponsor and liability of the pension fund • Net worth of the pension fund exactly zero at all times

7. Conceptual issue – interest on claim on sponsor • SNA 2008 doesn’t give much guidance on transactions or other changes in assets required to keep net worth of pension fund exactly zero • If fund is underfunded, unwinding of the discount rate affects claim of pension fund on pension sponsor • Consistent with general SNA principles to treat the unwinding of the discount rate as property income • US national accounts have introduced imputed interest on plans’ claim on sponsor • Calculated applying same discount rate used in actuarial calculations to claims of pension funds on pension sponsors • Payable by sponsor to pension fund • If fund is overfunded, interest payable by fund to sponsor

8. Example – results for United States • In 2012, employers’ imputed pension contributions, –0.4% of GDP • Negative for private and federal government plans • Positive for state & local government • Claims on sponsors (underfunded pension entitlements on balance sheet) • 2.7% of GDP for private plans in 2012 • 9.1% for state & local government • 11.0% for federal government • Imputed property income on plans’ claims on sponsors • 0.1% of GDP for private plans in 2012 • 0.5% for state & local government • 0.6% for federal government

9. Shares of US DB plans funded by assets

10. Other suggested minor clarifications • Terminology – SNA 2008 uses “pension manager” to refer to the institutional unit with “responsibility for any deficit in funding” • In contrast, in financial services industry, “pension manager” usually refers to individual or unit managing a pension fund’s investments • We suggest that “pension sponsor” would be clearer • We also suggest that the example in SNA 2008 table 17.8 should explicitly show the production costs associated with pension fund output • Table now shows output, but not costs, affecting saving

11. Questions for the AEG • Does the AEG agree that a property income transaction between the pension fund and the pension sponsor should be recorded to reflect the unwinding of the discount factor when the pension fund is underfunded or overfunded? • Does the AEG agree that a property income flow from the fund to the sponsor should be recorded in the cases of overfunding? • Does the AEG agree with the proposed methodology, using the same discount factor used in calculating the property income payable on pension entitlements? • Does the AEG agree with substituting “pension sponsor” for “pension manager” and with modifying Table 17.8 to show production costs of pension fund?