NCPA - National Center for Policy Analysis

Misleading (Legal) Pension Plan Accounting

September 24, 2002

International Business Machines Corp. reported earnings of $15.7 billion for 2000 and 2001. About $2.5 billion, it said, came from excess earnings of the company's U.S. and overseas defined benefit pension plans. But during that period, the pension plans were deteriorating by $16.5 billion.

The assets of defined benefit pension funds are contributed by the company and invested in stocks and bonds. If the plan becomes "overfunded" -- that is, the value of the plan assets rise above reserves required to pay benefits, companies can take the excess as profit.

Furthermore, using generally accepted accounting principles, companies can make the unwarranted assumption that the plan will continue to make big bucks, says financial columnist Scott Burns.

  • The villain is an accounting rule called FAS 87, which was issued after the pension crisis that followed the 1973-74 market crash.
  • During the 1990s, companies found that FAS allowed to them to show their pension plans as a source of income, not expenses.
  • FAS 87 allows accountants to assume plan assets will continue to earn high returns, even in a down market -- thus IBM raised its assumed pension earnings from 9.5 percent in 1999 to 10 percent for 2000 and 2001, then reduced its earnings assumption back down to 9.5 percent for 2002.

The reduction will shrink the amount the pension plan contributes to earnings, but the 2002 report may still show a positive contribution.

  • Over the past two years, IBM's total pension assets plummeted $12.3 billion while its obligations rose $4.2 billion.
  • The $16.5 billion shift all but wiped out the $17.2 billion surplus of assets over obligations -- leaving the company with a narrow surplus of $687 million.
  • Yet because of assumed returns, the pension plan portfolio was able to contribute $1.3 billion to earnings to 2001.

Source: Scott Burns, "How Firms Can Pull A FAS One On Pensions," Dallas Morning News, September 24, 2002.


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