Article1999

Determinants of Funding Strategies and Actuarial Choices for Defined‐Benefit Pension Plans*

118 citations0/0 files storedContemporary Accounting Research

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Auditing, Earnings Management, Governance Corporate Finance and Governance Financial Literacy, Pension, Retirement Analysis

Abstract

Abstract This paper examines the effects of firms' financial and pension profiles on their funding strategies and actuarial choices. The paper uses reports filed by individual pension plans with the Department of Labor under the requirements of the Employee Retirement Income Security Act of 1974 for the analysis. Evidence reported in the paper shows that as firms become overfunded, they make conservative actuarial choices to avoid visibility costs, and that as firms become underfunded, they make liberal actuarial choices to avoid visibility costs. As the annual contributions increase relative to the permissible contribution ranges, firms make conservative actuarial choices to minimize penalties and maximize tax benefits. As the annual contributions decrease relative to the permissible contribution ranges, firms make liberal actuarial choices to minimize penalties and maximize tax benefits. The larger the profitability, cash flow from operations, and tax liability, and the smaller the debt of a firm, the higher the likelihood that the firm's managers will make conservative actuarial choices to maximize contributions. Conversely, the smaller the profitability, cash flow from operations, and tax liability, and the larger the debt of a firm, the higher the likelihood that the firm's managers will make liberal actuarial choices to minimize contributions. This evidence, which is consistent with the hypothesis of funding management, can aid the Internal Revenue Service (IRS) in regulating the defined‐benefit pension plans more effectively and help plan beneficiaries to manage their retirement portfolios more efficiently. The debiasing method developed in the paper can provide investors and creditors with the tools to identify the discretionary components of pension liabilities and thereby value firms more efficiently.

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References

1984Corporate financing and investment decisions when firms have information that investors do not have 1984Corporate Financing and Investment Decisions When Firms Have InformationThat Investors Do Not Have 1991Taxes and Business Strategy: A Planning Approach 1995Managing Financial Reports of Commercial Banks: The Influence of Taxes, Regulatory Capital, and Earnings 1995Relative versus incremental information content 1987Issues in Pension Economics 1984Financial Aspects of the United States Pension System 1994The Incremental Information Content of Earnings, Working Capital from Operations, and Cash Flows

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