In DB plans, formulas set by the employer determine employee benefits. DB plan formulas vary widely, but benefits are frequently based on participant pay and years of service, and typically paid upon retirement as a lifetime annuity, or periodic payments until death. Because DB plans promise to make payments in the future, and because tax-qualified DB plans must be funded, employers must use present value calculations to estimate the current value of promised benefits. The calculations require making assumptions about factors that affect the amount and timing of benefit payments, such as an employee’s retirement age and expected mortality, and about the expected return on plan assets, expressed in the form of an interest rate. The present value of accrued benefits calculated using mandated assumptions is known as a plan’s “current liability.” Current liability provides an estimate of the amount of assets a plan needs today to pay for promised benefits. Before the enactment of ERISA, few rules governed the funding of DB pension plans, and participants had little assurance that they would receive the benefits promised. ERISA, and several amendments to the law since its passage, established minimum funding requirements for sponsors of pension plans in order to try to ensure that plans contain enough assets to pay promised benefits. In principle, a sponsor must annually fund the amount required to fund the plan’s “normal cost,” the amount of earned benefits allocated during that year, plus a specified portion of other liabilities that may be amortized over a period of years. Compliance with the minimum funding requirements is recorded through the plan’s funding standard account (FSA). The FSA tracks events that affect the financial health of a plan during that plan year: credits, which reflect improvements to the plan’s assets, such as contributions, amortized experience gains, and interest; and charges, which reflect an increase in the plan’s financial requirements, such as the plan’s normal cost and amortized charges such as the initial actuarial liability, experience losses, and increases in a plan’s benefit formula. If FSA credits exceed charges in a given plan year, the plan’s FSA registers a net “credit balance” that may be carried forward to the next plan year; conversely, a prior year’s funding deficiency also carries forward. The FSA credit balance at year-end is equal to the FSA credit balance at the beginning of the year plus FSA credits less FSA charges. Compliance with the minimum funding standard requires that the FSA balance at the end of the year is non-negative. An existing credit balance accrues interest and may be drawn upon to help satisfy minimum funding requirements for future plan years, and therefore may offset the need for future cash contributions. ERISA and the IRC prescribe rules regarding the assumptions that sponsors must use to measure plan liabilities and assets. For example, for plan years 2004 and 2005, the IRC specifies that the interest rate used to calculate a plan’s current liability must fall within 90 to 100 percent of the weighted average of the rate on an index of long-term investment-grade corporate bonds during the 4-year period ending on the last day before the beginning of the plan year. Similarly, rules dictate that sponsors report an “actuarial” value of assets that must be based on reasonable assumptions and must take into account the assets’ market value. This value may differ in any given year, within a specified range, from the current market value of plan assets, which plans also report. While different assumptions will change a plan’s reported assets and liabilities, sponsors eventually must pay the amount of benefits promised; if the assumptions used to compute current liability differ from the plan’s actual experience, current liability will differ from the amount of assets actually needed to pay benefits. Funding rules generally treat a plan as an ongoing entity, and plans do not necessarily have to maintain an asset level equal to current liabilities every year. However, the funding rules include certain mechanisms that are intended to keep plans from becoming too underfunded. One such mechanism is the AFC, introduced by the Omnibus Budget Reconciliation Act of 1987 (OBRA ‘87). The AFC requires sponsors of plans with more than 100 participants that have become underfunded to a prescribed level to make additional plan contributions in order to prevent funding levels from falling too low. With some exceptions, plans with an actuarial value of assets below 90 percent of current liabilities are affected by the AFC rules. The rules for determining the amount of the AFC are complex, but they generally call for sponsors to pay a percentage of their unfunded liability. Under current law, plans that owe an AFC may still apply FSA credits to meet their funding obligation and therefore may not be required to satisfy the AFC with a cash contribution. In addition to setting funding rules, ERISA established PBGC to guarantee the payment of the pension benefits of participants, subject to certain limits, in the event that the plan could not. Under ERISA, the termination of a single-employer DB plan may result in an insurance claim with the single-employer program if the plan has insufficient assets to pay all benefits accrued under the plan up to the date of plan termination. PBGC may pay only a portion of a participant’s accrued benefit because ERISA places limits on the PBGC benefit guarantee. For example, PBGC generally does not guarantee benefits above a certain amount, currently $45,614 annually per participant at age 65. Additionally, benefit increases arising from plan amendments in the 5 years immediately preceding plan termination are not fully guaranteed, although PBGC will pay a portion of these increases. Further, PBGC’s benefit guarantee is limited to the monthly straight life annuity benefit the participant would receive if she were to commence the annuity at the plan’s normal retirement age. Sponsors of PBGC-insured DB plans pay annual premiums to PBGC for their coverage. Premiums have two components: a per participant charge paid by all sponsors (currently $19 per participant), and a “variable-rate” premium that some underfunded plans pay based on the level of unfunded benefits. Despite the presence of minimum funding rules and the AFC, plan underfunding has persisted. In recent years, the level of total plan underfunding has increased rapidly, from about $39 billion in 2000 to an amount estimated to exceed $450 billion as of September 30, 2004. While the single-employer program has over $39 billion in assets to pay benefits in the near term, it already faces liabilities of over $62 billion. Thus, there is concern that the expected continued termination of large plans by bankrupt sponsors will push the program more quickly into insolvency, generating greater pressure on the Congress, and ultimately the taxpayers, to provide PBGC financial assistance to avoid reductions in guaranteed payments to retirees. Because of concerns about the long-term viability of the single-employer program, as illustrated by its growing accumulated deficit (see fig. 1), in July 2003 we placed the program on GAO’s high-risk list of agencies and programs that need broad-based transformations to address major challenges. In October 2003, we identified several categories of reform that the Congress might consider to strengthen the program over the long term. We concluded that the Congress should consider comprehensive reform measures to reduce the risks to the program’s long-term financial viability. These suggested reforms included strengthening funding rules, along with possibly modifying program guarantees; restructuring PBGC premiums; improving the transparency of plan and program information; and certain other reforms. GAO has a statutory responsibility for auditing the overall financial position of the executive branch of the U.S. government. In a recent report, we describe the serious challenges facing the nation from current fiscal policies that, if unchecked, will lead to large, escalating, and unsustainable budget deficits. This fiscal challenge stems in part from increasing obligations of retirement-related programs like Social Security, which faces long-term financial insolvency because of increased life expectancy. Improvements in life expectancy have extended the average amount of time spent by workers in retirement, from 11.5 years in 1950 for the average male worker to 18 years as of 2003. In February 2005, the Administration proposed several measures designed to strengthen funding for single-employer DB pension plans. The main elements of reform include (1) reforming the funding rules to ensure that sponsors keep their retirement promises; (2) improving disclosure to workers, investors, and regulators about pension plan status; and (3) reforming premiums to better reflect a plan’s risk and restoring the PBGC to financial health. The Administration asserts that such changes would shore up the structural problems in the DB system and strengthen the system’s financial health. From 1995 to 2002, while most of the 100 largest plans had sufficient assets to cover their plan liabilities, many did not. On average, each year 39 of these plans were less than 100 percent funded, and 10 had assets below 90 percent of their current liabilities. Reported funding levels for the group generally were stable and strong from 1996 to 2000, but they worsened somewhat in 2001 before deteriorating noticeably in 2002. Furthermore, because of leeway in the actuarial methodology and assumptions sponsors may use to measure plan assets and liabilities, underfunding may actually have been more severe and widespread than reported at the end of the period. Because of flexible funding rules permitting the use of accounting credits other than cash contributions to satisfy minimum funding obligations, on average 62.5 of the 100 largest plans each year received no cash contributions from their sponsors, including 41 percent of plans that were less than 100 percent funded. The 100 largest plans each year from 1995 to 2002 contained mostly well- funded plans. However, on average 39 of these plans each year were less than 100 percent funded; that is, for these plans, current liabilities exceeded the reported actuarial value of assets in the plan. An average of 10 plans each year had asset levels below 90 percent of their current liability, and 3 plans were less than 80 percent funded (see fig. 2).