IBM freezes pension, switches to 401(k)

To save billions of dollars, Big Blue is halting contributions to its pension fund and shifting workers to an expanded 401(k).

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IBM announced major changes in its retirement plan on Thursday, freezing its pension fund and shifting employees instead to an expanded 401(k), in a move the company said would save it billions of dollars in coming years.

IBM will stop contributing to its pension fund on Dec. 31, 2007, the company said. Employee benefits from that defined benefit plan will remain fixed, instead of growing each year. At that point, it will begin a new 401(k) defined contribution plan, into which it will pay as much as 10 percent of an employee's annual salary.

The change should save $450 million to $500 million in 2006 and $2.5 billion to $3 billion for 2006 through 2010, based on current pension assumptions, IBM said. However, the technology giant expects to record a one-time $270 million charge related to the change in its fourth quarter of 2005.

"We're taking these actions to better control retirement plan expenses, position the company for business growth and competitive strength, and preserve employees' earned retirement benefits, while instituting a leading-edge 401(k) plan that will be one of the richest in the country and a standard in the United States," Randy MacDonald, IBM's senior vice president of human resources, said in a statement.

"We also believe these are prudent and balanced steps at a time of uncertainty and conflicting legislative and regulatory directions about defined benefit retirement plans in the United States."

IBM has made several changes to its retiree plans already. The company modified its pension plan in 1999, a move that led to legal battles with newer employees. Starting in 2005, new employees weren't offered a pension at all.

There are two general types of retirement plans: defined benefit plans, such as pensions, in which an employer makes payments to retirees based on factors such as years of service; and defined contribution plans, such as 401(k)s, in which employers contribute money to investments that the employee manages.

The shift away from traditional pensions is becoming common, as companies shun the uncertainties and often significant costs of pensions and try to become more competitive, said Dallas Salisbury, president of the Employee Benefit Research Institute.

"Carrying a very different cost structure than your competitors and having an element of unpredictability relative to competitors has caused many companies to move away from defined benefit plans," Salisbury said.

One problem has been that pension funds are related to unpredictable interest rates or investment returns, which mean pension-holding companies have to pay correspondingly unpredictable amounts of money into them.

"9/11 comes along and causes your pension portfolio to go down, and causes it to look like you didn't earn any money," Salisbury said. Those uncertainties are being increased by legislative changes, he added.

Another complication of defined benefit plans has been the required payments to the Pension Benefit Guarantee Corp., a federal entity established to protect pensions. IBM expected to pay $500 million to the PBGC in 2005, but because of low short-term interest rates, the company had to pay $1.2 billion for the year, the company said.

IBM's action won't affect current retirees or those who retire by Dec. 31, 2007, the company said.

Among retirees, 81 percent are expected to have the same or better benefits under the new plan, IBM spokesman Clint Roswell said. The remaining 19 percent are people in the old pension plan who were still relatively far away from retirement age, he said, and that population will receive on average 12 percent less than they would have under the old pension plan.

The new 2008 plan will have three categories of employees, Roswell said. For those with the pre-1999 pension plan, IBM will match contributions of up to 6 percent of an employee's salary and add 4 percent on top. For those in the pension plan that ran through 2004, IBM will match 6 percent and add 2 percent. For those hired in 2005 or later, it will match 5 percent and add 1 percent.

IBM's 401(k) is relatively munificent, Salisbury said. "If you focus exclusively on the relative generosity of defined contribution plans, IBM's defined contribution plans are in the top 2 to 3 percent," he said. "Among 401(k) plans, they're in the top 1 percent."

IBM's pension fund has more than $48 billion in assets, and its 401(k) plan has more than $26 billion in assets, the company said. More than 90 percent of its employees in the United States already were members of the 401(k) plan.