Airline Pilot Central

This article is the first part in a two-part series on airline pilot retirement plans. It is written from a pilot's perspective.

In this first part, Defined Contribution plans-- more popularly known as "B plans"-- are discussed.

The article's author, Jim Magner, has extensive experience negotiating pilot retirement benefits as the retirement committee chairman for the IPA, as well as the chief negotiator for the IPA during Contract 2006 negotiations. 

As we are all aware, airline pilot retirement plans are changing because of unprecedented attack on our retirements over the last twenty years.

One of the great challenge for unions representing pilots in the coming years will be to rethink our retirement arrangements in light of these developments. This article will give a brief explanation of pensions, with an overview of B plans.

Types of retirement plans

Retirement plans come in two types: defined benefit plans, often referred to as "A Plans" in the airline industry, and defined contribution plans, often referred to as "B Plans."

Defined benefits plans are the traditional kind of retirement plans. When you retire you receive an income stream for the remainder of your life. As the name implies, the benefit is what you earn. The plan sponsor, the company, must contribute however much is required to fund that benefit. Another way of saying this is that the airline takes all of the investment risk with defined benefit plans.

Defined contribution plans are the other kind of retirement plan. The contribution, the money put into the plan by the company, is what is defined with these plans. The success or failure of the investments that are purchased with the contributions will determine the amount of the benefit. The employee takes all the investment risk with these plans. 401k plans are an example of defined contribution plans. Airline B plans are also defined contribution plans. Their proper name is Money Purchase Pension Plans, or MPPP.

We can also divide plans into qualified and non-qualified plans. Qualified in this context means qualified under the federal tax code. Defined benefit plans and defined contribution plans such as 401k plans and MPPPs are all examples of qualified plans.

Qualified plans receive favorable treatment and additional protections under the tax code. For example, qualified plans are protected against the claims of creditors of a corporation in a bankruptcy filing. However, since they receive favorable tax treatment under the federal tax code, Congress places limits on the amount of funds that can be placed into qualified plans.

Non-qualified plans are less desirable than qualified plans because of their less desirable tax treatment and lower level of protection. Highly paid executives who have already hit the limits of their qualified plans are the primary recipients of non-qualified plans.

Plan designers generally try to maximize the qualified plans before turning to non-qualified plans. Non-qualified plans are typically used to catch the spill over of funds that can not be put into qualified plans. Pilot retirement plans today are almost all qualified plans, though many contain provisions to fund non-qualified plans if government limits are exceeded. For example, Congress could lower the allowable pension limits. In such an instance we would want to capture those funds with a non-qualified plan.

Defined Contribution Plans (B plans)

Let's start with defined contribution plans. They are the easiest to understand. In a MPPP (B plan) or a 401k plan the company puts money into the plan based on some formula. Typically it is a percentage of your salary (in the case of the MPPP) or a percentage of your contribution (in the case of a 401k plan) with a company match. The pilot is given certain investment options to invest the funds in and when reaching retirement he can roll those funds over into an IRA or purchase an annuity with the funds.

The great advantage of this type of plan is that money is fully vested and fully funded as soon as it is deposited in the account. Unlike defined benefit plans, no pilot has had a dollar lost in a defined contribution plan during an airline bankruptcy.

There are also disadvantages. The government limits the amount of money that can be contributed to DC plans. The tax code is filled with different limits on pension contributions, but you should be familiar with two of them. The first is that you can contribute no more than $45,000 to all Defined Contribution (DC) plans combined in the current calendar year (2007). The second is that no contribution can be based on a salary in excess of $225,000. These limits are adjusted for inflation through the tax code, usually on a yearly basis.

For example, in our current contract at UPS we were able to negotiate a 12% contribution on all wages up to the government limit. On this year's limit of $225,000, 12% yields a contribution of $27,000. Most captains have W-2's exceeding $225,000, but they cannot count those excess wages above $225,000. In addition, the pilot can contribute $15,500 in 2007 to his 401k plan (we do not have a 401k match in our contract). If we add the $15,500 and the $27,000 we have a total of $42,500-- just under the $45,000 limit allowed under the law. By the way, the extra $5,000 to the 401k plan that can be contributed by those age 50 and older does not count against the $45,000 limit.

My experience in talking to pilots is that they tend to seriously overestimate the degree of financial success they are likely to obtain. I have had more than one pilot tell me that they can obtain 25% or 30% per year in their investment returns. It is possible that we might have returns like this in any one-year, but returns like this are almost impossible to achieve over the long run. Peter Lynch did about 29% per year in 13 years at the Magellan fund. Warren Buffet had a similar run in some of his early partnerships over a similar time span, but as time goes on we live through up and down markets. Over long time frames returns tend to revert to the mean.

For example, Sir John Templeton, another one of our modern investment titans, did a little over 13% per year over a 50 year period in his growth fund beating the S&P 500 by about 2% per year. Let me suggest that if you can obtain anything beyond 10% to 12% per year on consistent long-term basis that you are wasting your time piloting aircraft. Riches beyond your dreams await a person with your skills on Wall Street. Anything more than 10% per year over the long term is probably a pipe dream. 8% per year is probably more realistic. Remember most professional investment managers do not beat the stock market averages.