The impact of taxation on U.S. defined benefit pension policy

This dissertation explores the impact of taxation on the U.S. defined benefit (DB) pension policy. Tax incentives are known to be an important driver of DB policy, as DB plans in the United States offer important tax benefits—contributions to DB plans can be fully deducted from the sponsor’s taxable income within certain limits, and all earnings within the pension fund are tax-exempt. In the first two chapters, I use the recent tax reform in the U.S., the Tax Cuts and Jobs Act of 2017 (TCJA), to explore how changes in tax incentives affect DB pension policy in the private sector. The first chapter examines the impact of the TCJA on corporate DB pension funding policy. The TCJA’s reduction of the corporate tax rate from 35% to 21% reduces the tax benefits to pension contributions. Using a hand-collected, comprehensive sample of U.S. pension sponsors, I document a substantial surge in taxpaying firms’ voluntary contributions to DB plans in the “window of opportunity” that existed between the TCJA’s passage and its new, lower tax rate going into effect. I find that taxpaying firms increase their voluntary contributions significantly more than non-taxpaying firms. I estimate total TCJA-triggered contributions at $13.7-$37.9 billion. This chapter contributes to the literature exploring the effects of taxation on DB pension funding and the literature analyzing the effects of the TCJA on corporate actions. The second chapter examines whether the TCJA acted as a driver of pension de-risking. Corporate DB pension sponsors in the U.S. have begun to consider de-risking their pension plans. Sponsors can de-risk plans by moving pension assets away from equities and towards fixed-income investments that better match the obligations, or by transferring obligations off their balance sheets entirely. Examining behavior in the window between the TCJA’s announcement and its lower tax rate going into effect, I document that the sponsors with stronger incentives to de-risk pensions tend to contribute more into their plans in that window, when deductions can still be taken at the higher tax rate. The larger contributors are much more likely to achieve near-full funding post-TCJA (which allows for de-risking to proceed). Examining behavior after the TCJA goes into effect, the larger contributors engage in more de-risking – they (i) make economically significant shifts in asset allocation toward safer investments, and (ii) transfer obligations to insurance companies (through settlements) or to beneficiaries (through lump-sum payouts). In summary, my findings point to the TCJA having triggered a permanent reorganization of the DB pension landscape in the U.S. In the third chapter, I examine how DB pension plans fit into the larger framework of sponsoring firms’ tax avoidance strategies, bringing together the emerging literature on tax aggressiveness and the literature on pension funding. In 2010, the Internal Revenue Service (IRS) mandated disclosure of uncertain tax positions on Schedule UTP, which significantly increased the threat of an IRS audit. Using Schedule UTP as a setting in which IRS scrutiny suddenly increased, I examine whether firms increased the use of pension contributions, the permissible tax deductions that are encouraged by the tax code, to reduce their tax burdens in response to rising IRS scrutiny. I find that firms increased contributions to their DB plans after the introduction of Schedule UTP. Moreover, firms expected to be relatively more affected by Schedule UTP demonstrated larger increases. However, I fail to find a negative relationship between unexpected pension contributions and changes in tax reserves accrued for uncertain tax positions, indicating that tax reserves reported in the financial statements may not be able to gauge the tax benefits from aggressive tax avoidance strategies. My findings provide evidence that firms lean towards permissible tax deductions that generate little or no tax uncertainty when IRS monitoring increases.Ph.D.Includes bibliographical reference