Employee Retirement Plans

We maintain defined benefit pension plans for most of our employees. Most of these plans require employee contributions in order to accrue benefits. Benefits payable under the plans are based on employees’ years of service and compensation during specified years of employment. Effective December 31, 2010, we amended the USG Corporation defined benefit pension plan to replace the final average pay formula with a cash balance formula for employees hired after that date. In November 2016, we amended the U.S. pension plan to allow retirees and all terminated vested employees to take a lump-sum at all times without restriction.

We also maintain plans that provide postretirement benefits (retiree health care and life insurance) for eligible employees. Employees hired before January 1, 2002 generally become eligible for the postretirement benefit plans when they meet minimum retirement age and service requirements. The cost of providing most postretirement benefits is shared with retirees.

Upon the sale of L&W, we retained responsibility for the benefits payable to employees of L&W for the benefits accrued while employed by USG under the USG pension and postretirement plans. All L&W employees had the option to receive a lump sum benefit payment from the USG Corporation pension plan upon termination of their employment from USG. The total of the lump sum distributions made by the USG Corporation pension plan to both L&W employees and USG retirees or terminated vested employees during both 2017 and 2016 exceeded the settlement threshold and, as a result, we incurred settlement expense of $25 million and $26 million, respectively. The benefits payable to employees of L&W who did not take lump sum distributions in connection with their termination or retirement from USG are included in our benefit obligation as of December 31, 2018.

The location of the pre-tax settlement expense within our consolidated statements of income and the group of employees for which it is related is presented in the following chart. There was no settlement expense in 2018.



(millions)		2017		2016
Other income, net	USG retirees or terminated vested employees	$	12	$	11
Income (loss) from discontinued operations	Terminated employees of L&W	13		—
Gain on sale of discontinued operations	Terminated employees of L&W	—		15
Total		$	25	$	26

Additionally, as a result of the sale of L&W, we recorded a curtailment gain of $20 million for the year ended December 31, 2016 for our postretirement plan to "Gain on sale of discontinued operations" in our consolidated statement of income, for those benefits no longer accruable to the employees of L&W who were not retirement eligible or did not elect retirement upon employment termination from USG.

We previously amended our U.S. postretirement benefit plan to require retiree medical plan participants to begin purchasing individual coverage in the Affordable Insurance Exchanges or individual Medicare marketplace beginning January 1, 2016 using a company-funded subsidy. The subsidy is determined based upon years of service at retirement and Medicare eligibility. As a result of the amendments, the measurement of the accumulated postretirement benefit obligation, or APBO, was reduced and a credit to unrecognized prior service cost is being amortized into the statement of income over the average remaining service of active plan participants to retirement eligibility. This is reflected in net amortization of postretirement benefits in the table below and included in "Other income, net" in the consolidated statements of income. The subsidy provided to retirees eligible for Medicare will end December 31, 2019 at which time there will be no remaining credit to be amortized to the income statement for the unrecognized prior service cost.

The components of the pre-tax total recognized in net pension and postretirement costs and other comprehensive income are summarized in the following table:



	Pension									Postretirement
(millions)	2018			2017			2016			2018			2017			2016

Service cost of benefits earned	$	50		$	44		$	45		$	2		$	2		$	2
Interest cost on projected benefit obligation	62			61			66			5			5			6
Expected return on plan assets	(97		)	(93		)	(89		)	—			—			—
Settlement ^(a)	—			25			35			—			—			—
Curtailment	—			—			—			—			—			(20		)
Net amortization	31			22			22			(23		)	(23		)	(27		)
Net pension & postretirement cost ^(b)	$	46		$	59		$	79		$	(16	)	$	(16	)	$	(39	)

Net actuarial (loss) gain	$	(14	)	$	77		$	58		$	(15	)	$	10		$	(6	)
Net amortization	(31		)	(22		)	(22		)	23			23			27
Settlement	—			(25		)	(35		)	—			—			—
Curtailment	—			—			—			—			—			20
Deferred currency exchange	(7		)	4			2			(1		)	1			(7		)
Total recognized in other comprehensive income	$	(52	)	$	34		$	3		$	7		$	34		$	34
Total recognized in net pension & postretirement cost and other comprehensive income	$	(6	)	$	93		$	82		$	(9	)	$	18		$	(5	)


(a)	In 2016, $26 million of the settlement charge reflects the increase in lump sum benefits paid largely driven by the sale of L&W and $9 million reflected payments from our supplemental plan.

(b) Net pension costs, excluding settlement costs, includes amounts allocated to income (loss) from discontinued operations for L&W totaling a benefit of $1 million for 2018, a benefit of $1 million for 2017, and an expense of $7 million for 2016. Net postretirement benefit, excluding curtailment gain, includes a net benefit allocated to income (loss) from discontinued operations for L&W of $3 million for 2018, $1 million for 2017 and $3 million for 2016.

We use a December 31 measurement date for our plans. The accumulated benefit obligation, or ABO, for the defined benefit pension plans was $1.374 billion as of December 31, 2018 and $1.506 billion as of December 31, 2017.



	As of December 31,
(millions)	2018			2017
Selected information for pension plans with accumulated benefit obligations in excess of plan assets:
Accumulated benefit obligation	$	(35	)	$	(35	)
Fair value of plan assets	3			3
Selected information for pension plans with benefit obligations in excess of plan assets:
Benefit obligation	$	(1,568	)	$	(1,769	)
Fair value of plan assets	1,431			1,576
Selected information for postretirement plans with benefit obligations in excess of plan assets:
Benefit obligation	$	(132	)	$	(150	)
Fair value of plan assets	—			—

The following table summarizes projected benefit obligations, plan assets and funded status as of December 31:



	Pension						Postretirement
(millions)	2018			2017			2018			2017
Change in Benefit Obligation:
Benefit obligation as of January 1	$	1,770		$	1,610		$	150		$	135
Service cost	50			44			2			2
Interest cost	62			61			5			5
Settlements	—			(121		)	—			—
Participant contributions	10			9			—			—
Benefits paid	(110		)	(51		)	(6		)	(6		)
Actuarial (gain) loss	(192		)	202			(15		)	10
Foreign currency translation	(21		)	16			(4		)	4
Benefit obligation as of December 31	$	1,569		$	1,770		$	132		$	150
Change in Plan Assets:
Fair value as of January 1	$	1,577		$	1,435		$	—		$	—
Actual return on plan assets	(81		)	217			—			—
Employer contributions	56			71			6			6
Participant contributions	10			9			—			—
Benefits paid	(110		)	(51		)	(6		)	(6		)
Settlements	—			(121		)	—			—
Foreign currency translation	(20		)	17			—			—
Fair value as of December 31	$	1,432		$	1,577		$	—		$	—
Funded status	$	(137	)	$	(193	)	$	(132	)	$	(150	)
Components on the Consolidated Balance Sheets:
Noncurrent assets	$	1		$	—		$	—		$	—
Current liabilities	(7		)	(8		)	(9		)	(9		)
Noncurrent liabilities	(131		)	(185		)	(123		)	(141		)
Net liability as of December 31	$	(137	)	$	(193	)	$	(132	)	$	(150	)
Pretax Components in AOCI:
Net actuarial loss (gain)	$	369		$	421		$	(5	)	$	11
Prior service credit	—			—			(19		)	(42		)
Total as of December 31	$	369		$	421		$	(24	)	$	(31	)

For our defined benefit pension and postretirement plans, the 2018 actuarial gain of $192 million and $15 million, respectively, was primarily due to an increase in the discount rates.

ASSUMPTIONS

The following tables reflect the assumptions used in the accounting for our plans:



	Pension				Postretirement
	2018		2017		2018		2017
Weighted average assumptions used to determine benefit obligations as of December 31:
Discount rate	4.21	%	3.55	%	4.09	%	3.42	%
Compensation increase rate	3.55	%	3.54	%	N/A		N/A
Interest crediting rate	4.00	%	4.00	%	N/A		N/A
Weighted average assumptions used to determine net cost for years ended December 31:
Discount rate	3.55	%	4.02	%	3.42	%	3.90	%
Expected return on plan assets	6.55	%	6.54	%	N/A		N/A
Compensation increase rate	3.54	%	3.55	%	N/A		N/A

We no longer have significant exposure to health care cost trend rates due to the modifications we made to our U.S. postretirement health care plan to limit the increase in the annual amount we pay for retiree health care coverage for certain current and future retirees to 3% and to require retiree medical plan participants to begin purchasing individual coverage in the Affordable Insurance Exchanges or individual Medicare marketplace beginning January 1, 2016 using a company-funded subsidy based upon years of service at retirement.

For the measurement of the APBO at December 31, 2018 for our Canadian postretirement health care plan, the assumed health care cost trend rates start with a 5.92% increase in 2019, followed by a gradual decline in increases to 4% for 2046 and beyond. For the measurement of the APBO at December 31, 2017, the assumed health care cost trend rates started with a 5.95% increase in 2018, followed by a gradual decline in increases to 4% for 2046 and beyond.

RETIREMENT PLAN ASSETS

Investment Policies and Strategies: We have established investment policies and strategies for the defined benefit pension plans’ assets with a long-term objective of maintaining the plans’ assets at a level equal to or greater than that of their liabilities (as measured by a funded ratio of 100% or more of the PBO) and maximizing returns on the plans’ assets consistent with our moderate tolerance for risk. Contributions are made to the plans periodically as needed to meet funding targets or requirements. Factors influencing our determination to accept a moderate degree of risk include the timing of plan participants’ retirements and the resulting disbursement of retirement benefits, the liquidity requirements of the plans and our financial condition.

Our overall long-term objective is to achieve a 6.6% rate of return on plan assets with a moderate level of risk as indicated by the volatility of investment returns. This rate of return target was established using a “building block” approach. In this approach, ranges of long-term expected returns for the various asset classes in which the plans invest are estimated. The estimated ranges are primarily based on observations of historical asset returns and their historical volatility. In determining the expected returns, we also consider consensus forecasts of certain market and economic factors that influence returns, such as inflation, gross domestic product trends and dividend yields. We then calculate an overall range of likely expected rates of return by applying the expected asset returns to the plans’ target asset allocation. The most likely rate of return is then determined and is adjusted to account for investment management fees.

Our investment strategy is to invest in a diversified mix of asset classes in accordance with an asset allocation that we believe is likely to achieve our long-term target return while prudently considering risk. In order to manage risk, the plans’ pension and investment committees periodically rebalance the asset allocations as outlined by our investment policy statements. Our investment policy statements include glide paths which outline how our asset allocation would increase the portion of liability-hedging assets, such as fixed income, as our funded status improves in the future. This liability-driven investing approach is carried out by professional investment managers who help the committees in this process. The committees also monitor the investment performance of the individual investment managers compared to their benchmark returns and investment guidelines on an ongoing basis, in part through the use of quarterly investment portfolio reviews and compliance reporting by investment managers. The pension and investment committees also evaluate risk by periodically conducting asset/liability studies to assess the correlation of the plans’ assets and liabilities and the degree of risk in the target asset allocations. The plans limit the use of leverage to select investment strategies where leverage is typically employed, such as private equity and real estate. Certain investment managers may utilize derivatives, such as swaps, bond futures, and options, as part of their investment strategies. This is done primarily to gain a desired market exposure or manage factors such as interest rate risk or duration of a bond portfolio.

The following table shows the aggregate target asset allocation on a weighted average basis for all the plans and the acceptable ranges around the targets as of December 31, 2018.



		Investment Policy
Asset Categories	Asset Category Description	Target	Range
Equity	Institutional commingled/pooled equity funds, equity mutual funds and direct holdings of the common stock of U.S. and non-U.S. companies; equity funds and direct holdings are invested in companies with a range of market capitalizations	35%	32%-39%
Fixed income	U.S. Treasury securities, non-U.S. government debt securities such as Canadian federal bonds, corporate bonds of companies from diversified industries and mortgage-backed securities	55%	43%-66%
Limited partnerships	Investments in funds that follow any of several different strategies, including investing in distressed debt, energy development, infrastructure, and hedge funds. These investments use strategies with returns normally expected to have a reduced correlation to the return of equities as compared to other asset classes and often provide a current income component that is a meaningful portion of the investment’s total return.	5%	2%-8%
Other real assets	Primarily investments in large core, private real estate funds that directly own a diverse portfolio of properties located in the United States. It also includes an allocation to funds investing in equities of real estate and infrastructure companies	5%	2%-9%
Cash equivalents and short-term investments	Primarily short-term investment funds or registered money market funds with daily liquidity	—%	0%-5%
Total		100%

Fair Values of Plan Assets: Pension assets are classified based on the valuation methodologies and inputs used to determine the fair value as described in Note 1.

Level 1 investments include direct investments in common stocks of U.S. and non-U.S. companies that trade on liquid exchanges. These investments are valued based on the closing price on these exchanges.

Level 2 investments include primarily fixed income securities such as corporate, or government debentures, mortgage- and asset-backed securities. They are valued primarily using income and market approaches, such as pricing based on recent market transactions, and values are based on quoted prices or other observable market inputs received from data providers. Commingled funds not traded on an exchange, even though their underlying investments are common stocks traded on liquid exchanges, are also included in the Level 2 category. The net asset value of commingled funds investing in either stocks or fixed income securities is calculated by subtracting the value of any liabilities from the market value of all securities owned by a fund.

Level 3 investments include real estate, infrastructure, or direct energy investments as well as distressed securities or hedge funds. These are valued using income approach methodologies such as discounted cash flows, or market approach methodologies such as relative value (specific to equity securities), direct capitalization and comparable sales (specific to real estate investments). Some of the key inputs used to value these securities include discount rate, EBITDA multiple, yield-to-worst, yield-to-maturity, and cap rate (specific to real estate investments).

The fair values by hierarchy of inputs as of December 31 were as follows:



	Quoted Prices in Active Markets for Identical Assets (Level 1)				Significant Other Observable Inputs (Level 2)				Significant Unobservable Inputs (Level 3)				Total
(millions)	2018		2017		2018		2017		2018		2017		2018			2017
Asset Categories:
Equity:
Common and preferred stock	$	88	$	92	$	—	$	—	$	—	$	—	$	88		$	92
Commingled/pooled/mutual funds^(a)	—		—		450		553		—		—		450			553
Total equity	88		92		450		553		—		—		538			645
Fixed income:
U.S. government and agency debt securities	—		—		11		8		—		—		11			8
Non-U.S. government and agency debt securities	—		—		55		68		—		—		55			68
Investment-grade debt securities	—		—		268		334		—		—		268			334
High-yield debt securities	—		—		40		42		—		—		40			42
Commingled/pooled funds ^(a)	—		—		362		305		—		—		362			305
Mortgaged backed securities	—		—		5		1		—		—		5			1
Other	—		—		12		13		1		1		13			14
Total fixed income	—		—		753		771		1		1		754			772
Limited partnerships	—		—		—		—		83		91		83			91
Other real estate assets	—		—		16		18		35		39		51			57
Cash equivalents and short-term investments	—		—		10		14		—		—		10			14
Total	$	88	$	92	$	1,229	$	1,356	$	119	$	131	$	1,436		$	1,579
Cash on hand													1			—
Receivables													5			2
Accounts payable													(10		)	(4		)
Total													$	1,432		$	1,577


(a)	Certain investments in commingled/pooled equity funds have been classified as Level 2 because observable quoted prices for these institutional funds are not available.

A reconciliation of the change in the fair value measurement of the defined benefit plans’ consolidated assets using significant unobservable inputs (Level 3) between January 1, 2017 and December 31, 2018 is as follows:



(millions)	Fixed Income		Other Real Estate Assets			Limited Partnerships			Total
Balance as of January 1, 2017	$	1	$	38		$	103		$	142
Realized losses	—		1			15			16
Unrealized gains	—		2			(1		)	1
Purchases, sales and settlements:
Purchases	—		—			9			9
Sales	—		(2		)	(35		)	(37		)
Settlements	—		—			—			—
Net transfers into (out of) Level 3	—		—			—			—
Balance as of December 31, 2017	$	1	$	39		$	91		$	131
Realized gains	—		1			4			5
Unrealized gains (losses)	—		1			(8		)	(7		)
Purchases, sales and settlements:
Purchases	—		—			14			14
Sales	—		(6		)	(18		)	(24		)
Settlements	—		—			—			—
Net transfers into (out of) Level 3	—		—			—			—
Balance as of December 31, 2018	$	1	$	35		$	83		$	119

CASH FLOWS

We are evaluating our level of funding for pension plans and currently estimate that we will contribute approximately $62 million to our pension plans in 2019. Our cash payments for postretirement plans are estimated to be $9 million in 2019.

Total benefit payments we expect to make to participants, which include payments funded from USG’s assets as well as payments from our pension plans' assets, are as follows (in millions):



Years ended December 31	Pension Benefits		Postretirement Benefits
2019	$	115	$	9
2020	117		8
2021	114		8
2022	117		8
2023	121		8
2024 - 2028	581		40

DEFINED CONTRIBUTION PLANS

Total charges for our defined contribution plans amounted to approximately $12 million, $8 million and $5 million for the years ended December 31, 2018, 2017 and 2016, respectively. USG’s contributions are charged to cost of products sold and selling and administrative expenses.