CUMMINS INC. AND CONSOLIDATED SUBSIDIARIES
NOTES TO CONSOLIDATED FINANCIAL STATEMENTS

NOTE 11. PENSION AND OTHER POSTRETIREMENT BENEFITS

Pension Plans

   We sponsor several contributory and noncontributory pension plans covering substantially all employees. Generally, hourly employee pension benefits are earned based on years of service and compensation during active employment while future benefits for salaried employees are determined using a cash balance formula. The level of benefits and terms of vesting, however, may vary among plans. Pension plan assets are administered by trustees and are principally invested in equity securities and fixed income securities. It is our policy to make contributions to our various qualified plans in accordance with statutory funding requirements and any additional contributions we determine are appropriate.

Other Postretirement Benefits

   Our postretirement benefit plans provide various health care and life insurance benefits to eligible employees, who retire and satisfy certain age and service requirements, and their dependents. The plans are contributory and contain cost-sharing features such as caps, deductibles, coinsurance and spousal contributions. Company contributions are limited by formulas in each plan. Retiree contributions for health care benefits are adjusted annually and we reserve the right to change benefits covered under these plans. There were no plan assets for the postretirement benefit plans as our policy is to fund benefits and expenses for these plans as claims and premiums are incurred.

Adoption of SFAS 158

   On September 29, 2006, SFAS No. 158, ‘‘Employers’ Accounting for Defined Benefit Pension and Other Postretirement Plans’’ was issued. SFAS 158 required, among other things, the recognition of the funded status of each defined benefit pension plan, retiree health care and other postretirement benefit plans on the balance sheet. Each overfunded plan is recognized as an asset and each underfunded plan is recognized as a liability. The initial impact of the standard due to unrecognized prior service costs or credits and net unrecognized actuarial gains or losses as well as subsequent changes in the funded status was recognized as a component of accumulated other comprehensive loss in shareholder’s equity. Additional minimum pension liabilities (AML) and related intangible assets were also reversed upon adoption of the new standard. SFAS 158 required initial application for fiscal years ending after December 15, 2006. We adopted SFAS 158 as of December 31, 2006, except for the provision requiring companies to measure plan assets and liabilities as of the end of a fiscal year which is not effective until 2008. We will adopt the measurement date change effective January 1, 2008. The following table summarizes the effect of required changes in the AML as of December 31, 2006, prior to the adoption of SFAS 158 as well as the impact of the initial adoption of SFAS 158.

   As it relates to pension benefits, the AML was eliminated upon the adoption of SFAS 158. The estimated accumulated benefit obligation (ABO) related to the U.S., U.K. and several other smaller pension plans exceeded the fair value of the plan assets as of December 31, 2006. Prior to adopting SFAS 158, a decrease in the AML resulted in a $102 million credit (after tax and minority interest) to shareholders’ equity in 2006. The net impact to shareholder’s equity, including foreign currency translation effects, was $81 million. The adoption of SFAS 158 for pensions resulted in a net charge to shareholders’ equity of $91 million, including $4 million of foreign currency translation effects. The net charge to shareholders’ equity at December 31, 2006, as a result of the decrease in the AML and the adoption of SFAS 158 was $10 million. For postretirement benefits, the adoption of SFAS 158 resulted in a charge to shareholders’ equity of $3 million.

Obligations, Assets and Funded Status

   We use a November 30 measurement date for our U.S. and non-U.S. plans for both pension and other postretirement benefit plans. The following tables present the changes in the benefit obligations and the various plan assets, the funded status of the plans, and the amounts recognized in our Consolidated Balance Sheets for both our significant pension and other postretirement benefit plans. Non-U.S. plans in 2007 represent plans sponsored in the U.K., while 2006 non-U.S. plans represented primarily the U.K. and several insignificant plans in three other countries. Benefit obligation balances presented below reflect the projected benefit obligation (PBO) for our pension plans and accumulated postretirement benefit obligations (APBO) for our other postretirement benefit plans.

The accompanying notes are an integral part of the Consolidated Financial Statements.