Retirement Plan Blog

11 | 14 | 2011 Posted By Jerry Kalish

The recent, premature death of Steve Jobs brought the concept of entrepreneurship back into our economic lexicon.

Tim Kane wrote about Steve Jobs after his retirement, but before his death, in Growthology, the blog created by the Kaufmann Foundation of Entrepreneurship, said:

The American economy has been the strongest in the world for nearly a hundred years.  Its growth has been built on the innovations of great entrepreneurs like Henry Ford and the Wright brothers. Thanks to the boomer entrepreneurs, that legacy has been reaffirmed.  Best of all, we now know that hard work and competitiveness are what matter, not class. Jobs represents the triumph of intelligence, of merit, over fate. You could not script the American dream with a more compelling central character.

But it's not just the American economy that has been positively impacted by entrepreneurial enterprise. Entrepreneurship has gone global.

The spotlight on a global effort to promote entrepreneurial activity to foster innovation and create jobs takes place this week starting today, November 14 and ending November 20 under the umbrella Global Entrepreneurship Week (GEW). The URL, by the way, is fittingly, www.unleasingideas.org. 

GEW is the world’s largest celebration of the innovators and job creators. This initiative, launched in 2008 by former UK Prime Minister Gordon Brown and Carl Schramm, the president and CEO of the aforementioned Kauffman Foundation, now involves 115 countries with nearly 24,000 partner organizations planning more than 37,000 activities that directly engage more than 7 million people.

That it's a global movement is evidenced by the book pictured above, The Entrepreneur's Guide to Building and Selling A Business, that was recently published in the U.K. I spoke to the author, Guy Rigby, last week via Skype.

Guy said that that he's directed his book to those business owners who understand that it takes more than a great idea for their businesses to have long-term success. He knows of what he speaks.

Guy is a chartered accountant (the U.K equivalent of our CPA). He's has had an unusually varied career as a business owner, advisor to entrepreneurs, and someone who has built and sold his owner accountancy firm. He now heads up the entrepreneurial services group at Smith & Williamson, a diversified financial services group based in the U.K.

Guy says in the Introduction that

These experiences have driven me to write this book. It's not just a book for start-ups, although much of its content is relevant to them. It's main purpose is to help established businesses - those that have already overcome the initial obstacles of foundation. It recognizes that if you want to build a great business, there are a host of things you'll need to control and do better than anyone else. 

Guy's book provides a road map to building a great business. There's no short-cuts to this goal, but his book can help cut down the number of  potholes, the detours and the tolls.

10 | 21 | 2011 Posted By Jerry Kalish

Each year the Internal Revenue Service announces the cost-of-living adjustments applicable to qualified retirement plans for the following year. Unlike 2001 in which most limits did not change from the prior year, most limits increased:

Following are the key retirement plan limits announced yesterday by the IRS:

• The 401(k) and 403(b) limit for employee contributions increases to $17,000 from $16,500.
• The catch-up contribution limit for participants age 50 and older remains the same at $5,500.
• The maximum allocation to a defined contribution plan increases to $50,000 from $49,000.
• The maximum annual benefit payable from a defined benefit pension plan increases to $200,000 from $195,000.
• The maximum annual compensation that can be recognized for retirement plan purposes increases to $250,000 from $245,000.
• The threshold compensation for Highly Compensated Employee increases to $115,000 form $110,000.

Here is a link to our chart listing all the retirement plan limits for 2012 compared to 2011.

10 | 16 | 2011 Posted By Jerry Kalish

That’s a map of the New World circa 1540 by Sebastian Munster, a German cartographer. It depicts the European view about the New World and especially North America.

It’s my visual metaphor about where the 403(b) and 457 markets are now – almost three years after the final regulations became effective January 1, 2009.

The final regs have become the focal point for a new and rapidly changing 403(b) and 457 world.  One in which the Old was a 40-plus year old environment characterized by limited employer involvement done on a retail basis. The New is becoming one with ERISA-like best practices in an institutional setting.

That was the theme of my presentation on October 7, 2011, a part of the course at John Marshall Law School, L.L.M. in Employee Benefits Program, “Non-Traditional Retirement Programs", which follows:  

John Marshall Law School 403(...

This was year three of this program which has been organized and led by attorney Bob Toth who regularly comments on 403(b) and other retirement plans on his blog, The Business of Benefits.

10 | 10 | 2011 Posted By Jerry Kalish

My blogging buddy security lawyer Bill Singer on his blog, Broke and Broker, An Irreverent Wall Street Blog (always a good read), posts frequently about investment scams and scoundrels. In one of his latest, Bill writes that Feds Bust Bank Guarantee Scam.

But the Feds don’t have the manpower and resources to get to all of the $40 billion a year that the FBI says investors lose to fraud. In other words, watch out, you’re on your own.

So how do you go about protecting yourself?  Educate yourself, and here's an excellent starting point.

It's Pat Huddleston's recently published book pictured above, THE VIGILANT INVESTOR: A Former SEC Enforcer Reveals How To Fraud Proof-Your Investments.

Intriguing title, eh? But before I tell you about the book itself, let me tell you a little about Pat and how this book came to be written.

After leaving the U.S. Securities and Exchange Commission where he was an Enforcement Branch Chief, Pat was a private attorney for ten years representing defrauded investors. As Pat tells it in the Introduction, he closed his law practice in July 2006 after meeting with a 70-year old man who lost his entire savings in a Ponzi scheme. But since the con man had no assets to go after, chances for recovery were slim.

So says Pat, that was when he launched Investor's Watchdog, LLC, a firm providing investment protection services to investors and subsequently acting as court-appointed receivers in SEC fraud cases.

Pat's experience and writing style has resulted in a book from which investors can learn how to better protect themselves. He uses real stories and provides checklists in his book organized in two easily readable sections:

• PART 1: The Wide World of Fraud: First Steps and Advanced Tactics on the Path to Vigilant Investing
• PART 2: The Securities Industry: Hunting the Wolf with the Million-Dollar Smile

It's not just seniors that are vulnerable, of course. Retirement plans can be at risk also. In fact, Pat estimates that approximately 20% of investment fraud is perpetrated against retirement plans including small plans.

Attorney and Susan Wynn wrote about that very subject in February 2009 in her post, Madoff Victims Include Small Pension Plans. Note her comment about the efficacy of the enforcement agencies:

One of the interesting points of the Madoff story when it comes to retirement and pension plans is that none of the 4 governmental agencies which regulate and audit retirement and pension plans saw Madoff coming.

So if you're a fiduciary of a retirement plan, in addition to Pat's book, there are other resources available. Here's an excellent one, the webcast, Fiduciary Lessons Learned from Scoundrels and Thieves presented in 2009 by Blaine Aikin and Rich Lynch, CEO and COO respectively of fi360.

10 | 3 | 2011 Posted By Jerry Kalish

Let me introduce you to the “ERISA Account”, a relative newcomer to the small 401(k) plan market. It’s been part of the large and medium plan market for some time. Only recently has it migrated down stream because of (yes, you guessed it) the increased regulatory emphasis and fiduciary attention to fee disclosure.

Overview

ERISA Accounts are sometimes referred to as “ERISA Budget Accounts”, “ERISA Expense Accounts, “Expense Recapture Account”, or “Revenue Sharing Account”. We use the term ERISA Account because it succinctly describes the essence of what it is:

A plan level account that captures excess income collected by the recordkeeper that can be used to pay eligible plan expenses or even allocated to participants.

Let’s separate this discussion into its elements: 1) where the income comes from, and 2) how it can be used.

Where the Income Comes From

A mutual fund charges a fee that encompasses all the various fees that a participant is charged to invest in the particular fund. It's usually referred to as the Expense Ratio. In addition to the management fee charged by the fund manager to manage the fund assets, the Expense Ratio may include:

• 12(b)(1) Fee: the fee paid by the mutual fund to a 401(k) provider or broker for including in it in the plan and servicing it after the sale.
• Sub Transfer Agent (Sub-TA) Fees: the fee paid by the fund when it subcontracts the participant accounting to transfer agents, e.g., bank or trust company, to execute, clear, and settle trades, and maintain shareholder ownership records. These organizations are called Sub-Transfer Agents.
• Provider Compensation: the fee paid by the fund to the service provider, sometimes referred to as Revenue Sharing, for administrative or contract owner or participant services provided on behalf of the fund.

The Expense Ration is usually stated as a percentage of assets under management, and is netted from mutual fund performance rather than being paid directly by the plan.

How the Income Can Be Used

At some point, the income received by the recordkeeper becomes excessive, i.e., more revenue that is needed to run the plan, and can be used to pay plan level expenses or reallocated to participants.

Plan Expenses

The expenses that can be paid by the plan are part of that ERISA basic: a fiduciary must “act for the exclusive purpose of providing benefits to plan participants and defraying reasonable expenses of administering the plan.”

The Department of Labor says that reasonable administrative expenses could include:

• Plan amendments required by change in law
• Plan amendments necessary to maintain tax qualified status
• Nondiscrimination testing
• Recordkeeping
• Plan accounting
• Preparation of Form 5500

Plan assets, however, cannot be used for “Settlor Functions”, i.e., those expenses that are for the benefit of the employer. Settlor Expense could include:

• Studies of options for amending plan to maintain tax qualified status or for meeting new legal requirements
• Terminating plan
• Testing to explore plan design
• Union negotiations about plan provisions

The Department of Labor also permits participants to be charged for the reasonable cost of transactions attributable to individual participants, e.g., loans, QDROs, hardship withdrawals, calculations to determine benefits under various distribution alternatives, and benefit distributions.

Allocation to Participants

In addition to paying for reasonable plan expenses, funds in an ERISA Account may be reallocated to participant accounts pro-rata based on their account balances at the end of the year, or on a per capita basis. Note, however, that funds must be used by the end of the plan year. They cannot be rolled over to another plan year, or returned to the employer.

Plan Documentation

As with all things ERISA, there has to be proper documentation. Best practices would be to specifically state in the plan document that the plan may pay reasonable operating expenses, reflect that in the Summary Plan Description or Material Modification thereof, and have a written Expense Policy.

Conclusion

Not all 401(k) plans will see excess income that can be used in an ERISA Account. However, as we move more into the “Age of Transparency”, expect to see ERISA Accounts more prevalent in the small plan market. And what’s a “small plan’? We’ve seen $1 million plans with ERISA Accounts. 

08 | 11 | 2011 Posted By Jerry Kalish

If you’re a Bon Jovi fan, you’ll recognize the expression in the headline, “The More Things Change, The More They Stay The Same”. It's Track 12 on Disc 2 of their album, Bon Jovi Greatest Hits - The Ultimate Collection. 

But, of course, that’s not Jon pictured here. It’s Jean-Baptiste Alphonse Karr (November 24, 1808 – September 29, 1890), a French critic, journalist, and novelist, to who was attributed the epigram, "plus ça change, plus c'est la même chose" which usually translates to "the more things change, the more they stay the same”.

Never heard of Monsieur Karr? Well, he's actually got a Facebook page.

So you’re asking, what this has to do with balance forward plans? You may also be asking what exactly is a balance forward plan? 

Let me fast forward to the bottom line (literally and figuratively).

If you’re a plan sponsor or a 401(k) plan participant, today’s investment climate is not a good time to be part of one.

Let me explain why.

Balance Forward is an industry term given to those original participant directed 401(k) and profit sharing plans, many of which are still around. Unlike the more common daily valuation plans, participants’ accounts are valued monthly, quarterly or annually. After all the balance forward plan accounting takes place, it can be 4-8 weeks after the valuation date before participants receive statements.

What’s the problem you might ask? Let’s hearken back to November, 2008 at which time I blogged, Balance Forward 401(K) Plans: Someone's Gotta Win, Someone's Gotta Lose and Balance Forward Plans Revisited.

Now consider these two alternative scenarios of a participant in a balance forward plan with a $50,000 account balance as of September 30, 2008. The participant receives a distribution for $50,000 on November 1, 2008, but between September 30 and the distribution date, the plan lost 20%. Thus, the plan - which is to say - all the remaining participants had to eat the $10,000 loss.

But say, instead of October, 2008 being October 2008, the plan's assets increased by 20%. That  participant receives the same $50,000 distribution, but only the remaining participants share in the $10,000 gain.

See the problem.

So now here we are again today (“the more things change, the more they stay the same”), when there could be a decided difference between the June 30, 2011 valuation and September 30, 2011 valuation.

What’s the solution? Maybe balance forward plans should provide for interim valuations. But with all matters ERISA, there are complicated legal, tax, fiduciary and human resource issues involved. No easy answers, but definitely a situation that should be discussed with advisors. In the meantime, here is an excellent discussion of the issues involved by Sungard Relias, Interim Valuations in a Falling Market – It’s déjà vu all over again.

Now daily valuation isn't perfect either, but …… 

Photograph above: Woodburytype circa 1870s. Photo by Antoine Samuel Adam-Salomon.

08 | 3 | 2011 Posted By Jerry Kalish

The answer is obvious. Both can be difficult and often impossible to understand.

Modern art enthusiasts do have help. They can turn to the Understand Modern Art instantly Breath Spray as shown here from the website Photography Uncapped.

Unfortunately, there is no such canned (pardon the pun) explanation to help communicate a defined benefit plan to employees. Hence, no surprise with the results of a recent Fidelity survey conducted online by Versta Research, an Evanston, IL based market research and public opinion polling firm.

The 506 respondents who were participants in both current and frozen defined benefit pension plans indicated that:

• 31% don’t know their plan’s vesting schedule.
• 40% percent don’t know what their distributions will be at retirement.
• 27% don't know don’t know at what age they can begin to receive payments.

That's what they said they don't know. I can tell you directly from working with defined benefit pension plans for more than a few years, it's just the tip of the iceberg. So let's approach it from the standpoint of what employees need to know about their defined benefit pension plan. Here are some of the basics:

Type of Plan

1. The plan is funded by the employer and promises to pay a participant a specific benefit at retirement.
2. If the Plan is covered by the Pension Benefit Guaranty Corporation (PBGC), a certain amount of retirement benefits are guaranteed if the if the plan is terminated without enough money to pay all of the promised benefits.
3. There is no PBGC coverage for for defined contribution plans such as 401(k).

Plan Provisions

1. When an employee becomes eligible..
2. How benefits accrue (accumulate).
3. How benefits vest (become non-forfeitable).
4. When distributions can be taken.
5. What distribution options are available.
6. Whether benefits can be reduced or the plan terminated.

It's obviously a more difficult and complicated employee education process than for 401(k) plans. Instead of explaining 401(k) concepts like dollar cost averaging, compounding, and asset allocation, employee education programs have to deal with more esoteric concepts like actuarial equivalence, joint and survivor, and the plan's funded status.

Nonetheless, the effort has to be made so that employees can understand when and how much monthly retirement income they could expect and to factor that into their personal planning. That is, of course, for those still fortunate to be part of a defined benefit pension plan.

E-Commerce Note: Lest you think I was joking about the Understand Modern Art instantly Breath Spray, it's available online from Hyatt's All Things Creative. But suffice it to say, you're on your own.

07 | 22 | 2011 Posted By Jerry Kalish

That’s the album cover of the original Broadway cast recording of the 1965 musical, On a Clear Day You Can See Forever (which subsequently went on to become a movie starring Barbara Streisand in 1970 and which will be returning to Broadway starring Harry Connick, Jr. this Fall).

It’s the story of clairvoyant Daisy Gamble who attends a class taught by a psychiatrist for help in kicking her smoking habit. While undergoing hypnosis, it is discovered she had a past life in late 18th century England. And until the recent Appellate Court decision in Brown v. Continental, she might have had a future as a Plan Administrator dealing with QDROs.

That’s the acronym for Qualified Domestic Relations Orders which is a court order that creates a right for an alternative payee to receive some or all of a participant’s benefits in a qualified retirement plan. It’s one of those exceptions to the Internal Revenue Code’s general rule that prohibits benefits in a qualified retirement from being assigned or alienated.

And it’s up to the Plan Administrator to determine whether a DRO (another one of those acronyms) or Domestic Relations Order issued by a judge pursuant to a state domestic relations law is, in fact, a QDRO.

Maybe Daisy could have helped two years ago when Continental Airlines claimed that nine pilots used sham divorces to collect their pensions early, a situation about which I blogged, QDROs:The View From 30,000 Feet.

Continental went on to sue those pilots alleging that the pilots filed divorce papers but continued to live with their spouses and didn’t tell anyone – including their children. Once the divorces were final, the former spouses received rights to the pilots’ pensions and applied for lump-sum distributions, which Continental said were worth as much as $900,000 apiece. Continental also alleged that after they got the money, the couples remarried.

Continental claimed that the pilots were concerned about losing significant parts of their pensions because of the financial difficulties the airline industry was encountering, and that the maximum annual pension guaranteed by the Pension Benefit Guaranty Corp. (PBGC) was less than a typical airline pilot pension.

But now, in the aforementioned Brown v. Continental case, The United States Court of Appeals for the Fifth Circuit agreed with the District Court (Southern District of Texas) decision that ERISA does not does not authorize a Plan Administrator to investigate or even consider the good faith, or lack thereof, underlying a divorce.

So what are the takeaways here.

From a legal standpoint, William McMahon, an attorney with Constangy Brooks and Smith, LLP writing in his firm’s blog, Employee Benefits Unplugged, says

... the Court is promoting simplicity for administrators. Look at the court order, confirm that it complies with the criteria for a QDRO set forth in Section 206(d)(3)(D), and then stop. Don’t out-think yourself.

From a moral standpoint, you're on your own.

06 | 29 | 2011 Posted By Jerry Kalish

In the world of science and engineering, a black box is a device or system or object which can be viewed solely in terms of its input and output without the user knowing how it works.

In the world of ERISA, a black box can be an actuarial valuation, the report that your actuary provides you on an annual basis telling you how well – or not well – your defined benefit pension plan is “funded”.

So let’s take a peak inside the black box to help you better understand what it all means and why this understanding is crucial to managing the plan and your company’s objectives. Here is a very brief explanation of three ways to view the “funded status” of your pension plan:

1. Minimum Funding Requirements. The Internal Revenue Code (the “Code”) imposes certain minimum funding requirements on an employer to fund the plan on a annual, on-going basis. Generally, the contribution is based on plan’s “normal cost”, i.e., cost of benefits earned in the current year, plus an amount sufficient to amortize the plan’s shortfall (gap between assets and liabilities) over 7 years. Failure to meet minimum funding requirements can result in an excise tax of up to 100%.
2. Benefit Restrictions. The Pension Protection Act of 2006 (“PPA”) added a funding measure called Adjusted Funding Target Attainment Percentage (“AFTAP”) which is the plan’s asset to liability funding ratio. Benefits must be restricted if certain percentage thresholds are not met, e.g., if less than 80%, there is a 50% restriction on lump sums and annuity purchases.
3. Plan Termination. In order to terminate a pension plan, the plan must be fully funded, i.e., plan assets must be equal to or exceed plan liabilities. If the plan is subject to the Pension Benefit Guaranty Corporation (“PBGC”), it must demonstrate that assets are sufficient to meet liabilities. The Code and IRS regulations require the use of interest rates and mortality assumptions that are generally lower than those used for funding the plan on an on-going basis, i.e., more costly.

So why is all this important? Simply this: the "funded status" of your pension plan, however viewed, directly impacts both your contribution and investment strategy.

And more important still if your plan is part of the 40% of plans that have been frozen, the subject of the 2008 Government Accountability Office Report, DEFINED BENEFIT PENSIONS: Plan Freezes Affect Millions of Participants and May Pose Retirement Income Challenges. Are your objectives clearly defined and a strategy in place?