1
Q
What is an annuity?
A
A contract with an insurance company whereby the insurance company pays the income for a specific period of time, such as a number of years or for life, in exchange for initial cash
2
Q
What is the Tripod of Economic Security aka Three-Legged Stool
A
The means by which the risk of retirement and economic security are met:
- Personal Savings (incl. individual insurance & annuities)
- Employer-Sponsored Retirement Plans
- Social Insurance
3
Q
What are the economic problems facing the aging?
A
- Desire to maintain same SOL
- Declining employment opportunities
- Low individual savings
- Improved longevity
4
Q
Do financial needs truly decrease after retirement?
A
In some ways - no dependents, no house note, belongings have been acquired
On the other hand - people don’t’ want to change SOL after retirement, it is also discouraged for parents to move in with children
5
Q
What was the first retirement plan?
A
American Express Company in 1875
50% average pay over the last 10 years of work, not to exceed $500 annually
6
Q
Why is there low participation in the workforce with the elderly?
A
- Voluntary retirement
- Physically unable
- Technological advances taking their place
- OASDI deemed 65 as normal retirement age, until ADEA banned mandatory retirement in 19886
7
Q
How does home ownership help economic security of the aged?
A
Most homes of the aged are clear of mortgage; maintenance and taxes are less when the home is owned (33-40% less);
Home can also be income producing by use of a reverse annuity
8
Q
What is a Reverse Annuity?
A
Homeowner receives a lifetime monthly income in exchange for the title of the home upon the owner death. Monthly payments are based on home equity and life expectancy.
9
Q
What legislation started reverse annuities?
A
- Housing and Community Development Act of 1987, experimented with 2500 annuities
- National Housing Act, 1993, amended to make permanent
10
Q
What was the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA)?
A
Increased limits on allowable retirement plan contributions
11
Q
What was the Pension Protection Act of 2006?
A
Made the expanded retirement contributions set forth by the EGTRA permanent
12
Q
What restricts personal savings?
A
- Advertising
- Installment credit
- media communications
- Federal income tax rates reduce income and thus savings
13
Q
What was the American Taxpayer Relief Act of 2012?
A
This increased rates on taxpayers considered “high earners”
14
Q
How has longevity changed?
A
since 1900 life expectancy increased from 47 to 79 for 2015; population of those over 65 increased from 3 million to 40 million from 1900 - 2010
15
Q
What is demography?
A
Age distribution of a population; the age distribution of elderly persons is shifting to the higher end of the scale
16
Q
Why have retirement plan grown so fast in the past century?
A
- increased satisfaction and morale of employees
- tax considerations / tax advantages
- wage stabilization programs of WWII allowed ability to save money
- Pressure from unions
- Ability to attract and retain qualified employees
- Efficiency of formal group savings
- Sales efforts of insurance companies, trust, banks, etc
17
Q
What alternatives do employers have in dealing with superannuated employees?
A
- terminate the employee without comp or retirement (rare)
- retain employee in same position and same comp and assume the losses from inefficiencies and frustration of other employees
- retain but transfer the employee to a less demanding job
- establish a formal retirement plan that allows the older employees to move out of the workforce comfortably and also for younger employees to replenish the workforce
18
Q
What are the tax advantages of qualified retirement plans?
A
- employer contributions can be deducted as a business expense
- investment income earned on a retirement plan is tax deferred
- no current income taxation to employee for ER contributions
- employee may be in lower income tax bracket when received
- distributions may be taxed on a favorable basis
19
Q
How did wage stabilization of WWII affect private retirement benefits?
A
Wage stabilization was enforced as a price control effort; employers could not increase wages, so benefit plans and retirement were used to recruit and retain workers
20
Q
What role did the NLRB play in retirement plan development?
A
The NLRB (1948) determined that benefits fell into terms of employment along with hours, wages, etc. They also determined that the ER cannot make plan changes without the approval of the employee's bargaining agent.
21
Q
What makes private retirement plans a such a good supplement to SS benefits and individual savings?
A
- Lowest cost method
- Administratively efficient for a group
- If prices increase, it will be spread across a group
- Forced savings method for those whom expect to maintain a higher SOL and aren’t prone to save
22
Q
What is business expediency and how did it relate to retirement plan development?
A
-Management’s prerogative with motivation to the economic benefit to the employer
23
Q
What are the opposition to the human depreciation concept?
A
- Aging is not attributable to the employment relationship
- Man cannot be compared to machine
- Man are free to change jobs if the hazards are too great, unlike machine
24
Q
What are the oppositions to the deferred wage concept?
A
- Some employers offer high wage and retirement, not just one or the other
- Some employers accept lower profits to offer retirement
- Retirement is a wage and the amount earned should leave with a terminated employee
25
What is ERISA?
Employee Retirement Income Security Act of 1974
26
What effect did ERISA have on retirement plan development?
- Legal, tax investment, and actuarial status
| - New reporting, disclosures and fiduciary requirements as well as a program for plan termination
27
What did ERISA establish?
Retirement account (IRA) concept, which started out for those not covered under a qualified retirement plan
28
What is TEFRA?
Tax Equity and Fiscal Responsibility Act of 1982
29
How did TEFRA effect retirement plan development?
reduced max limits of benefit plans and contributions; induced restrictions that kept retirement plans from favoring "key" employees and provided federal income tax withholdings on retirement and annuity payments
30
What is TRA '86?
Tax Reform Act of 1986
31
How the TRA '86 effect retirement plan development?
BIG;
- New coverage test
- Accelerated vesting requirements for qualified plans
- Changed rules for qualified plans to integrate with Social Security
- Lowered limits for retirement benefits that begin before age 65
- Changed timing/taxation of distributions
- Terminated IRA deduction from qualified plan participants
- Also to stock ownership plans and executive comp.
32
What is the EGTRRA?
Economic Growth and Tax Relief Reconciliation Act of 2001
33
How did the EGTRRA effect retirement plan development?
- Increased contribs, benefit and deduction limits for all types of retirement savings
- Provided business credits for starting retirement plans
- Provided tax credits to lower / middle income employees making retirement contribs
- Created greater parity among corp, nonprofit and government plans
- Created greater contribution limits for those over 50
- Created a new provision to allow a certain retirement plans to incorporate a feature called a "qualified Roth contribution program"
- Allowed a greater portability for all types of retirement by providing for easier rollover of distributions between carious types of plans
34
What is the PPA 2006?
Pension Protection Act of 2006
35
How did the PPA 2006 effect defined contribution plans?
- Provided employers with invective to auto enroll employees into defined contributions plan and default to a certain balance long-term investment
- Made employer contributions subject to faster vesting
- Allowed financial service providers to give personal investment advice to 401(k) and IRA participants
- Instituted diversification requirements for certain defined contribution plans holding publicly traded employer stock (N/A to employee stock ownership plans)
36
what are the two types of retirement plans?
- Defined contribution
| - Defined benefit
37
What is a defined contribution plan?
A sponsor contributes to a plan on a member's behalf, but there is no guarantee as to the benefit payment that is actually distributed
38
What is a defined benefit plan?
A specific formula determines the ultimate benefit
39
What has been the most common arrangement for retirement plans?
Defined BENEFIT plans, at least until ERISA in 1974
40
Which type of groups preferred contribution plans over defined benefit plans?
Education and non-profit favor CONTRIBUTION plans due to the tax benefits of Section 403(b)
41
What factors determine an employee's retirements benefit under the defined contribution approach?
- Level of the employer/employee contribution
- Age at entry
- Retirement age
- Investment earnings (or losses)
42
What are the advantage of a defined BENEFIT plan?
- Structured to achieve specific income replacement
- Can be integrated on the basis of SSI benefit while contribution plans must be adjusted to integrate
- Contribution plans are structured to pay out in the even to of death or disability, while benefit plans are better suited to only provide the retirement benefit
- Benefit provide more equal allocation of benefit as age, service and pay are taken into account implicitly
- Risk of inflation is transferred to the employer
- Investment risk is transferred to the employer
- Benefits for employees who terminate employment at younger ages can be more costly under contribution plans
43
What are the advantage of a defined CONTRIBUTION plan?
- deferred profit-sharing allows ER flexibility in cost commitment and can increase EE productivity
- ER securities are used ass plan investment, greater employee identification with the company and goals
- Greater employee relations value to a young population
- Employee can make contributions on a pre-tax basis under 401(k)
- Do not pay premiums to the Pension Benefit Guaranty Corporation (PBGC) and have lower admin cost than benefit plan
44
What type of retirmement plan is most popular with private employers?
Since ERISA (1974) defined contribution plans are the preference of small companies and private plans due to the lower risk and potential liability that ERISA imposed on a defined benefit plan
45
What are the tax law requirements for a plan to be "qualified"?
1. Created to benefit the employees
2. Plan assets cannot be diverted
3. Cannot discriminate for HCE's
4. Defined benefit plans must cover a specified # of employees
5. Plan may integrate with SS to provide additional benefits for HCE's
6. There are limits on payments/additions an employee can make to their account and on the before-tax (elective) contributions
7. Employee comp in excess of stipulated amount cannot be taken into account
8. Age and service requirement cannot be more than specified minimums and must follow specified rules
9. Benefits must vest after prescribed period of service
10. Special vesting reqs apply to top-heavy plans (for key employees)
11. Distributions must be made according to rules that specify time they start and period of payment
12. QJSA, QPSA, and QOSA rules must be met for married employees
13. Limits on assignment and alienation of benefits other than Qualified Domestic Relations Orders (QDROs)
14. Accrued (funded) benefits must be protected in case of merger or transfer of assets
15. Individual accounts must be maintained for participants of defined contribution plans
46
What is the purpose of Section 415 Compensation?
Sec 415 limits the amount of benefits that can be paid to an individual under a def. benefit plan and the annual additions under a def. contribution plan;
Sec. 415 is used in determining compliance for nondiscrimination testing with HCE's
47
What is the definition of an HCE?
- Tax Reform Act of 1986 changed the definition for purposes of non discrimination testing
- Small Business Job Protection Act of 1996 simplified
- 5% owner during current or prior year
- Comp of prior year of $120: and was in the top 20% of earners
48
How do you determine whom is the top 20% of earners for HCE purposes?
1. Exclude the following:
- Those whom haven't completed 6 months of service or under age 21
- Employees whom work less than 17.5 hours per week
- Nonresidents
- Those in a collective bargaining agreement that doesn't provide participation I 90% or more are covered under this agreement
2. Subtract the exclusion and then multiply times 20%, then add back the excluded to determine the specific employees
49
How do use of control groups in nondiscrimination testing prevent employers from circumventing requirements?
Employees of all corporations who are members of a controlled group of corporations are to be treated as if they were employees of a single employer
50
What are the "Qualified Separate Line of Business" rules modify control group rules?
This testing allows an employer the ability to possibly show that control group employees are separate from the rest of the group and should be treated as such;
Allows benefit plans to be structure to meet the competitive needs of separate business operations or operating units in geographic locations
51
What is mean by nondiversion/exclusive benefit requirements?
Plan must specifically provide that it is impossible for the employer to divert or recapture contributions before the satisfactions of plan liabilities and funds are for the exclusive use of the beneficiaries
52
What are the plan permanency requirements?
The expectation that the plan is created on a permanent basis. If the plan is terminated for any reason other than necessity in a few years, it will become evidence it was not intended to be permanent and will have tax consequences for the employer
53
What are the Sec 401(b) nondiscrimination requirements of a qualified plan?
-Section 401(b) of the IRC = coverage tests; Ratio Percentage Test OR Average Benefit Test
54
Are the ERISA mandated disclosures dependent on the number of members on the plan?
Title 1 of ERISA = disclosure of information applies to all tax-qualified plan regardless of the number of participants
55
What ERISA disclosure must be automatically given to employees?
1. SPD
2. SMM (summary material modification, where applicable)
3. SAR
4. Statement of benefits upon termination
5. Written explanation to beneficiary when claim denied
6. Statements provided upon request and once every 12 months at a minimum unless invested in the direct benefits every quarter
56
What ERISA disclosure must be made reasonably available to employees?
1. Supporting plan docs
2. Application for tax-qualified status
3. Copy of plans financial report
4. Personal benefit statements
5. Plan termination report (IRS Form 5310) should the plan be terminated
57
What are the vesting requirements for a qualified plan?
Must provided vesting under specific rules; after-tax and before-tax employee contributions must be vested at all times;
Value of ER contributions must be vested when an employee reaches the plan's normal retirement age, regardless of employee's service time; Otherwise, must vest at a minimum under vesting schedules
58
What is the minimum vesting schedules for a defined contribution plan?
Since PPA in Dec. 2006:
- 100% vested after 3 years
- Graded vesting: 20% after 2 years and increasing by 20% each year until 100% vested at 6 years
59
What is the minimum vesting schedule for a defined benefit plan?
Since Tax Reform Act of 1986 (December):
- 100% vested after 5 years
- Graded vesting: 20% after 3 years increasing by 20% each year until 100% at 7 years
60
What statutory limits on contributions and/or benefits must a plan follow to achieve tax-qualified status?
- 2 limits
- 1. Limit on the amount an EE's comp that may be taken into account when determining the contributions or benefits made on their behalf
2. Limit on annual additions that may be made to an employees account in the case of a defined contribution plan or the benefits payable under a defined benefit plan
61
What is the limit on employee comp that can be taken into account when determining the contributions or benefits under a tax-qualified plan per Section 401(a)(17) of the IRC?
Tax Reform Act of 1986 added section 401(a)(17) limit ee comp for consideration;
- Originally set at $200K and altered for CPI it increased until 1993 when reduced to $150K
- After than, it was only increased when CPI altered the limit by at least $10K;
- After 2002, EGTRRA changed the increments to $5,000
62
How do the Section 415 limits affect the annual additions for a defined contribution plan?
Basic limit under Sec 415 for the annual additions to an employee account are the lesser of:
- 100% of EE comp
- $54,000 as of 2017
63
How do the Section 415 limits affect the annual additions for a defined benefit plan?
Basic limit under Sec 415 for the annual additions to an employee account are the lesser of:
- 100% of high 3 year average comp
- $215,000 as of 2017
64
Define what is meant by a qualified joint and survivor annuity (QSJA) in the case of a defined contribution plan?
A QSJA means an annuity for the life of the surviving spouse, the actuarial equivalent of which is not less than 50% of the account balance of the participant on the date of death
65
When must distributions begin for a retirement plan unless requested by the participant?
Unless otherwise requested, benefits must commence within 60 days of the latest of the following:
- Plan year in which the employee terminates
- End of 10 years participation
- Attainment of age 65 or SSNRA in the plan
66
What are the minimum distribution requirements when contributions from a retirement plan start?
Section 401(a)(9) of the IRC;
- Must commence by April 1 of the following year or later of:
- The year the participant retires;
- the year in which they attains the age of 70 1/2 and distributions must be made by December 31 of each year after
67
When must distributions commence by age 70 1/2 even is the member is still working?
Distributions must commence by April 1st of the year after which the participant turns 70 1/2 even if still work = 5% owner;
Payments must be made over a period of time no exceeding life time or joint lifetimes of owner and beneficiary
68
How is top-heaviness determined for a defined contribution plan?
- The sum of the account balances of all key employees in the plan is more than 60% the account balances for all other employees, OR,
- The plan is part of a top-heavy group
69
How is top-heaviness determined for a defined benefit plan?
- The present value of the accumulated accrued benefits of all key employees if more than 60% of the present value of the accumulated benefits for all other employees, OR,
- the plan is part of a top-heavy group
70
What happens when a plan becomes top-heavy?
1. Faster vesting for non-key employees, and,
| 2. Minimum benefit for non-key employees
71
What decision must an employer make when adopting a defined benefit pension plan?
- What benefits will be received at retirement, disability, death
- When the benefits will be paid
- Contributory or non-contributory
72
What are the advantages of a contributory defined benefit plan?
1. Employees are responsible for meeting part of their economic security
2. Smaller ER contribution with same benefit
3. If ER does not decrease their contribution, then the overall benefit is larger
4. Deductions remind employee of ER contributions
5. Employees are encouraged to save and allows fund even if terminated
73
What are the disadvantages of a defined benefit plan?
1. ER dollars haven't been taxed while dollars received by the employee under the plan are taxed, so ER contributions provide more than those of the EE
2. Deductions from earnings are a source of irritation to the EEs
3. Might have to increase salaries to make up for additional deductions
4. Number of participants required for a qualified plan might no enroll
5. Some EE's refuse to participate so ER will have a problem when employee reaches retirement age
6. Additional records must be kept by the ER, increasing admin and cost
74
How does federal law define normal retirement age?
Age specified by the plan but no later than age of 65 of the 5th anniversary of the participants date of initial participation, whichever is last
75
Do all retirement plan have to offer an early retirement benefit?
Not required; most plans provide an EE may choose early retirement on a reduced pension plan, but a few plans limit this to total/permanent disability
If included, some requirements must be fulfilled to allow the elections = at least age 55 and completed 10 years of service or plan participation
76
What options are available to en employer that would like to encourage early retirement through a qualified plan?
- Provide for no actuarial reduction if the employee retires after attaining the minimum age and after completed some minimum service period
77
Do qualified plans have to allow an option to defer retirement beyond normal retirement age?
Yes - this is also important in the retirement of a key employee when finding a replacement is hard or takes longer training that expected;
The federal age discrimination law and states laws protecting employment rights require that employees continue to accrue benefits without regard to a max age limit
78
What are the income replacement rations that employers target for employees having a full career with the ER?
For carrier employees: designed to work with SS benefits for higher paid employees with will be 50-55% of earning prior to retirement;
Lower paid employees with be closer to 80-85%
For less than career employees (less than 25-30 years) percentages would be smaller
79
What are the two benefit formulas when establishing a retirement program?
1. Defined contribution or money purchase formula = contribution rates are fixed and benefit varies upon contributions made, investment earnings and age at entry and retirement
2. Defined benefit or annuity purchase formula = established for each employee and contributions are determined to be whatever is necessary to produce a desired results (divided into several subgroups)
80
How would a defined benefit program calculate differently based on a final pay approach or a career average approach?
A final pay plan based benefits on employees earnings over the last 3-5 years of work; Career pay averages out over the employees entire career with that employer
81
What are the advantages of a final pay pension plan?
- employee's initial benefit keep pace with any preretirement inflationary trends
- a final pay plan is more likely to meet employer objectives for key employees than a career average
82
What are the disadvantages of a final pay pension plan?
- usually more expensive than a career average
| - can commit an employer to increased costs during an extended inflationary period
83
What are the four basic formulas used to provide benefits in defined benefit pension plans?
1. Flat amount formula - flat benefit unrelated to earnings
2. Flat percentage of earnings - benefit related to employee's earnings does not reflect service
3. Flat amount per year of service - reflect service but not earnings
4. Percentage of earnings per year of service - reflects both earnings and service
84
How are benefits determined under a flat amount formula and the shortcomings?
All employees are treated the same (hence seldom used alone); sometimes used along with percentage of earnings
85
How is equity maintained between long and short-service employees when defined formulas do not explicitly take an employees service into account?
Service is recognized since most plan require that employees, upon reaching NRA must have been employee by a period of time, such as 25 years. Plan that include such requirements provide for a proportionately reduced benefit for those having worked fewer years therefore creating a formulate weighted for service
86
How are retirement benefits determined under a flat percentage of earnings formula?
A flat percentage of earnings formula provides some flat percentage of earnings,
usually ranging from 25% to 50%, as the measure of the pension benefit. The percentage of earnings approach may be used with either career average or final average earnings, although it is used most frequently in final pay plans. This type of
formula does not take an employee’s service into account, except in those plans that
require that the employee must have completed a minimum period of service by
normal retirement age and that provide for a proportionately reduced benefit if the
employee’s service is less than the required number of years.
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