Friday, July 20, 2018

Imagining Retirement Plans Through the Eyes of a Child

Imagine retirement plans. Imagine retirement plans through the eyes of a child (gratuitous Moody Blues reference for readers in my age range).

I know, this sounds really strange. Of all the people who are not thinking about retirement, kids are at the top of that list. Bear with me though. I will bring you back.

Before I do, however, think back to when you were a child. You probably either lived in a house on a street where there were other kids or in an apartment where there were other kids around or went to school where there were other kids. One way or another, most of us found ourselves around other children.

Now, think about what really made you beam with pride and joy. There were lots of things -- good grades, winning a game or a race, and being the first kid on the block to have something that every kid wanted. It didn't have to be something big. But, if you had it first, every kid wanted to be you.

I promised that I would bring you back and I'm going to start now. Take yourself out of the mind of a child. At least do that a little bit, but we're going to be meandering back and forth a bit on this short journey.

Think about the employer-employee relationship. Some employees want a job; others want a career. Some employees want a paycheck; others want to be somewhere where they want to come to work. Some employers want to have employees who collect a paycheck and perhaps as small a paycheck as the employer can get away with; others want to be employers of choice.

From an excellent article in Fast Company, "[O]ne of the top factors most likely to keep professionals at their company for 5+ years ... is having strong workplace benefits ... ." The article continued, "[I]n comparison, the least enticing factor for keeping professionals at their current companies is having in-office perks such as food, game rooms, and gyms."

Employers that want to be employers of choice will care about this stuff. And, so will employees. And, many of these employees actually do remember being children. Just as I do, they remember things like spending a nickel on a stick of Topps bubble gum that came with five baseball cards and upon opening the pack seeing that they were the first kid they knew of to get a Mickey Mantle. You really do have something special then.

Often times, employers that want to be employers of choice want that because they know that the cost of unwanted employee turnover is so high. In fact, when companies are counting their beans, if they use 150% of one year's pay as a proxy for the cost of an unplanned and unwanted turnover of a professional employee, then 1) they are likely pretty close, and 2) they will realize that the cost of benefits probably pales in comparison to the cost of turnover.

One of those benefits that we mentioned is a retirement program (note that I talk about a program not an individual plan). Most companies, or certainly many if not most, have 401(k) plans. Their employees don't really know what they are, but everybody thinks they are important, and, in fact, they are. So, giving an employee a 401(k) plan doesn't make her feel special when she looks at it through her eyes of a child.

But, suppose I told her that I had a special plan for her. We don't have to give that plan a name. Suppose I told her that I, her employer, value my employees and that I was going to give her something like a match, but that it was better. Suppose I told her that I was going to auto-enroll her in our 401(k) plan because everybody says auto-enrollment is a best practice, but even if a year came where she had to stop deferring to the 401(k) plan, I was still going to contribute the same 5% of pay to her retirement account. And, by the way, those assets that accumulated from those over and over again five percents were going to grow based on professional investments. And, someday when she retires, she'll be able to take her benefit as a lump sum, or as an annuity, or as some combination of the two.

Imagine how a child thinks about that.

The child's eyes light up.

She is the first kid on her block to have this special benefit.

She is special.

Wednesday, July 11, 2018

District Court Affirms Withdrawal Liability Calculations, But Appears to Leave an Opening

Working right before the holiday, New Jersey District Court Judge Kevin McNulty issued a lengthy opinion late on July 3 in Manhattan Ford Lincoln, Inc. v UAW Local 259 Pension Fund. The case concerns the withdrawal liability assessed against Manhattan Ford, a withdrawing employer from a multiemployer pension plan and the actuarial assumptions used for the calculations. While this is far from the first case on this topic, it may be instructive to contributing employers who are considering withdrawing from multiemployer plans and for consultants and actuaries who work with these plans.

Before diving too deeply into the case, we need some background for readers who do not work in the multiemployer plan world on a daily basis. As the background is geared toward the more casual reader than to the multiemployer expert, we've intentionally omitted some details.

In 1980, Congress passed and President Carter signed into law the Multiemployer Pension Plans Amendments Act (MPPAA). In part, MPPAA established the concept of withdrawal liability as a means of ensuring that employers who choose to leave those plans pay their fair share of any unfunded liabilities.

For years, one of the frustrations of many who are involved with multiemployer plans has been the lack of guidance on actuarial assumptions particularly the discount rate to be used in determining the vested benefit liability (VBL) under a plan. That said, the statutory language that provides much of the guidance that we have in this arena and the language that the fund's actuary looks to in determining the discount rate to be used in annual actuarial valuations are somewhat instructive.

Quoting from a footnote in Judge McNulty's opinion, "The main upshot, for our purposes, is that under current law, 'each' actuarial assumption must be reasonable for the purpose of minimum funding, whereas they must be reasonable 'in the aggregate' for purposes of withdrawal liability." The language here is strikingly similar yet as we will discuss later, the calculations are often very far apart.

In this particular case, the plan's Enrolled Actuary (EA) used the Segal Blend (a method developed by the Segal Company in the early days of MPPAA) as a means of discounting in order to determine the fund's VBL and therefore the unfunded vested benefits (UVB) as well. To understand this case and the distinctions we will make later, we'll have to get hypertechnical (yet still oversimplified) for a moment to explain the Segal Blend. The Segal Blend essentially does two calculations and blends them. It considers that liabilities that can be settled by plan assets are assumed to have their risk transferred and therefore use PBGC rates (the rates inherent in insurance company annuity settlements) to discount the liabilities. But, for the portion of the liabilities not covered by plan assets, it acknowledges a risk premium and uses the funding interest rate (the EA's best estimate of future investment returns).

In Manhattan Ford, the fund's calculation performed by the EA showed that the withdrawing employer owed a roughly $2.5 million withdrawal liability based on the Segal Blend. The employer challenged the calculation and an arbitrator found in favor of the fund. Manhattan Ford appealed to the District Court.

Judge McNulty found that two essential questions were raised [quoting]:

  1. As a matter of ERISA law, must a pension plan's actuary use identical actuarial assumptions to calculate the plan's satisfaction of minimum funding requirements and its unfunded vested benefits ("UVB") for withdrawal liability?
  2. Assuming the answer to question 1 is "no," did the Arbitrator err in this case when he found that the discount rate applied by the Pension Fund's actuary to determine Manhattan Ford's withdrawal liability, the Segal Blend, did not render the actuarial assumptions "in the aggregate, unreasonable (taking into account the experience of the plan and reasonable expectations)"?
The Judge found that answer to both questions to be "no" and granted summary judgment to the Pension Fund. Summary judgment is granted only when the Court finds that the movant shows that there is no genuine dispute as to any material fact and the movant is entitled to judgment as a matter of law. Stated differently and from an extremely non-legal perspective, the Court found that even if all of the facts claimed by Manhattan Ford were true, it still had no valid case.

Thinking about this as a consulting actuary or even putting us in the lens of a withdrawing employer, this would appear to leave little room. And, this would appear that based on the fact pattern in this case that at least in the District of New Jersey that the Segal Blend produces results that are not unreasonable (note that the burden of proof here by statute is on the withdrawing employer).

What this opinion specifically does not say, however, is that the EA's judgment is infallible or indisputable. While the opinion did not address this, that the statute gives withdrawing employers the ability to challenge withdrawal liability calculations suggests that ERISA contemplates that there are, in fact, valid challenges.

What might they be?

We've seen a number of calculations of withdrawal liability where all of the discounting is done using PBGC rates. To understand the significance of this, note that in recent years, PBGC rates for this purpose have often been less than 3% while funding interest rates are often in the vicinity of 8%. Conservatively, changing the discount rate from 8% to 3% could increase liabilities by anywhere from 40% to more than 100% depending on the demographics of plan participants. For purposes of an example, let's use 60% and further, for extreme simplicity, let's assume that all liabilities of our hypothetical multiemployer plan are vested.

Suppose our plan has assets of $1 billion and liabilities discounted at 8% of $1 billion. Then, the unfunded liability at 8% is $0. However, decreasing our discount rate to 3% increases our liabilities to $1.6 billion and increases our unfunded liability from $0 to $600 million. That helps us to illustrate the extreme leverage inherent in many of these calculations.

So, to return to some of the questions at hand, let's suppose that the 8% discount rate applied in the annual valuation of the plan is the EA's actuarial assumption. In fact, when he has put it on the Schedule MB to Form 5500, he has asserted under penalty of perjury that it is reasonable. And, he has similarly asserted under penalty of perjury that each of his other assumptions is reasonable. Finally, he has asserted that, in combination, these assumptions offer his best estimate of expected future experience under the plan.

Now, the EA is asked to perform a withdrawal liability calculation. In performing that calculation, he keeps all assumptions except for the discount rate the same as they were for minimum funding. But, he changes the discount rate from 8% to 3%.

If each assumption is individually reasonable, one can extrapolate that the set of assumptions, in the aggregate, is reasonable. 

Given that the unfunded liability has increased from $0 to $600 million and even conceding that the purpose of the measurement is different, this begs the question as to how the revised assumptions (only one is revised), in the aggregate, can also be reasonable.

Withdrawing and potentially withdrawing employers should weigh these issues carefully when withdrawing. In combination with counsel and with other experts including actuaries, they should also weigh these issues when appealing a determination of withdrawal liability.

Tuesday, June 12, 2018

How Ready are Americans for a Successful Retirement

Every weekday morning, one of the first blasts that glamorizes my inbox is the Plan Sponsor News Dash. If you don't subscribe already, you should probably remedy that situation. It's free and it's pretty unobtrusive, and once in a while even features my wisdom or lack thereof. But, this morning, I read an article from the News Dash that struck my mathematical, actuarial, and consulting senses a bit funny.

This article told me that according to a study by the Employee Benefit Research Institute,  57.4% of U.S. households are on track to be able to cover 100% of expenses in retirement, but if long-term care costs are removed from the equation, the percentage jumps to 75.5%. Then it goes on to tell me how much rosier the picture gets if they only have to cover 90% of their household expenses, or even 80%, or finally even 100% if you also remove long-term care costs.

Holy Symmetry, Batman!

What happened to the scenario where expenses go up more than we are anticipating? I've not been able to find the EBRI research, so perhaps the article is explaining everything that the research actually does present.

According to the article, the research goes on to suggest that if we auto-enrolled all workers at 6% in an automatic DC plan that the retirement crisis would virtually disappear. 

From a policy standpoint, this just feels so wrong. If you look at your pay stub today, unless your compensation for the year has already gone above $128,400, you'll see that 6.2% of it is going to the government in the form of FICA tax. For those that don't know the terminology, that's the old age part of Social Security. In addition, regardless of how much you have made thus far this year, an additional 1.45% is going to the Social Security Administration to support the Medicare system. So, what this proposal is telling me is that it wants to, right off the top, direct 13.65% of my pay towards my retirement and the retirements of others. That's almost one dollar in seven of what most Americans earn. We would have no say. In fact, if you add that to federal, state, and local income taxes, it feels like the policymakers are directing more of what I make than I am.

Think about that.

But, returning to the original topic, how ready are Americans for a successful retirement? It doesn't seem likely to me that covering 80% of ones projected expenses is going to be sufficient. But, if we focus on the analysis in which we are supposed to cover 100%, 3 in 7 American households can't do it. Were we to bump that to 110% (inflation increases), we probably get to the point where more than half of those households cannot sustain retirement.


The 401(k) as the cornerstone of American retirement system does not work. Remember, this study was done after some huge run-ups in equity markets. What happens if we have a significant correction? What happens if we are in a bubble?

You want a policy solution? Reinvent the pension plan in ways that offer some degree of lifetime income, longevity protection, and inflation protection. Design it so that costs are stable (that's really easy by the way) while still providing for consistent and responsible funding. Let employees use the 401(k) as it was intended -- as a supplemental savings program.

Households will be ready for a successful retirement.

Monday, May 21, 2018

Compensating Executives Under the New 162(m)

Except for those who are either executives or people involved in determining the ways that executives are compensated, one of the changes to the Internal Revenue Code last fall seemed like a little throw-in designed to appease a small constituency, but that few would really care about. That small group that does understand the change, however, knows it is a pretty big deal.

Let's recap so that we can all be on the same page. Prior to the Tax Cut and Jobs Act (TCJA), and oversimplifying somewhat, public companies were entitled to deductions for executive compensation so long as such compensation did not exceed $1 million per year for a covered employee. Performance-based compensation was not to be counted against that limit and covered employees were the CEO plus the four other highest compensated employees.

Since the passage of the TCJA, there have been several key changes to Section 162(m):

  • Once you become a covered employee of a company (beginning in 2017), you remain a covered employee of that company, essentially forever;
  • The CEO plus four other highest paid has been changed to CEO plus CFO plus three other highest paid;
  • Companies no longer get an exemption for performance-based compensation; and
  • Some grandfathering exists for certain agreements that existed in writing.
That does not leave a whole lot of wiggle room for companies. And, for companies that have provided large amounts of performance-based compensation to their executive group, meaningful deductions may be gone.

I'm not about to suggest that I can fix this new problem. But, you should note that amounts that have been deductible under Section 404 are unaffected by these changes. Section 404 of the Internal Revenue Code relates to qualified pension plans. What this means is that to the extent that parts of an executive's compensation which would be subject to Section 162(m) are somehow moved into a qualified pension plan, the funding of that plan will, subject to the rules of Section 404, generally qualify for a corporate tax deduction.

Of course, there are a myriad of rules around what it takes to keep such a pension qualified including the nondiscrimination rules of Section 401(a)(4). But, for most companies that still maintain ongoing pensions, the ability to transfer some otherwise nondeductible compensation to such a pension plan may still exist. It's one of the tools in the tool box that companies should look into.

Tuesday, April 24, 2018

Desire to Move to Lifetime Income Options -- Is It Real?

I read an article this morning that tells me, among other things, that two in ten defined contribution (DC) plan participants plan to use some portion of their plan assets to purchase lifetime income products. I don't dispute the research that was done, but I absolutely dispute that behaviors will be as the data imply.

Before you read on, I want to be clear. Any criticism that I have here is not of the author. The piece does an excellent job of explaining what the data say. My criticism is also not of the data collection. The Employee Benefit Research Institute (EBRI) asked legitimate questions and reported the answers that they received.

But, this is a case where I posit that a perfectly good interpretation of perfectly good data is likely to not be a good predictor of future behaviors, at least not as the law exists today. What we need to help these data to be a reliable predictor is a statute that is focused on retirement policy not on the assumption that small groups of people will abuse the Tax Code. And, once that statute works, we need plan designs that give well-meaning plan participants the ability to customize their individual retirement income streams to meet their own needs without worry that somehow they will fall prey to regulations that were written to stop abuse by a few. (For the retirement and tax geeks reading this, yes, sections like 401(a)(9), I mean you.)

Is this newfangled design DC? Maybe or maybe not. Is this newfangled design defined benefit (DB)? Maybe or maybe not. Why do we really need such a broad distinction?

I'll return to the design issues later, but first I am going to make a u-turn back to my comment about these data as predictors.

Yes, two in ten DC plan participants would like to get some lifetime income or longevity protection from their DC plans. But, what options are available? Generally speaking, whether they are in plan or out of plan, they are retail priced annuities (meaning they are priced favorably for the annuity provider and therefore unfavorably for the annuity buyer). There are traditional annuities and there are qualified longevity annuity contracts (QLACs). The experience in the marketplace thus far (anecdotally) is that participants will pay anywhere from 15% to 40% more for these annuities from DC plans than would be considered actuarially equivalent to a lump sum in a DB plan. Insurers need to be both risk-averse and profitable and therein lies a difference. DB plans, on the other hand, are intended, generally speaking, to provide optional forms on an agnostic basis.

So, how do we get there? As I said earlier, changing the statute to allow common-sense streams of income for participants is a great first step. Then we need a new type of design. To me, it probably doesn't fall into the current, common notion of DB or DC.

Let's call it the Plan of the Future.

And, once those common-sense options are available, my prediction is that far more than two in ten participants will want some amount of lifetime income whether it's from DC plans, DB plans, or just qualified retirement plans.

Friday, March 9, 2018

Check Your Lenses to See Properly

Which lenses are you wearing right now? Come on, take a look. Are they the right ones?

No, this is not one of those cheesy Ray-Ban coupons that litter social media. This is about consulting.

Which lenses are you wearing right now?

I think it's a good question.

If you're like me, you've been wearing glasses or contact lenses for a long time in order to see more clearly. In my case, I wear progressive lenses (readers, mid-range, and distance all in one) for every day and work and I wear distance only lenses for sports. In case you're wondering, it's not easy to hit a tennis ball well when the size of the ball changes as you look through different parts of your lens.

But, back to consulting, did you check to see which lenses you are wearing?

Let's consider a simple example. I'm an actuary. A lot of the people I work with -- my peers -- are also actuaries. My clients generally are not.

If I am writing a memo for internal consumption by other actuaries, i can wear my actuarial lens. There is a high expectation that my readers will understand my position in the ways that I want them to understand it.

But, suppose I need to take that same memo and send it to a client. My client may not know the difference between a carryover balance and a prefunding balance. My client may not understand that PBO and ABO do not move necessarily in lockstep. My client may not even know what any of these things are.

So, when I write to my client, I explain things to them at the level that I perceive is right for them. Or, put differently, when going from my internal actuarial memo to my external consulting memo, I've changed lenses. In the first case, my lenses are thick and monocular. In the second case, they are gradual and at least binocular as I translate from that which is hard to see at a distance to something that my client can see easily close up.

My lenses have an emotional side to them as well. And, there's a fancy name for it, well not so fancy. Empathy. I try the best I can to put myself in my client's shoes -- to put myself in their position and to write for their benefit, not for anyone else's.

That's hard. When we write a consulting piece, we all want to seem brilliant to our clients. We take off that client lens and put on our own lens just dazzle from the keyboard with thoughts so profound and complex that we must truly be in a league of our own. But, who knows it? The poor client who reads it gets bored. They put it down. They call a competitor for a translation.

Uh oh, or if you are a fan of Scooby Doo, rutro.

So, let's take off our own lens and put the client lens back on. In doing so, we rewrite our masterpiece on the intricacies of an Internal Revenue Code section whose mere label fills up an entire line and simplify it. We make it so that our client can understand it. Yes, I know, we think we have dumbed it down. But, really, that client lens is the empathy lens. Done properly, our client doesn't find it dumbed down, but just right.

Now, our client thinks we are brilliant.

Tuesday, March 6, 2018

Fitting a Square Retirement Peg Into a Round Hole

I just don't get it. We knew what they were and honestly, they may have been well defined before then, but in 1974, Congress saw fit to codify defined benefit plans (DB) and defined contribution plans (DC) in ERISA. At the time, there was no Section 401(k) in the Internal Revenue Code.

It was also pretty clear back then. Pension plans were required to offer annuity options. Plans that were not pension plans (mostly profit sharing plans) were not required to offer annuity options. And ERISA said it was good.

In a profit sharing plan, a participant's accrued benefit was his or her account balance, generally. In a pension plan, generally, a participant's accrued benefit was the amount of his or her annuity. And ERISA said it was good.

But, time went by and despite ERISA saying things were good, Congress decided to tinker. And, as a group, Congress has few tools in its bag of tricks that exceed its ability to tinker. It usually works like this. Representative A introduces a bill and she has just enough votes locked up that she can almost get it through the House. And, Representative B comes to her with an idea and says that if you'll just add this one [stupid] provision, I'll vote with you and I can drag C, D, E, F, G, and H along.

That's how the sausage is made in the tinkering factory.

So, once upon a time, we had this round retirement hole (the structure that ERISA gave us) and it was good. It worked pretty well. The evidence of that is that people who spent a good part of their careers under the structure developed in ERISA have generally retired and if they planned at all well, their retirements are not at all bad compared to their working lifetimes.

But, as Congress saw fit to tinker with the rules, it found ways, among others, through bills known as Pension Protection Act[s] to convince employers to get rid of pensions. That's right, Pension Protection Acts killed pensions.


So, through Pension Protection Acts, workers were suddenly left with nothing but account balances and through improved awareness of health risks and better medical care, they were also left with longer life spans. Those account balances that were perfectly sufficient to get them to the age 75 or so that was their life expectancy at birth had no chance of getting them to their new life expectancy that was closer to 85.

Now what?

The hue and cry was for annuities. And, thus Congress began to tinker again. How could they possibly fit this square account balance peg into the round annuity hole. So, Congress explored ideas for annuities in DC plans.

But, you see that if you offer actuarially equivalent annuities from a DC plan, then you have gains and losses and that would essentially be a DB plan. If you offer insurance company provided annuities (and recall that insurance companies are in business to make money), then you have too small of an annuity.

Oh the ignominy of the square peg.

We had a perfectly good system. It came with perfectly good benefits and for most plans, perfectly good actuarial assumptions and methods.

And Congress broke it. And after all these years, despite taking file and rasp and hammer to the square peg, the round hole remains empty.

Congress, there are smart people who do not sit in your chambers. Give us your objectives and let us find you a solution. We'll make that peg round and Americans will be able to look forward to their golden years again.

ERISA will once again say it is good.