Managing Risk is Top Goal for DB Sponsors

I've been beating this into your head since I started this blog: risk management is the #1 priority for sponsors of defined benefit plans. According to the Towers Watson Forbes Insights 2010 Pension Risk Survey (you can read it for yourself here: http://www.towerswatson.com/united-states/research/3220 ), 63% of plan sponsors say they will focus on managing risk and 14% say they will focus on higher returns.

Here are some of the survey findings that I found interesting:

• 29% of plan sponsors are now making only the minimum required contribution to their DB plan(s) compared to 21% before the financial crisis.
• 8% of sponsors make ad hoc funding decisions. 15% did before the financial crisis.
• 36% (compared to 26% before the crisis) fund to explicit funding targets
• Accounting harmonization will cause 48% of plan sponsors to reconsider their commitment to DB plans, 52% to lower their equity exposure and 48% to adopt some sort of LDI strategy.
• Roughly 40% said that the financial crisis increased their employees' appreciation for DB plans.

If only Congress would recognize this and give us legislation that protects pensions instead of killing them.

Relief on Health Care Nondiscrimination -- A Visit from Santa Claus

IRS Notice 2011-1 brings us nothing but good news. The IRS has said that compliance with the nondiscrimination rules of PPACA Section 2716 should not be enforced until after the IRS has issued regulations or other administrative guidance on the topic. In the notice, the IRS specifically asks for public comments on these issues:

• The basis on which the determination of what constitutes non-discriminatory benefits under § 105(h)(4) should be made and what is included in the term “benefits.”
• The suggestion made in previous comments that the Departments have the authority to provide for an alternative method of compliance with § 2716 that would involve only an availability of coverage test.
• The application of § 2716 to insured group health plans beginning in 2014 when the health insurance exchanges become operational and the employer responsibility provisions (§ 4980H of the Code), the premium tax credit (§ 36B of the Code), and the individual responsibility provisions (§ 5000A of the Code) and related Affordable Care Act provisions are effective.
• The suggestion in previous comments that the nondiscriminatory classification provision in § 105(h)(3)(A)(iii) could be used as a basis to permit an insured health care plan to use a highly compensated employee definition in § 414(q) of the Code for purposes of determining the plan’s nondiscriminatory classification.
• The suggestion in previous comments that the nondiscrimination standards should be applied separately to employers sponsoring insured group health plans in distinct geographic locations and on whether application of the standards on a geographic basis should be permissive or mandatory.
• The suggestion in previous comments that the guidance should provide for “safe harbor” plan designs. Specifically, comments are requested on potential safe and unsafe harbor designs that are consistent with the substantive requirements of § 105(h).
• Whether employers should be permitted to aggregate different, but substantially similar, coverage options for purposes of § 2716 and, if so, the basis upon which a “substantially similar” determination could be made.
• The application of the nondiscrimination rules to “expatriate” and “inpatriate” coverage.
• The application of the nondiscrimination rules to multiple employer plans.
• The suggestion in previous comments that coverage provided to a "highly compensated individual" (as defined in § 105(h)(5)) on an after-tax basis should be disregarded in applying § 2716.
• The treatment of employees who voluntarily waive employer coverage in favor of other coverage.
• Potential transition rules following a merger, acquisition, or other corporate transaction.
• The application of the sanctions for noncompliance with § 2716.

Comments must be submitted by March 11. You can read the notice for yourself including the instructions on how to comment here: http://www.irs.gov/pub/irs-drop/n-11-01.pdf

Experienced readers may find an analogue here to the Tax Reform Act of 1986, the last time that Congress was good enough to give us new, sweeping nondiscrimination requirements. You may recall that the Section 89 regulations were so bad that Congress felt compelled to repeal that section which actually had some similarity to Section 2716 of PPACA. And, on the retirement side, it took 7 years to get final regulations under 401(a)(4) (after a false start for earlier regulations that made no sense).

So, don't panic. You could be retired before you need to understand this stuff.

Comp Limits for Health Insurance Providers

The IRS issued Notice 2011-2 (interestingly after they issued Notice 2011-3) discussing the new $500,000 deductible compensation limitation under Code Section 162(m)(6) for certain health insurance providers. You can read it yourself here: http://www.irs.gov/pub/irs-drop/n-11-02.pdf

The group of people who are going to be interested in this is pretty darn narrow -- generally, companies that provide health insurance and consultants who work with them. The rest of you are probably bored already.

Particularly notable is the 'de minimis' rule that the IRS put in the notice (kudos to the IRS here for following the intent of the law where the actual wording may have been untenable. Consider that under PPACA, one might have construed that any company that self-insured for health care might have been covered under Section 2716 of Health Care Reform. The de minimis rule exempts companies where less than 2% of their revenues for the year are received in premiums for health insurance. This makes sense, at least to the extent that you believe the law makes sense.

The guidance goes on to say that companies whose exposure to health insurance coverage is in the area of reinsurance are covered. Finally, it discusses how to determine for which years a company is covered under this section. What is missing is detail on how to determine excess compensation. If I were consulting to a company in this area, I would focus on the guidance provided to TARP recipients who had similar restrictions.

The Price is Right

What is the right way to price a competitive bid? Do you know? I sure wish I did. Sometimes, I get it right and sometimes I don't. I wouldn't be surprised if you feel the same way.

I think back to the TV show with Bob Barker. There, you had to come closest to the right answer without going over. Does that hold any water in pricing consulting or brokerage work? If a prospect has $X budgeted, is it best to bid X, something barely less than X or something much less than X (I'm assuming that in a competitive situation, it is rarely correct to bid something more than X).

I don't know the answer, but I wish I did. If you really low-ball, does the prospect wonder if you understood the assignment? If you bid just a little bit less than X and somebody else really low-balls, are you out of the running? Why can't all prospects just hire me at the price that I would like to charge? That sounds like a great idea.

I think that the right answer varies by the type of work. Rarely is it right to be the high bidder. For commodity work (think actuarial valuations), I think that if there are 5 bidders, 2nd lowest has the highest likelihood of being right. If there are 6 bidders, 2nd or 3rd lowest feels about right, and maybe even 3rd highest if you are not too far off the others. On the other hand, for work that is viewed as more strategic, I think it's more about credibility. Are you viewed as being best for the job? If you price it too low, can you possibly be best?

In any event, I'd love some more opinions.

Two Key Words

I got my idea for this post from here: http://www.advisorperspectives.com/newsletters10/Two_Words_that_Get_Prospects_Attention.php

As I went through this article, I thought to myself: what could those words be? Since it was in an article that seemed to be focused on assets, I thought about things like rewards and return, alternatives, hedge, benchmarks, and the like.

Clients can run their business during the normal course of things. If they couldn't, they wouldn't be clients for long because they wouldn't have businesses to run for very long. Most of them are faced with risks in their business that they struggle with. Why do they struggle? Many of them are in "areas" in which they have no internal expertise. Sure, they can handle the risks related to the perhaps cyclical nature of their business. That's a core competency. It's not what keeps them up at night. For example, if cold weather is bad for their business, they know it will eventually get warmer.

But, what about compliance risks? What about benefits and compensation risks? What about accounting risks? These are not the areas where they are looking to make money. By themselves, these areas are not the key to success. But, avoiding failure in any of those areas may be a key to success. Avoiding failure may be the key to success.

So, if you are a benefits consultant or a compliance specialist, your client is not looking for a home run at the risk of striking out. They want a singles hitter who makes good contact every time. In other words, keep them out of trouble. If you are recommending anything with attendant risks, make sure they understand those risks.

1. What is the ultimate downside?
2. What is a likely downside?
3. How likely are both of those occurrences?
4. Can anything be done to mitigate those risks?

If the answers to those first two questions are unacceptable, then you better be able to answer the fourth one. If the ultimate downside is ruin, but the likelihood is near zero, it still may be worth considering how you can mitigate that risk.

Think about it. Would you take a risk that could produce a very good result, but 1 time in 1000 would put your family out on the streets? How about 1 in 100? 1 in 10? Wouldn't you like that 1 in 1000 a lot better if you could make it 1 in 10000? Your client would as well.

The next time you are about to propose a risky solution, think about this. Think about the financial crisis. Which financial services companies took huge risks? Which ones did their best to avoid those risks? And, of those two groups, which group remains standing?

OK, tell me now, which way are you going to consult?

Comparability in Financials, What Comparability?

A news release from SEI said that in its study of FAS 87 (now ASC 715) discount rates for 2009 fiscal years, 90% of them fell within the 161 basis point range from 5.27% to 6.88%. I wonder, where were the other 10% and how were they justified?

In the early days of FAS 87, in my experience, most companies were fairly cavalier in their choice of discount rates. Many used the same rate as they used for funding under Code Section 412. Others used their current liability interest rate. Still others seemed to use a dart board or a Ouija board.

Then the SEC intervened. They interpreted the FAS 87 guidance that companies look to the rate on high-quality fixed income instruments to mean that the rate should approximate that found on Moody's Aa bonds. A fairly typical approach was to look at Moody's Aa's a month or two before the measurement date, round up, usually to the next higher quarter of a point (but sometimes more than that) and use that rate unless there was significant change before the measurement date.

Accounting firms gradually gave this more and more scrutiny and then came Sarbanes-Oxley. Suddenly, the Big 4 (and other accounting firms generally followed) were asking companies to justify their discount rates. Discount rates became more and more tied to bonds of similar duration to the plan's obligations. Rounding up became taboo.And, all the while, the underlying discount rates on high-quality bonds were falling. Pension cost went up at the worst possible times.

So, what happened? Consulting firms came to the rescue. Since the accountants asked that discount rates be tied to specific bonds of similar duration to the obligations, actuaries developed tools to assist defined benefit plan sponsors in selecting and perhaps optimizing discount rates. As methods became more and more sophisticated, some plan sponsors went discount rate shopping. Think about it: if you were required to book the costs for a $billion pension plan and for a fee of, say, $10,000, you could buy yourself and additional 30 basis points in discount rate, would you do it?

So, while FAS 87 was supposed to improve the comparability of accounting for pension plans (and it probably did for a while), it appears that we have returned to days of less comparability. Come up with a rule and give smart people enough time and they will find the angle and find a way to optimize results.

It'snot as bad as it could  be, but comparability, we don't have no stinkin' comparability.

Employer Matches Being Restored and Even Increased?

A recent study by the Profit Sharing/401(k) Council of America (PSCA) suggests that among companies who reduced or eliminated their 401(k) matching contributions, most are restoring them. The data also suggests that fewer companies than the media would have led us to believe actually reduced or eliminated those contributions and that a fair number are actually increasing those matching contributions.

A summary of the study results is here: http://www.plansponsor.com/Suspended_401(k)_Matches_are_Returning.aspx

Key finding include these:

• 14.8% of employers suspended their matching contributions in recent years
• Of those, 39.3% have restored those matching contributions
• An additional 37.8% of those were planning to restore those matching contributions by April 2011
• Roughly 10% of companies have increased their matching contributions
• More than 75% of companies that suspended their matching contributions reported lower employee participation
• More than 90% of companies in the survey have Committees that review fund performance
• More than 70% of companies (as compared to slightly more than 50% in 2009) reported making changes to their fund lineups with the predominant reason being poor performance

I'd like to take a moment to look at these findings. One in particular looks misleading to me, that being the roughly 10% that have increased their matching contributions. I don't have the data to support my statement, but I would certainly hazard a guess that of those increasing their matching contributions, most were done at the expense of some other benefit or compensation plan. There just aren't that many companies out there that are willing to increase their allocation of dollars to employee benefits, especially retirement benefits.

To me, this points out that when you are reading any survey results, unless you have all the raw data to support it, remember the cogent words of Benjamin Disraeli (Mark Twain only popularized them): "There are three kinds of lies: lies, damned lies, and statistics." 

Just as good magician can deceive the eyes, so can one who has the data ... and sometimes has their own agenda.

The 1-Year FICA Cut and 401(k) Plans

Every working American subject to FICA taxes will see a pay increase in 2011 of 2% of pay up to a maximum savings of $2,136. For those who have not been saving enough in their 401(k), I am going to suggest that they increase their rate of deferral to that plan. It doesn't matter from a FICA standpoint whether you put that money in as pre-tax, Roth, or after-tax, as money put into a 401(k) plan by an employee is FICA taxable.

Suppose employees choose to contribute more. Then, employer matching contributions will increase. Are companies budgeting for this? Are they even thinking about it?

This all goes back to risk management. Is this a risk that has been considered? Where will the money come from?

Risk Management Isn't Just for Qualified Retirement Plans

Do you work for a company that has an active risk management policy? Do you consult with companies that manage risks or should? Are you in a benefit plan that may or may not manage risks? Then, perhaps this is for you.

Much has been made of risk management in recent years. During the economic downturn that started sometime during Bush (43)'s second term (I'm not going to argue about specifically when it started) and that is still continuing (or is not depending on which "expert" you believe), every company that I am aware of talked about risk management in earnest. Some actively did something about, some just talked about it, but it became a buzzword (I'm sorry, but a buzzword can be more than one word in my blog).

Let's focus on employee benefit programs, both broad-based and executive. Most everyone out there does some sort of risk management in most of their welfare benefit plans. Their health care plans are often fully insured, or if not, they at least have some sort of stop-loss insurance in place. And, they know that they can increase the employee portion of cost-sharing next year. With regard to other welfare benefits, LTD plans are often fully insured, life insurance plans as well. Think about them, in virtually all of these plans, employers are pooling their risks.

Suppose we turn to retirement plans. I am going to look at them in four baskets:

• qualified defined benefit
• qualified defined contribution
• nonqualified defined contribution
• nonqualified defined benefit

Qualified DB

What a trendy topic to write about: risk. The word has been out for nearly 25 years now. Get out of defined benefit plans. Diligent readers (I'm sure I have at least one) will recall that I wrote several weeks back that certain DB plans (specifically cash balance) managed appropriately are less risky than 401(k) plans from the plan sponsor standpoint. Since nobody commented on this, can I presume that everyone who read it agreed with me? I;m not that foolish, but ...

In any event, anyone who deals with qualified plans has heard about risk management, LDI, and lots of other trendy terms. When I got into this business, more large companies than not sponsored DB plans, and extremely few did anything to manage their inherent risks. Now, only those who think that they are omniscient with regard to both interest rate movement and equity and fixed income prices do nothing.

Qualified DC

In my experience, very few companies even evaluate their risks here, but most companies have them. Consider these:

• Suppose an employer provides a matching contribution in their 401(k) plan and all of their communications to employees are successful. Then, employees will contribute more and employers will be on the hook for more matching contributions. Isn't this a risk? I think it is. How many companies forecast this under any, let alone many scenarios? Shouldn't they?
• Many private or closely held companies sponsor ESOPs. When a private company sponsors an ESOP, isn't there really only one way to pay out plan participants when they terminate with a vested benefit? And, isn't that to repurchase the shares? I know that there are some companies out there that perform (or have done for them) an assessment of their repurchase liability. For the ones, who don't, in my opinion, they are just rolling the dice.
• I've seen a lot of companies scrap their defined benefit plans in favor of a profit sharing plan. In doing so, they make an implicit promise to their employees (not all companies do this, but there are enough that do), that they will contribute at least some minimum percentage of pay to the plan on behalf of each employee. Suppose business is bad. Suppose there are no profits to support these profit sharing contributions. That's pretty risky. The old way of sponsoring a profit sharing plan, basing contributions on and sharing profits, is probably more prudent. 

Nonqualified plans

Why don't employers (as a group) manage their risks in these plans? Are the obligations too small to worry about? Is it because they are just executive plans and since they may not get ERISA protection, they are not worthy of risk management? Is it because they don't know how? Is it because they have never thought about it?

Let's go back a few years, say to some point before 1986 (there were sweeping changes to tax laws including the treatment of certain life insurance products). Nonqualified plans were much smaller than they are now. But the promises made in many of them were just plain silly. 

I'm aware of one former Fortune 100 company (the company no longer exists due to acquisitions, but its particular identity is irrelevant) that promised a return in excess of 20% annually in its NQDC plan. They funded the plan using COLI, and they could point to broker illustrations that showed that all was taken care of. [pause for me to laugh out loud] I'm sure that there were other companies out there that did similar things. Remember that whoever it was that designed the plan (internally) was going to benefit from that large rate of return. If they were at the level that they were involved in the design, they were probably at least 40 years old at the time and they were smart enough to know that it doesn't take too many years at a guaranteed 20+% rate of return to build up a pretty good nest egg. And, they also knew if they thought about it that the risks that they created for the company wouldn't become really apparent until after they had become a wealthy retiree.

Why didn't this company manage this risk better? They were using the same mentality that many others have used in a retirement plan investment context -- that of total return. And, their assumptions were overly optimistic.

I'm going to make a bold statement (it's not really so bold, but teeing it up this way gets your attention better). Whether it be on a micro basis (at the plan level) or on a macro basis (at the enterprise level), it is critical that companies manage their nonqualified risks. This means that it is incumbent upon them to set aside assets to appropriately manage those risks (whatever that means to the particular company). While it may seem prudent to make the play that, on average, minimizes financial accounting costs, this is often wrong. While it may seem prudent to take the position that managing cash flow, in a way that on average, minimizes that cash flow, this is often wrong.

I'm going to attempt something drastic here. I'm going to try to insert a graphic in this blog (people over the age of 50 should generally not resort to such technological indulgences).

Tell me, in this matrix, which risk do you really want to take additional steps to actively manage? If I ask people (limited to ones that I consider to pretty intelligent), they assume that this is a trick question. Of course, they want to focus on the northeast corner -- the one with high risk and high likelihood. Think about it. Aren't these the risks that they are already very actively managing? With regard to these risks, companies tend to be fully insured, fully hedged, or at least fully something. They don't let these risks go unwatched. They know that they could bring down the company.

Does anyone remember what happened to BP in the Gulf of Mexico a few months ago? The likelihood of that event was small, but the downside risk was immense. Similarly, does anyone remember the performance of assets and liabilities together during the 10-year period that just recently ended? We had about 4 years of "left  tail events during that 10 year period (the left tail in a normal distribution is where you usually find the low probability, but very poor outcome events). In other words, 40% of the time, we had an outcome that models said would occur less than 5% of the time. What went wrong?

I could go on and on about what went wrong in terms of bad models, bad laws, bad accounting rules and the like, but that's not the point. The point is that not enough companies prepared for this low-probability event. Now, risk management in pension plans is all the rage (at least for companies that still sponsor pension plans). As time goes by and the rich get richer (they do, don't they?) nonqualified liabilities grow rapidly. And, as those liabilities grow, companies are actively managing the risks attendant to those plans, right?

WRONG!

Some have looked at this carefully, but you can probably count that list of some pretty darn quickly. Am I suggesting that companies formally fund their nonqualified obligations in a secular trust? Probably not, the tax rules usually don't work. Am I suggesting that they fund in a rabbi trust? Maybe, perhaps more than maybe. Am I suggesting that they somehow evaluate their low probability, high magnitude risks in their nonqualified plans and then quickly take reasonable steps to ensure that those risks will not get in the way of the successful operation of their company?

With due credit to Rowan and Martin's Laugh-In, you bet your bippy I am.

Do it now, and do it right, and if you're not sure how, let me help you do it.

CSN Giveaway Results

I chose the winner via random.org. The winner is Aubrey Laine. Aubrey will be receiving the $35 promotional code via e-mail from me. Congratulations!

Not Just Bad Hires Are Costly

Just a few minutes ago, I reported on a CareerBuilder survey noting that bad hires are costly: http://johnhlowell.blogspot.com/2010/12/bad-hires-are-costly.html

I've recently done an informal survey of some corporate executives (generally CFO and top HR officer). Their opinion (more than two-thirds of a relatively small sample) is that poor talent management is a bigger problem. Here are some things that they cited:

• Senior people often have significant customer/client contact. Often, losing those people through reductions-in-force or unwanted termination costs customer relationships.
• Goals that are too objective cause undesirable behaviors, most frequently a lack of teamwork
• Goals that are too subjective often result in low morale as too many people think that their incentive payments do not properly reflect their contributions
• Continuity is undervalued
• Replacing senior people who leave (unwanted) often costs more than 150% of their annual compensation
• The half-life of sometimes full-life of bad will (both on remaining employees and former employees) created through involuntary termination is immeasurable

I have no particular expertise in this area, but the people that I surveyed do. Caveat employer.

Bad Hires Are Costly

According to their press release, 67% of companies responding to a CareerBuilder survey reported that a bad hire in the last year was costly. That's pretty dramatic, huh? Not really. Among employers with more than, say 250 employees, my guess would be that most did some hiring (even if only to replace natural attrition in key positions) in the past year. In fact, I find it miraculous that one-third did not make a bad hire that cost them money. Perhaps they are not looking hard enough.

If we look at some of the other data, 24% said that a bad hire cost them at least $50,000 and 40% said that a bad hire cost them at least $25,000.Among the reasons that they gave were these (in order by prevalence):

• Lost time to recruit and train another worker
• Less productivity
• Lost money to recruit and train another worker
• Negative effect on employee morale
• Negative effect on client relations
• Fewer sales
• Legal issues

Again, none of this is particularly surprising to me. In fact, the biggest surprise to me is the lack of problem hires.

IMHO: Why I Think Health Care Reform Will Stand as Law

Let me start by saying 3 things here:

1. The US badly needs some form of health care reform
2. I think that the PPACA (health care reform) was hastily written, poorly debated, and is not the answer
3. I am not an attorney, and until they start admitting people the Bar who have never attended law school or sat for the Bar Exam, I never will be

That having been said, I can read and I can reason, and I do a fair amount of both, although some may claim that my idea of reasoning doesn't qualify. But, I have read the US Constitution many times. Those who have not are missing out on one of the great documents of the last 225 years, so much so that is has seen only 15 changes since original passage (OK, I know that there have been 27 amendments, but 10 were clarifiers in the Bill of Rights and the 18th was repealed by the 21st).

Because I can read and reason, and because this is my blog, I'm going to say why when I get appointed to the United States Supreme Court (OK, I very likely wont be) or if I did, my vote would be to not overturn PPACA (even though as a citizen, I would like to see it overturned and revamped).

My analysis relies [almost] in its entirety on four parts of the Constitution:

1. The 10th Amendment: "The powers not delegated to the United States by the Constitution, nor prohibited by it to the States, are reserved to the States respectively, or to the people."
2. The Tax Clause of Article 1, Section 8: "The Congress shall have Power To lay and collect Taxes, Duties, Imposts and Excises, to pay the Debts and provide for the common Defence and general Welfare of the United States; but all Duties, Imposts and Excises shall be uniform throughout the United States;"
3. The Commerce Clause of Article 1, Section 8: "To regulate Commerce with foreign Nations, and among the several States, and with the Indian Tribes;"
4. The General Welfare Clause of the Preamble: "We the People of the United States, in Order to form a more perfect Union, establish Justice, insure domestic Tranquility, provide for the common defence, promote the general Welfare, and secure the Blessings of Liberty to ourselves and our Posterity, do ordain and establish this Constitution for the United States of America."

So, what does all this mean? Many have argued that the 10th Amendment precludes PPACA. So, the question is: Is all of PPACA part of the powers delegated by the Constitution? If it is, then it is covered by one of the clauses that I enumerated above. So, let's look at them one at a time.

Does the Individual Mandate of PPACA fall under the Tax Clause? Yesterday, Judge Henry Hudson appeared to have ruled that it does not. He cited that in the original bill language that those who do not have necessary minimum coverage would be subject to a tax, but in the final bill, the word tax was changed to penalty. He cited several cases that give deference to actual language where a different word could have been used. So, why was the language changed from tax to penalty? I suspect that this was an effort to maintain President Obama's pledge that no new taxes be imposed on the middle class.

Does the law in its entirety fall under the Commerce Clause, or if not, do the parts not covered under other clauses fall under the Commerce Clause? This is a tough one. Historically, the courts have construed that virtually everything that involves money and could be construed as crossing state lines falls under the Commerce Clause. Personally, I think this is a load of malarkey. Judicial activism (yes, conservative and liberal judges are equally guilty here) has extended lots of provisions of laws to be part of Interstate Commerce. In fact, there have been whole books written on the oversteps of the Commerce Clause. I certainly don't think that PPACA falls under the intent of the Commerce Clause. Generally, citizens are being asked to have coverage under one of these: Medicare (federal), Medicaid (federal), an employer-provided plan (federal because ERISA preempts state law), or PPACA through a state-maintained exchange. Supporters of the law will say it's covered, but I think they are wrong.

Then there is the General Welfare Clause. I'm afraid that Congress has us here and I hate it. Was the purpose of Congress in passing PPACA to promote the general welfare? I can think of no other reason that it was passed. Opponents will argue (and have) that the Individual Mandate fails for many reasons and that its failure invalidates the entire law. How is this any different though than thousands of other laws that are not covered under the Constitution elsewhere? Consider ERISA, for example. It preempts state law, and under what guise -- that it is best for the general welfare.

I hate it, but IMHO, case closed!

Beyond the Blather, Where Does Health Care Reform Stand after the Virginia Decision?

OK. Judge Henry Hudson has ruled in favor of plaintiffs (State of Virginia) in Virginia v Sebelius. Conservative pundits immediately exclaimed that Health Care Reform is dead. The liberals among that same pontificating group think that this conservative judge just blew it.

Where are we really?

Judge Hudson found, largely through its classification as a penalty rather than a tax, that the Individual Coverage Mandate found in Section 1501 of PPACA (Health Care Reform) is not constitutional. Defendants argued that the provision is allowed under a combination of Congress' right to regulate Interstate Commerce, to tax, to enact laws for the General Welfare, and some other similarly legal terms. The court found for a number of reasons that this provision is a penalty not a tax and defendant's argument imploded.

So, Health Care Reform is dead, right?

Nope! It's still here. First, Section 1501 is not scheduled to take effect until 2014. This gives the higher courts, most notably the US Supreme Court, plenty of time to rule on this issue. Second, there was the issue of whether invalidation of this provision invalidates the whole law, or whether as defendants asked that the remainder of the law stay intact.

Judge Hudson severed. In other words, he did not invalidate the rest of PPACA merely because he invalidated this one provision. Given that Judge Hudson is generally viewed as one of our more (but not most) conservative judges, this is telling. It suggests to this non-attorney that the bulk of Health Care Reform will remain intact, unless repealed by a future Congress and President.

So, temporarily, at least, the projected cost of Health Care Reform has increased by about $4 billion. So sayeth Judge Hudson and the Congressional Budget Office. We're not done yet, though. There are plenty more challenges out there, all as a means to get to the Supreme Court. Surely, the President and his supporters are hoping that he can find a way to get at least one more liberal justice on the Supreme Court. On the other hand, another Republican landslide in 2012 could spell doom for all this. But, this is all speculation.

The verdict is in, as they say on TV, and we still don't know where we are heading.

UPDATE: Judge says Individual Mandate in Health Care Reform Unconstituional

As predicted earlier here, http://johnhlowell.blogspot.com/2010/12/virginia-health-care-reform-lawsuit.html , Disctrict Court Judge Henry Hudson ruled that parts of Health Care Reform including the individual mandate are unconstitutional.

Virginia Health Care Reform Lawsuit Gets First Test Today

Back in early August, a federal judge said that the State of Virginia could move forward in its litigation efforts to block health care reform. Today, Judge Henry Hudson is expected to make his ruling.

What does this mean? In my opinion, probably not much, unless Hudson rules against Virginia. Hudson is a conservative Republican appointee. Perhaps best known for being the judge in the Michael Vick dogfighting case, Hudson was appointed to the bench for the Northern District of Virginia by President George W. Bush. Most pundits believe that Hudson will be the first federal judge to rule against Health Care Reform. If he does, the case will move on to the 4th Circuit Court of Appeals. If he rules that Health Care Reform is, in fact, constitutional, this will be a major blow to opponents of the law.

This observer thinks that Hudson will 'overturn' Health Care Reform, and there is a real possibility that the 4th Circuit will agree with him at which point the case would likely end up in front of the US Supreme Court. What will the Court's make-up be then? How will it rule?

We wait and see, but for now, the first test will be passed or failed with Hudson's decision later today.

Last Week

Last week's posts got a fair number of reads. It tells me a bit about what my readers might be interested in. Among the posts with substance, here were the leaders:

• Health care nondiscrimination rules under PPACA http://johnhlowell.blogspot.com/2010/12/health-care-nondiscrimination-rules.html
• DB Pension Finance Update http://johnhlowell.blogspot.com/2010/12/db-pension-finance-year-to-date.html
• A post on the desire of 401(k) participants for more advice http://johnhlowell.blogspot.com/2010/12/401k-participants-want-more-advice.html
• Public employer funding bill http://johnhlowell.blogspot.com/2010/12/public-employer-pension-funding-bill.html

Again, if you'd like to be reading about other things let me know.

DB Pension Finance Year to Date

Here's an article focusing on year-to-date US DB pension funded status written by my friend and former colleague, Brian Donohue. Note that for the typical plan, without regard to contributions, funded status has probably declined slightly.

You can read it here: http://tinyurl.com/28hv7td

Health Care Nondiscrimination Rules -- What to Do, We All Wish We Knew

PPACA, better known as health care reform, added Section 9815 to the Internal Revenue Code and Section 715 to ERISA, as well as Section 2716 of the Public Health Service Act. It's back to the future we go, or perhaps in the future, we go back to the past.

Confused yet? We all were when Section 89 was added to the Code by the Tax Reform Act of 1986 as well. It took a few years, but the IRS finally gave us Section 89 regulations. The fact that some of you are lost already is testament that Section 89 was repealed shortly thereafter.

But now we have these nondiscrimination rules that apply not just to self-insured health care plans, but also fully insured plans. What does that mean for an employer, or for that matter for an employee? We all wish we knew, but here is my take.

The new law applies the rules of Code Section 105(h) to fully insured plans. And, evidence suggests that Congress will provide the IRS with funds to enforce these provisions.

Problem: Section 105(h) has been around for a long time and nobody is entirely sure how the rules work. The rules are much like the old coverage and nondiscrimination rules for qualified retirement plans that applied pre-1986. Under those, there were generally three coverage tests that an employer could pass, and one of them was so vague as to be ludicrous.

Good news: When the rules under the Internal Revenue Code are so vague as to use words like "reasonable classification" and "fair cross-section", the courts have usually ruled against the IRS. However, we will likely, IMHO, be getting some more detailed rules with tighter wording.

Bad news: If the IRS does publish regulations that are less vague, the courts have shown a pattern of giving deference to IRS regulations and the methods contained therein.

So, what should employers do for 2011 (for calendar year plans, this all applies beginning in 2011)? My observation is that many companies will ignore these new rules until we have some formal guidance from the IRS. While this may turn out to be the winning approach, this would not be my recommendation. In my opinion, companies should establish that they are reasonably complying with these rules. Establish that plans are not more favorable either in coverage or in levels of benefits available for high-paid than for low-paid. Again, when there are no regulations, reasonable compliance with documentation tends to be a winner.

For companies that cannot pass, they need to develop a strategy to satisfy these rules. Once enforcement actually begins, penalties could be harsh. But, before you panic, two types of plans seem to be exempt: those that are considered "grandfathered plans" under PPACA and those of employers who on average employed 50 or fewer employees during the preceding plan year.

Failure appears to subject the plan to an excise tax under Code Section 4980D of $100 per day of failure ... per person. That could be enormous.

For retiree medical plans and perhaps for benefits earned while working for post-employment benefits, failure, by my read, could result in 409A violations.

All of this is bad. Hopefully, regulations will help, or these sections will be repealed ... once again.

Defined Benefit Plans Valued Again in US?

Here's an article from Towers Watson on a survey that they did. TW surveyed 3000 US workers earlier this year and found the following:

• 60% of employees with less than 2 years of service with their employer who sponsors a DB plan said the retirement program was a key reason that they took that job, up from 27% a year earlier
• 72% said the retirement program is a reason they will stay with their employer up from 51% a year ago
• 4 of 5 workers at companies with DB plans said that they would like to stay with that company until they retire
• The percentage of workers under the age of 40 (working for companies with DB plans) who cited that as an important reason to work for their current employer jumped from 28% last year to 43% this year.

Is it time to consider putting in a new DB plan?

You can read Towers Watson's summary here: http://tinyurl.com/294d4nk

Talk to Me

I'd love to hear your thoughts. Reply via comment or e-mail me. What are your current thoughts on benefits and compensation? What would you like me to blog about? What else is on your mind?

What is Valued From a Benefits Consultant

I'm going off topic a little bit here, but I think this is useful. Chances are that if you are reading this, you fall into one or more of a few categories:

• You are a benefits consultant of some sort
• You engage benefits consultants, at least occasionally
• You are an internal plan administrator
• You work with a firm that administers plans for others
• You manage or help to manage plan assets
• You are an attorney or an accountant in which case this may apply to you as well
• You are bored
• You just like my blog and enjoy reading it (I just thought I'd throw that one in on a lark)

Fact: I've never hired a benefits consultant. So, what do I know about what I would value in a benefits consultant? That's not the point here. I've worked as one and I've gotten feedback from clients and prospects.

Here are a few points that I have heard consistently over the years as being important.

• We want experts. We do not want people consulting to us who have the same level of knowledge that we do. We want people who have deep knowledge and understanding in an area and can use that to bring us a better solution.
• Don't miss deadlines! As a consultant, you often just don't know how critical this is. I think back to a very large former client of mine from a prior life, so to speak. I always thought we were doing well in this regard. The client was very demanding. We missed deadlines very rarely. I was having a periodic discussion with one of our key contacts to find out what we were doing well and what we could do better. She said (and while I am using quotation marks here, I am going from memory): "You are not bad at meeting deadlines." I was dumbfounded. I thought we were doing well. She went on, "You usually make your deadlines, but barely. If you promise me something on Thursday, I usually get it on Thursday ... evening. How come you never beat a deadline?" Ouch! That hurt, but it was instructional.
• This next one applies to consultants, but to attorneys as well. We want people who understand the rules, but will help us to run our business. We don't want people who will only tell us what we can't do, we want business partners who will tell us what we can do.
• We want communicators. As one CFO told me, "I am smart enough to learn this stuff, but I don't have time or the inclination. I want someone who can translate all this crap into my language and discuss it with me on my terms."
• We want integrity.
• We want creative solutions that cater to us. We don't want the same recycled solution that you gave to our competitors.
• And finally, GET IT RIGHT.

So, there you have it. I could write more, but then you would all fall into that category of being bored. If any of you have ever used me as a consultant or should choose to in the future, I hope that I follow these guidelines.

401(k) Participants Want More Advice

Do you sponsor a 401(k) plan? Do you participate in a 401(k) plan? I would bet that if you live in the US that at least one of these is true, otherwise you wouldn't be reading this.

NEWS FLASH: A recent Wells Fargo survey indicates that many participants do not know how much money they will need for retirement. However, 79% said they want more advice from their employers. Further, large numbers (spanning all 5 generations, presumably Boomer, X, Y, Millennial, and Z) would favor legislative and or regulatory change to facilitate the provision of such advice by employers.

82% of respondents said that a lifetime income option should be made available. Why is it then that in situations where the plan does not offer such an option, virtually nobody buys their own annuities? Could annuity design be bad? Is pricing bad? Are the participants from the ' do as I say not as I do mold?

Perhaps most alarming is that 56% of 50-somethings are confident or very confident that they will have the money they need to maintain their existing lifestyle in retirement, yet the median retirement savings of those aged 50-59 is just $29,000 according to the survey. I agree that this is alarming -- very alarming. But, I am going to call out Wells Fargo on this one. How do you know that their median retirement savings are only $29,000? Do they have all their retirement savings with your bank? Are you sure? I have one 401(k) account balance with something less than $15,000 in it at the age of 53. Does that make me unprepared? Does whoever would be researching me know if I have any pensions? Do I have any IRAs? Outside investments? Other 401(k)s? I've seen this sort of statement many times from most (perhaps all) of the big players in the recordkeeping business. Shame on all of them.

I'll go back to being nicer now. I agree with most of Wells Fargo's conclusions. The current system isn't working. Congress needs to be part of the solution and IMHO, they have more frequently been a big part of the problem.

$35 Giveaway from CSN Stores

The fine folks at CSN Stores have agreed to sponsor a $35 giveaway on my blog. Each entry has an equal chance to win. Family members of mine are not eligible.

CSN Stores has over 200 online stores where you can find everything from stylish furniture to leather messenger bags to great cookware.

Here are the contest rules:

• One winner will be chosen and announced on this blog through a random selection process using a random number generator to select the winning entry.
• The winner will receive a $35 promotional code from CSN Stores. CSN Stores is responsible for providing this code and for its validity. Neither this blog nor John Lowell is responsible for this code, its value or its validity.
• Here are the ways you can receive an entry in the blog. All but the first one are optional, but you must complete the first one in order to receive any entries:
1. Comment on this post telling me how you will spend the $35 code if you win (1 entry)
2. Become a follower of my blog (or tell me that you already are) (1 entry)
3. Follow me on Twitter @johnhlowell (1 entry)
4. Make a valid (I am the sole judge of whether or not a suggestion is valid) suggestion for a future blog topic for this blog (1 entry)
5. Send me useful information for the blog topic in #4 above (2 entries)
6. Retweet this and provide a link to prove it. (1 entry for every 100 followers that you have on Twitter up to a maximum of 3 entries)
7. Blog about this opportunity and provide a link to prove it (3 entries)
• This contest will close at 12:00 noon EST on Wednesday, December 15, 2010
•  Be sure to leave a valid email address otherwise I won't be able to contact you if you win.  No contact = No win!  If the winner does not contact me within 48 hours, a new winner will be chosen.  Good Luck!

GOP-Obama Compromise Would Lower 2011 Employee Portion of FICA Taxes

Have you been hiding under a rock? If you are reading this, I'm guessing not. In that case, you know that (surprise, surprise) the President and Congressional Republicans reached a compromise yesterday.

The well-publicized items were that:

• The so-called Bush tax cuts (enacted through EGTRRA in 2001) will become permanent for incomes less than $200,000 (for singles) and $250,000 (for married)
• For higher earners, those cuts will delay their scheduled sunset until the end of 2012 presumably setting up more Congressional warfare after the 2012 elections
• Renew jobless benefits for the long-term unemployed

Not publicized, but perhaps more important to many were these:

• A 2% of pay reduction in the employee-provided portion of FICA (Social Security) taxes for 2011 only. What this means is that workers will get an effective pay increase for 2011 of 2% on the first $106,800 of pay. This may not seem like much, but more US workers than not pay more in FICA taxes than they do in federal income taxes
• Estates would be taxed at a 35% rate for amounts in excess of $5 million

Beware! This is not law yet. House Democrats will need to support this in order to pass it in December. And, whether an associated bill comes to the Senate floor during the lame-duck session of this Congress or during the next Congress, a meaningful number of Senate Democrats would have to support passage in order to make it law.

We'll continue to cover this here.

Public Employer Pension Funding Bill Introduced

Yesterday, three Republican Congressman (Devin Nunes and Darrell Issa of California, and Paul Ryan, incoming Budget Committee Chairman from California) introduced the Public Employee Pension Transparency Act (PEPTA). Under PEPTA, sponsors of public pension plans would need to disclose the following:

• Funding status including:

• Plan's current liabilities as measured for accounting purposes
• Plan assets available to pay for that liability
• The amount of unfunded liability
• The funding percentage
• A schedule of contributions for the year indicating which are counted in disclosed plan assets

• Alternative projections based on regulation from Treasury
• 20-year forecast of 
• contributions
• plan assets
• current liability
• funding percentage
• other information required by Treasury
• Using assumptions specified in regulations
• And specifying assumptions used for
• funding policy
• plan changes
• workforce projections
• future investment returns
• Statement of actuarial assumptions and methods
• Participant counts, including active, retired and deferred vested
• 5-year history of actual investment returns
• Statement explaining how the sponsor plans to eliminate the plan's underfunding
• Statement explaining to what extent the funding policy has been followed for the last 5 years
• Statement of pension funding bonds outstanding

Failure to comply will make the sponsor ineligible to issue federally tax-exempt bonds. 

You can find the PEPTA language here: http://nunes.house.gov/_files/NUNES_068_xml.pdf

The informational posting on Congressman Nunes' web site is here: http://www.nunes.house.gov/_files/PensionTransparencyTrifold.pdf

Supremes to Hear 9-Year Old Wal-Mart Pay Discrimination Case

Yesterday, the US Supreme Court agreed to hear the 9-year old class action gender bias suit originally brought by Betty Dukes. The case, fashioned as Wal-Mart Stores Inc v Betty Dukes, et al, relates to claims of gender discrimination with regard to both compensation and promotions. It is particularly controversial in that the case has moved forward (through the 9th Circuit which is based in California and known by many in the legal community for making particularly outlandish employer-unfriendly rulings) despite the plaintiffs in the class action being from a broad variety of US geographies.

Supporters of plaintiffs argue that this is the only way that large companies can be held accountable for their misdeeds. Opponents argue, among other things, that allowing litigation of this sort to go forward results in massive litigation costs for the defendant and could result in extreme damage awards or settlements regardless of the guilt of defendants.

From a purely personal standpoint, and without regard for the legalities as I continue to neither be an attorney nor have any formal legal training. I can see merits for each side of the argument. In cases like this, companies such as Wal-Mart could be inclined to settle cases where they truly have no guilt because the cost of settlement might be less than the cost of litigation. On the other hand, plaintiffs going it alone or in small groups bear a tremendous cost of litigating a matter of this sort. In cases where I have relevant knowledge, corporate defendants have a history of filing motion upon motion to bury defendants in both paperwork and legal fees to respond to the motions. For an individual or even a small class to carry such litigation to fruition may have prohibitive costs.

How the Supreme Court will rule on this one is anybody's guess. Yes, the court does still have a 5-4 conservative (generally business-friendly) bias, but this could easily be a case in which the court decides to send a message one way or the other. We'll see in mid-2011.

GINA Strikes and She's Not a Hurricane ... Yet

Back in 2008, President Bush signed into law something called the Genetic Information Nondiscrimination Act, usually known as GINA. Does GINA apply to your company?

Generally, if you have 15 or more employees, GINA does. What it does is prohibit an employer or employer plan from discriminating against an employee based upon their genetics. That makes sense, doesn't it? Yes, it probably does, but so did the Americans with Disabilities Act (ADA), and we have seen what has happened under ADA.

Conditions are covered under ADA that this observer thinks were never intended as disabilities. Workplace accommodations have been required for some of the silliest things. Why is it that if you apply for Social Security, being disabled means one thing, but under ADA, disability means something completely unrelated. It's a simple word. Let's parse it: disability -- roughly akin to not being able. Disability and discomfort are not the same thing.

And, so I fear for poor GINA. What will wind up being considered genetic? Could the law wind up going so far as to suggest that the propensity to smoke cigarettes is genetic in nature? Is the propensity to overeat genetic in nature? Is the propensity to undereat genetic in nature?

Who knows, but as I say, I fear for the health of GINA.

You can read the final regulations here: http://www.federalregister.gov/articles/2010/11/09/2010-28011/regulations-under-the-genetic-information-nondiscrimination-act-of-2008

10 Retirement Plan Compliance Errors That I Have Seen Too Many Times

Do you manage or administer a qualified retirement plan? If so, are you getting it right?

Actually, I'm sure that you are. If you're reading this, you are probably one of those few who is getting it right. In that case, you might be humored to see some of the errors that others are making. And, oh, maybe, just maybe, you'll find your plan(s) in here as well.

For the uninitiated, my 'top 10' lists aren't necessarily Top 10. They may not be the biggest or the baddest. They are just my observations in the order that I feel like typing them.

To poorly paraphrase Lesley Gore (and whoever wrote the lovely words that she sang): "It's my blog and I'll write as I want to."

1. Plans are written to preclude employer discretion, but the administrators exercise it anyway. They give plan loans on a discretionary basis. They give in-plan investment advice to some, but not to others. They make exceptions to plan language when it seems like the 'right' thing to do; for example, they will allow a participant who really needs the money to take a $5,000 lump sum from their defined benefit plan even though the present value of the participant's vested accrued benefit is $5,500.
2. When they do (or have done for them) nondiscrimination testing, they ignore little things like benefits, rights and features. The worst one of these that I have ever seen was in a plan document that offered a subsidized lump sum option (in a US qualified plan) only for British nationals. And, there was only one of them in the company -- the Senior VP of Human Resources.
3. Nondiscrimination testing is on a controlled group basis for everyone else, but not for them. For them, it's just an inconvenience that they choose to ignore. Such complex issues shouldn't stop them from being in compliance.
4. Defined benefits are calculated incorrectly or inconsistently. One person doing calculations rounds credited service up, another rounds it down. One person uses early retirement factors assuming that the participant is age nearest. Another assumes age next, and the third interpolates.
5. SPDs don't accurately reflect plan documents. This is a biggie. See my post: http://johnhlowell.blogspot.com/2010/12/how-important-is-your-summary-plan.html
6. Plan loans are repaid in ways that the plan document does not allow. Some (perhaps many) plan documents only allow plan loan repayment through payroll reductions. Yet, the administrators of those plans will gladly accept personal checks as payment toward the outstanding balances.
7. Domestic relations orders are treated as qualified when they are not. This occurs when the plan's QDRO administrator (assuming they have one) treats their own job cavalierly. Oh, the "QDROs" I have seen. Most family law (that's a euphemism for divorce that the legal world has come up with) practitioners don't understand defined benefit plans. So, in their draft domestic relations orders that they produce, they split account balances (where account balances do not exist), they do not specify actuarial assumptions where such assumptions are necessary, they grant optional forms of benefit not allowed under the plan, and they allow for distributions at times that neither the plan nor the law allow. But, these DROs are 'qualified' as QDROs.
8. They pay disability benefits in excess of the qualified disability benefit. OK, this one is pretty darn technical. Code Section 411 (the one dealing with vesting and accruals) essentially says that if the disability benefit that you can get from the plan exceeds the retirement benefit you can get from the plan, then the bigger of the two becomes the retirement benefit. Especially in collectively bargained defined benefit plans, this happens frequently, but I've never seen it administered in accordance with the Code.
9. If you administer a qualified plan, you probably have a nonqualified plan as well, so I am going to sneak this one in as well. Your top-hat plan may not be. Have you evaluated your plan participation (or had someone do it for you)? Are all of your participants in a top-hat group? If not, you're not the only one.
10. Not all of those annoying yes/no questions on the plan's Form 5500 have been filled out properly. Yes, you are checking the boxes that keep you out of trouble, but they may not accurately reflect what is happening in practice. Could you be perjuring yourself?

Oh, by the way, if you have these or other problems, I might be able to help.

Unsure About Tax Rates Rising, Defer Anyway!

Where do you think your marginal tax rate will be in 2011? How about in 2012? 2013? You don't know? You're not sure? If you're a high earner, let's say $500,000 or more, are you concerned? Of course you are.

Should rising tax rates changes your deferral behavior? To the extent that you will have less take-home pay, perhaps it should. To the extent that you have a fear of deferring at a lower marginal rate and later being taxed at a higher marginal rate, the answer may surprise you.

Here is an article written by a few former colleagues of mine that I reviewed : http://tinyurl.com/24bfyhy 


To quote from the article, "As shown above, the advantage of deferred compensation is impacted by changing tax rates. Although it may seem counter-intuitive, a long-term increase in tax rates during the deferral period actually provides the greatest relative advantage for deferred compensation."


Let me re-phrase: when marginal tax rates are rising over time, there is more advantage to deferring compensation (assuming security of course) even on a nonqualified basis. In a qualified plan, there is even more advantage.


So, put your intuitive thinking aside, take a look at the article and consider deferring what you can,

401(k) Design: How Do Matching Contributions Affect Participant Behavior?

You can find survey upon survey, and study upon study. Just how does 401(k) plan design affect participant behavior? Intuition says that when you increase the employer matching contributions, participants will defer more. However, a study by Choi et al suggests the contrary to be true (you can see my comments on that study here: http://johnhlowell.blogspot.com/2010/11/does-401k-match-not-promote-savings.html ). Conversely, a large number of studies suggest that as employers increase their matching contributions, employees increase their 401(k) plan deferrals.

But, how does specific design affect participant behaviors? Which way of offering a 2% of pay match gets participants to defer the most? The Principal Financial Corporation did an interesting analysis of this question. They considered these three matching schemes:

• 100% on the first 2% of pay deferred
• 50% on the first 4% of pay deferred
• 25% on the first 8% of pay deferred

In the first scenario, they found that the average participant deferral was 5.3% of pay. In the second scenario, it was 5.6% of pay, and in the third scenario, it was 7.0% of pay. And, for the three scenarios, total additions to participant accounts were 7.3%, 7.6%, and 8.8% of pay respectively. Interestingly, the third scenario costs the employers the least, but prepares participants best for retirement.

Excellent food for thought. You can read Principal's summary here: http://www.principal.com/about/news/2010/ris-match-stats113010.htm

Time Out to See if You Would Like An Opportunity to Win Free Merchandise

If you could occasionally win free merchandise (no strings attached, no further obligation) just by following my blog and commenting occasionally, would you do it?

It's as simple as that.

IMHO: On High-Deductible Health Plans

High-deductible health plans or HDHPs became all the rage earlier in this decade (yes, a decade begins in a year that ends in 1 and ends in a year that ends in 0). Many have called them consumer-driven health plans as the consumer has a higher financial incentive to choose as a financial buyer.

Their use was supposed to do lots of great things:

• Slow health care inflation
• Provide an incentive to stay healthier
• Generally slow the tide of chronic health conditions such as hypertension, high cholesterol, etc.

Now, understand that I am not a health care expert and I have not taken a formal survey, but I am a consumer of health care services and I do have a fairly large network of people that I talk with. I have been in an HDHP as often as not this decade. Many of my network have as well.

My strong opinion is that HDHPs lead to increases in health care inflation. Yes, you read that correctly. Here is my reasoning. Under HDHPs, initial care is paid for by the consumer, or the patient if you prefer. So, where patients used to go to see their physicians at an early sign of a problem, now they tend to delay. And, that delay, again in my opinion, allows conditions to fester making them worse, and more expensive to treat.

What evidence do I have? I have personal evidence, evidence from family, evidence from friends, and evidence from co-workers. In fact, I have yet to experience a single person from that group who likes being in an HDHP.

But, they do save employers money. How? Through significant redesign and re-packaging, larger percentages of total health care costs are being passed on to the employees and their families. Several companies on which I have seen real data are picking up the inflationary (not health care inflation, but general inflation which has been exceedingly small) costs of health care and passing on the other increases to employees. So, while employees get pay increases (some years) that barely keep up with inflation, their benefits costs increase far more rapidly. 

In technical terms from an employee standpoint: this ain't good (excuse my diversion into poor English).

What works? Again, this is not my area of expertise, but common sense should provide the answer. Give employees an incentive to engage in proper behaviors. While generally it is not permissible to charge higher health premiums in an employer-provided plan for higher-risk individuals (smokers being the exception), it is permissible to charge less for employees who are either lower-risk or who are taking appropriate steps to control their existing risks.

My evidence suggests that this works.

Just like a company saves money by having employees in tip-top physical condition, it also saves money by providing an incentive for those in less ideal physical condition to control their chronic conditions. For example, if an employee's blood pressure is 170/120, this is considered to be hypertensive. Perhaps there is nothing from a behavioral standpoint that the employee can do to control this. But, in most cases, medication can control that hypertension. It is in the employer's best interest that this employee take appropriate medication for that hypertension. To the extent that the employee does take steps to control the hypertension, he or she should be eligible for the appropriate discounts.

So, again, in my opinion, wellness works and HDHP doesn't.

Poll Shows Percentage of Pension Plans Using LDI Staying Relatively Steady

An SEI poll of 110 defined benefit plan sponsors says that 50% of 110 respondents (down from 54% in 2009, but up from 20% in 2007) are using liability-driven investing (LDI) in their plans. Just as interesting to me though is that the most prominent definition of LDI in the poll has changed from "matching duration of assets to duration of liabilities) to "a portfolio designed to be risk-managed with respect to liabilities."

"Hmm", says this writer. That first definition sounds like it has some structure to it. The second one sounds like wishful thinking. Perhaps there was no really good answer available in the survey and the most popular choice for 2010 was not necessarily the best answer, but it was the best choice among the answers available.

38% of respondents said that their primary benchmark was to improve funded status. 22% said that their primary benchmark was to minimize or control contributions. Funded status was #1 last year as well, but absolute return was the #2 benchmark in 2009.

This still seems backward to me. Perhaps I am wrong, but it strikes me that where a company has (at least from a mindset standpoint) committed to providing a pension to its employees, the goal should be to provide those benefits at the lowest cost possible (however that company measures cost), at the same time keeping its attendant risks low enough that the pension plan never interferes with the company's ability to run its business.

You can read more details on the survey here: http://www.plansponsor.com/LDI_adoption_steady_definition_fluid.aspx

IMHO: Does the PBGC Understand Why it Exists?

The Pension Benefit Guaranty Corporation (PBGC) was formed by ERISA in 1974. While I wasn't in the benefits business then, my understanding is that the agency was formed to protect private pensions in much the same way as the FDIC protects certain bank accounts.Similar to the FDIC, the PBGC protects pensions up to certain limits.

Yesterday, an American Benefits Council consultant, Kenneth Porter, testified before the Senate Health, Education, Labor and Pensions Committee (HELP) that the PBGC may be doing just the opposite. I largely agree with Mr. Porter's testimony. You can read a brief summary of it here: http://www.plansponsor.com/Some_PBGC_Policies_Shoot_its_Own_Foot.aspx .

I will preface by saying that I have a number of friends who work at the PBGC. If they happen to read this, some will certainly not like my comments. But, it's MY blog, and that gives me the opportunity to express my opinion.

At the same times that private pensions have been very well funded, the PBGC has reported little or no shortfall in its annual report. When pensions have been poorly funded, the PBGC has reported larger shortfalls. DUH!!! (sorry for the 14-year old interlude there). Shouldn't this be the case? And, if this is the case, shouldn't the PBGC be hedging against this sort of obligation? Instead, again in my opinion, the PBGC has become part of the problem.

To my understanding, each major pension reform since 1987 has had major PBGC influence. Look at some of the additions to the Internal Revenue Code and or ERISA:

• The deficit reduction contribution and additional funding charge
• The concept of current liability
• The variable rate premium (a good addition, in my opinion)
• The elimination, in my opinion, of reasonable actuarial cost methods by the Pension Protection Act (PPA) of 2006. 
• The imposition of participant notices (not very useful, in my opinion as a plan participant) under ERISA 4011
• The burden or ERISA 4010 notification

Does it really protect pensions to continually increase the maintenance burden on plan sponsors? Or, does it protect the PBGC by having fewer participants in fewer private pensions accruing benefits?

As a participant, I'd rather have the opportunity to accrue additional benefits even if those additional accruals don't have PBGC protection. Perhaps I won't ever get them, but at least I have a chance.

Shortly after the passage of PPA in 2006, I wrote to one of my US senators who was one of the co-sponsors of the Act and was instrumental in getting certain provisions into the Act that did help to preserve pensions and jobs in my current home state. I praised him for his work on behalf of that significant employer and others like it. But, I asked him in the same letter about how the Act actually preserved pensions. His reply focused on how PPA would serve to strengthen the PBGC.

Say what?

Four plus years later, my observation is that companies continue to freeze and terminate private pensions. To me, "pension protection" is not just about protecting accrued pensions, it's about protecting future pensions, and in my opinion, PPA under PBGC's influence has failed miserably at that.

Before departing for a different topic, I must give praise to the PBGC where it's due. In recent years, the PBGC has much more aggressively taken over private pensions to assure that most participants will get the benefits that they have earned. But, that is little solace to all those participants who are no longer accruing benefits because legislation over the last 20+ years has convinced their employers to cease providing those pensions.

How Important is Your Summary Plan Description ... Supreme Court to Weigh In

Yesterday, the US Supreme Court heard oral arguments in CIGNA Corp v Amara. The crux of the case appears to be whether a participant was likely harmed by reliance on the SPD rather than the plan document. As many readers will know, most ERISA SPD's (at least in my experience) contain language saying that where the SPD and the plan document differ, the document will govern.

In a case where the two differ in a material fashion, does the participant have the right to rely on the SPD (which he or she has necessarily received) or does the language in the plan document govern, regardless? Plan sponsors would like to believe that the document governs, but the Supreme Court may decide this, perhaps once and for all.

In the instant case, it appears that the SPD promised more generous benefits than did the plan document. CIGNA through its counsel that regardless of any discrepancy, a plaintiff needs to demonstrate that they have been harmed [by their reliance on the SPD].

The Supreme Court has asked some challenging questions. Quoting:

Chief Justice Roberts: "The whole point of these plans is to give people some comfort and assurance" [about retirement].  "And your formulation would put that up in the air and say: 'We don't know if you are going to be harmed or not; wait until you are 65 and we will see.'"

Associate Justice Kagan:  "[T]he SPD can't negate the force of ERISA," Kagan said, "and if ERISA says that the summary has to be consistent with the plan documents, nothing in the SPD can negate that requirement." 

Associate Justice Kagan:  "So doesn't this give an incredible windfall to your client, Cigna, or to other companies that commit this kind of intentional misconduct if you hold them to this detrimental reliance standard?" 

The case has not been decided yet. Frankly, I'm not a particularly experienced observer and I don't know how long it usually takes. I also don't know which justices tend to give away their positions with their lines of questioning. However, I find this interesting from several standpoints:

• I have rarely seen an SPD that does not have some discrepancies from the associated plan document.
• If the Supreme Court finds for plaintiffs, how many employers will be scurrying to check their SPDs to see that they comport with plan documents?
• Will the drafters of the SPDs, if they are outsiders be checking their E&O coverage?
• Would an end result of a decision in favor of plaintiffs cause employers to simply provide fewer ERISA plans?

Stay tuned ...

It's Extremely Important to Have Complete and Accurate 409A Documents -- So Says the 11th Circuit Court of Appeals

On November 16, the 11th Circuit Court of Appeals rendered its decision in Graphic Packaging Holding Corporation v Humphrey. You can read the decision here: http://scholar.google.com/scholar_case?case=7196368006507516478&hl=en&as_sdt=2&as_vis=1&oi=scholarr

Despite their growing numbers, most of us are not attorneys (I'm not) and don't revel in the reading of court decisions, so I'm going to try to save your eyes (and your brain) some serious pain. Rather than going through all of the court's legal reasoning, we'll look at this one from the proverbial 30,000 feet. In other words, we'll hit the high points and give you a VERY key lesson to be learned.

Mr. Humphrey was the President and CEO of Graphic Packaging (GPC) (or one of its predecessors) from 1997 through 2006 and served as its Vice Chairman in 2007. He retired from GPC on December 31, 2007 as a   specified employee (a term of art under Code Section 409A that usually requires that the employee experience a 6-month delay in payments from a nonqualified deferred compensation (NQDC) plan). Mr. Humphrey was a participant in such a plan, the"2004 Stock and Incentive Compensation Plan" under which he received a number of restricted stock units (RSUs).

Because the GPC stock declined in price over the period from December 31, 2007 until June 30, 2008, Mr. Humphrey's RSUs were worth less at the end of the 6-month period. When GPC paid him out his RSUs, they paid him the smaller amount.

Mr. Humphrey sued and the 11th Circuit Court of Appeals ruled in his favor.

Without going through all of the legal mumbo-jumbo, the court reasoned the following:

• Code Section 409A does not specify how the amount of  a payment should be calculated at the end of the 6-month waiting period for specified employees. It does not mention a valuation method or valuation date and does not mention the accrual of interest.
• The plan document did not specify how the amount of the payment should be calculated either.
• The company (or their counsel/advisers) wrote the plan document and the onus was on them to get it right.

So, the lesson is that an NQDC plan should answer these questions and answer them clearly and unambiguously. Do your plans do that? Many that I have seen do not.

Suppose they don't. Notice 2010-6 as amended by Notice 2010-80 (you can read about it here: http://johnhlowell.blogspot.com/2010/12/your-eyes-are-not-failing-you-we-have.html ) generally allows plan sponsors to amend their 409A plans by the end of 2010 without penalty (this is a generality and you should not assume that you have no penalty without a specific understanding of your facts and circumstances). A complication might occur if this was a material modification to the plan document, but as it will not uniformly improve the benefit for employees, my non-legal take on this is that it will not be a material modification. In either case, get your plan amended to say what it should say. Make sure that it is reflective of past practices and that future practices will follow the plan.

If I were in an employer's shoes, I would look to an expert for assistance with this, and not necessarily the attorney who drafted the plan. Attorneys are experts in legal issues, but often are not in plan administration and this particular issue has implications for administration. I would look to a consultant with knowledge of the law, knowledge of the administrative issues, and the ability to understand the issues.

As always, this author does not provide legal, tax or accounting advice.

Your Eyes Are Not Failing You -- We Have GOOD 409A News

The IRS and the Treasury Department have released Notice 2010-80: Modification to the Relief and Guidance on Corrections of Certain Failures of a Nonqualified Deferred Compensation Plan to Comply with § 409A(a) [of the Code]. You can read it for yourself here: http://www.irs.gov/pub/irs-drop/n-10-80.pdf

That's a lot of words, and you might have to be a cryptographer to figure out what it all means, but trust me, this is good news -- very good news. The regulators in Washington have read comments, and while other remarks -- both verbal and in writing -- have gotten no official observance from the regulators, this writer thinks that those remarks have been noticed as well.

So, what's the buzz, tell me what's a happening (apologies to Andrew Lloyd Webber for reusing his Jesus Christ Superstar lyrics in a slightly different context).

Here is a summary of the news:

• Documentary failures under linked nonqualified plans (NQ linked to other NQ and or NQ linked to qualified) are now eligible for relief under Notice 2010-6, so long as the linkage does not affect the timing or form of payments under the plans. For many companies, on a scale of 10, this relief qualifies as an 11. 
• Documentary failures for certain stock rights are now eligible for Notice 2010- relief.
• An additional method of correction is now available for certain separation payments that are subject to a release of claims, and this method is very workable.
• There is relief from the extremely onerous service provider (employee) reporting requirements for the Notice 2010-6 transition relief for "freebie" correction under Notice 2010-6.
• There is relief for service recipients (employers) with respect to the information that they need to provide to service providers (employees) for Notice 2008-113 corrections made during the same taxable year.

The fourth and fifth (last two bullets) may look like small potatoes, but I am aware of multiple Fortune 500 companies that chose to have 409A failures rather than go through the 2008-113 or 2010-6 correction processes because of the requirements to provide information. So, these small potatoes are actually bigger than the eye perceives.

On to the nitty-gritty ...

The Linked Plans Issue

In my experience, this was the worst provision of the 409A regulations. No practitioners that I work with saw this seemingly innocent failure coming. Let's consider two fairly simple and common types of failures.

Example 1. Company A provides Executive E with a qualified defined benefit plan under which E is entitled to an annual benefit not to exceed the 415 limit of 1% of 5-year final average pay (not in excess of the pay cap) per year of service. A also provides E with an 'excess' plan (nonqualified) under which E receives an annual benefit under the same formula, but without regard to the 415 limit and pay cap, and further offset by the qualified plan benefit. 

Pause for a slap on the wrist.

Now, suppose that E has elected a lump sum payment upon separation from service from the nonqualified plan, but that the amount of this lump sum could be affected by the timing and form of the qualified plan payment. This appears to violate the 409A regulations, and there was no fix available under Notice 2010-6. Notice 2010-80 allows for correction under Notice 2010-6.

Example 2. The facts are the same as in Example 1, except that E does not have a lump sum option in the excess plan, but E also participates in a top-hat plan (SERP) with a richer benefit formula (offset by all other defined benefits) that does have a lump sum option. E has made a bona fide initial deferral election in the excess plan to take a 50% Joint and Survivor Annuity (with his wife as beneficiary) and a lump sum on the last day of his tax year following or coincident with separation from service from the SERP. 

Here we appear to have two violations of the 409A regulations, so pause for 40 lashes.

Again, Notice 2010-6 would not have allowed for correction of this 'defect', but Notice 2010-80 amends Notice 2010-6 to allow for such documentary corrections.

Separation Payments Contingent on Employment-Related Actions

This is another biggie. Again, Notice 2010-6 is amended by allowing for additional methods of correction. Suppose the service provider (again, this is usually the employee) needs to complete certain action(s) such as executing and submitting a non-compete in order to receive his separation payments. Paying the benefit upon separation from service eliminates the teeth in the non-compete; that is, the service provider could take his payment and decide to not sign the non-compete. Delaying payment violates 409A. 

But now, the fix is in, and it's a good one. The document can be amended to allow for payment [in general terms] either 60 or 90 days following the separation (permissible payment event) so long as in the event that the 90-day period spans two taxable years, the payment will be made during the second of those taxable years.

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There's more -- of course there is -- much more in the Notice, but this should give you an overview of what I think readers may need to know. This stuff is pretty complex though, especially on the defined benefit side, and if you are dealing with it and don't have the in-house expertise (most companies don't), I suggest that you engage someone who is expert in both defined benefit plans and nonqualified plans to help. But, I repeat, this is good news. 

Don't wait. Act quickly. Get these things fixed.

The author is not an attorney or accountant and does not provide legal, accounting or tax advice.

Life on an Investment Committee

Nevin Adams, editor-in-chief of Plan Sponsor and its News Dash publication writes a great little "IMHO" piece about being on a plan's investment committee. To sum up:

• If you are on an ERISA plan's Investment Committee, you are an ERISA fiduciary
• Once you are an ERISA fiduciary, you have a personal liability
• On the Investment Committee, you are responsible not only for your own decisions, but the decisions of others

You can read Nevin's article here: http://www.plansponsor.com/IMHO__Liability_Driven.aspx

There are several court cases out there right now that rely on this theory. Unfortunately, I am temporarily precluded from writing about the most interesting of the bunch of them.

Accounting Issues in Converting a DB SERP to a DC SERP

Here is an article that I was involved in writing, but that my prior employer chose to list other authors. In any event, I still know about this material and could help someone out. Here is the article from the corporate web site:

http://tinyurl.com/28khn96

Pre-Boomers Want Retirement Income Stream

In a poll sponsored by Nationwide Financial and conducted by Harris Interactive, 85% of those age 18-44 support a modification to the current 401(k) structure that would provide a guaranteed annuity stream from 401(k) plans, as compared to 77% of the total adult population. This suggests that as participants get closer to retirement, they are more likely to want a lump sum payment. To me, this is counter-intuitive.

I do not have the exact wording to the question that was asked.

As most surveys of this sort are, the poll has at least a bit of a self-serving element to it. Employer matches would not be available for loans or hardship withdrawals and plans would provide annuities via the purchase of fixed income deferred annuities (something that Nationwide presumably sells ... at a profit).

How big would the insurer's profit be? Do the survey respondents understand that they would be paying for that insurance? It's food for thought, but IMHO, it's a long way away.

New DOL Target Date Fund Rules

In today's Federal Register, the DOL published new rules for target date funds in qualified defined contribution plans. Briefly, target date funds (TDFs) are pre-mixed funds of funds usually put together by mutual fund providers. They allow a participant to select an estimated or targeted retirement date (usually in 5-year increments) and put their money in a fund that uses a glide path (investment allocation policy) that becomes more conservative as a participant approaches their targeted retirement date. TDFs became exceedingly popular as the Qualified Default Investment Alternative (QDIA) of choice after passage of the Pension Protection Act of 2006.

You can find the DOL guidance here: http://www.ofr.gov/OFRUpload/OFRData/2010-29509_PI.pdf

Key guidance in the rule includes the following:

• Fiduciaries are relieved from certain fiduciary responsibilities in defined contribution plans if they follow the rules.
• Plan administrators must furnish participants and beneficiaries with certain information related to each available investment under the plan.
• That information must include:
• A narrative explanation of the glide path and a description of the point at which the TDF will reach its most conservative investment allocation. This is key in understanding whether the purpose of the particular TDF is to get participants to retirement or through retirement.
• A graphical illustration of the TDF's glide path.
• An explanation of the relevance of the TDF date; e.g., for a 2030 fund, what does the "2030" mean?

Again, this is probably a step in the right direction for TDFs in reaction to the precipitous fall in the value of TDFs in late 2008 and early 2009. But, the reasoning is wrong. Of course, TDFs can lose money. All investments can. The point is that retirement plan participants need to understand the decisions that they must make. This is good information, but if they don't understand that this is an investment that is designed to increase in value, but that could decrease in value, then we have gotten nowhere. 

Americans need to be more financially educated. Savvy is a good goal, but educated is a necessity. It's nice that we learn about the explorers in school (Columbus, Magellan, etc.), but wouldn't it be nice if we educated our students in financial topics as well? It's never too early to start, but for many workers, it's far too late. For them, perhaps the best they can do is to follow the sage (or not so sage if you prefer) advice of Ron Popeil (he of infomercial fame): "Set it and forget it." Unfortunately, there is his follow-up line: "Wait, there's more."