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Cypen & Cypen
NEWSLETTER
for
JULY 21, 2011

Stephen H. Cypen, Esq., Editor

1.      LOCALLY-ADMINISTERED PENSION PLANS AS WELL-FUNDED AS THOSE ADMINISTERED BY STATES: The financial crisis and ensuing recession have had an enormous impact on state-administered pension plans, according to a recent Issue Brief from Center for Retirement Research at Boston College. Funding levels declined sharply, and the Annual Required Contribution increased to make up for the fall in funding and the percent of ARC paid declined as the bottom fell out of state revenues.  In response, states have increased employer and employee contributions, cut employment, slowed wage growth and lowered benefits for new employees. Less is known about how locally-administered plans have fared in the last four years.  The subject brief attempts to fill that gap. The first section describes the sample of 97 locally-administered plans from 40 states (including our regular client Miami Firefighters and Police Officers Retirement Trust), which was collected initially in 2006 and updated in 2010. The second section presents the change in funded status of local plans over the last four years, looking separately at plans for police/fire, teachers and general employees.  It also reports changes in ARC and the percent of ARC paid during this period.  And it compares experience of locally-administered plans with those of state-administered plans.  The third section reports on impact of pension contributions upon local budgets.  This analysis is complicated by the fact that, in aggregate, only 40 percent of local pension contributions go to locally-administered plans, while 60 percent go to state plans.  While good data are available for local-to-local contributions, local-to-state contributions are less explicit, and in some cases must be estimated.  The authors’ calculations suggest that total local pension contributions for the sample account for about 8 percent of local budgets.  REPEAT: LOCAL PENSION CONTRIBUTIONS ACCOUNT FOR ABOUT 8 PERCENT OF LOCAL BUDGETS. The final section concludes that despite perils facing cities such as Atlanta, Chicago, Philadelphia and Omaha, locally-administered plans, overall, are as well-funded as those administered by the states.  Number 18, July 2011. 

2.      THE POWER OF PENSIONS – BUILDING A STRONG MIDDLE CLASS AND STRONG ECONOMY: Diane Oakley is executive director of National Institute on Retirement Security, a not-for-profit research and education organization committed to fostering a deep understanding of the value of retirement security to employees, employers and the economy. Ms. Oakley recently testified before the United States Senate Committee on Health, Education, Labor and Pensions. In a preliminary analysis conducted for the hearing, NIRS estimated that 2009 expenditures from public and private sector pension plans:  

  • Had a total economic impact of $756 Billion;
  • Supported more than 5.3 million American jobs; and
  • Supported more than $121.5 Billion in annual federal, state and local tax revenue.

“Pensions are a ‘high five’ for the U.S economy:  investing $5.35 Trillion in assets for the future, keeping some 5 million retired Americans out of poverty, supporting 5.3 million American jobs, and delivering retirement income at nearly 50 percent lower cost than individual defined contribution retirement accounts.” When retirees have a stable and secure pension check, they do not stash money under the mattress. They spend that income on goods and services in their local communities, leaving a substantial economic footprint from coast to coast.  That regular spending is critically important today as the economy struggles to recover.  In contrast, retirees without a pension may be fearful to spend, given the impact of the market crash on individual retirement accounts or because they worry about outliving their savings. Americans are highly anxious about their economic security in retirement, and they want leaders in Washington to take action.  Research indicates that Americans believe disappearance of pensions has made it harder to achieve the “American Dream,” and more than 80 percent believe all workers should have access to a pension so they can be independent in retirement.  Pension income plays a critical role in reducing the risk of poverty and hardship for older Americans. The rate of poverty for older households in 2006 without pension income was six times greater than for households with a pension.  Moreover, the billions of dollars in savings for public assistance due to pensions are significant, given fiscal pressures on government safety net programs across the country.  More specifically, pension income received by nearly half of older American households in 2006 was associated with:  

  • 1.72 million fewer poor households and 2.97 million fewer near-poor households,  
  • 560,000 fewer households experiencing a food hardship,
  • 380,000 fewer households experiencing a shelter hardship and
  • 320,000 fewer households experiencing a health care hardship.

Oakley also testified that pensions are the most economically efficient retirement plans available, which can deliver the same level of retirement income as an individual 401(k)-type savings account at half the cost! If politicians still don’t get it, it must be because they just don’t want to. 

3.      REPORT OF ADVISORY COMMITTEE ON TAX EXEMPT AND GOVERNMENT ENTITIES: At a public meeting in Washington, D.C. on June 15, 2011, the 20 members of the Advisory Committee on Tax Exempt and Government Entities presented their tenth report of recommendations to Internal Revenue Service. One of ACT’S main activities has been a series of year-long projects on specific topics that culminate in final recommendations and report presented at the June public meeting each year. Some of this year’s projects are 

Tax Exempt Bonds

  • The Role of Conduit Issuers in Tax Compliance

Federal, State and Local Governments

  • Review of the Government Accountability Office Report to Congressional Requesters Entitled “Social Security Administration - Management Oversight Needed to Ensure Accurate Treatment of State and Local Government Employees”
  • Evaluation of, and Recommendations for Improvement to, the Federal, State and Local Governments Website

Employee Plans

  • Recommendations Regarding Pension Outreach to the Small Business Community

The report is over 400 pages long. We deal with one small portion in the next item. 

4.      HISTORY OF STATE AND LOCAL GOVERNMENT SOCIAL SECURITY AND MEDICARE COVERAGE: A small portion of the ACT report of recommendations summarized above deals with insuring accurate Social Security treatment of state and local government employees. When initially adopted in 1935, the Social Security Act did not include public employees as eligible for Social Security because of the Constitutional question regarding power of the federal government to tax sovereign entities (that is, the states). Many government employers did not have their own retirement systems, so, in 1950, the United States Congress amended the Social Security Act to allow states voluntarily to enter into agreements with the Social Security Administration, on behalf of the Department of Health and Human Services.  Thus, state and local government employers were permitted to offer Social Security coverage to their employees, if the employers so desired.  These agreements are often referred to as “Section 218 Agreements” because they are authorized by Section 218 of the Social Security Act.  Social Security coverage was not mandated for state and local government employees at that time. Subsequently, significant legal and political changes occurred that eventually resulted in “mandatory” Medicare coverage for some public employees (all newly-hired state and local public employees, effective April 1, 1986); and resulted in “mandatory” Social Security and Medicare coverage for virtually all state and local public employees since July 2, 1991, who are not covered by a qualifying Federal Insurance Contribution Act-replacement public retirement system or are not already covered by a Section 218 Agreement. See, IRS Publication 963, Federal-State Reference Guide, at http://www.irs.gov/pub/irs-pdf/p963.pdf for further details on the history of state and local governments’ Social Security and Medicare coverage and benefits, FICA tax obligations and public pension system requirements. Because of the many unique federal laws that apply to state and local governments’ employment tax obligations, as well as the varied ways that each of the states in the nation enacted Section 218 of the Social Security Act, compliance by public employers with those laws can be challenging. (Interested readers should access the 2009 article entitled “Common Errors in State and Local Government FICA and Public Retirement System Compliance” published in Government Finance Review at http://goo.gl/2izzo.) Federal regulations require every state to appoint an official to serve as the State Social Security Administrator. This person is responsible for administering the Section 218 Agreements for each state. Until 1987, the State Administrator was also responsible for collecting the Social Security and Medicare contributions (now referred to as FICA taxes) from the state and local employers, and depositing the funds with the United States Treasury.  When Internal Revenue Service assumed this function in 1987, many states interpreted this change in the law as eliminating any further responsibilities, but the majority of functions and responsibilities of the State Administrator continue. Further, since that time, responsibilities have become even more complicated, because of advent of mandatory Social Security and Medicare provisions. Due to complexity of the laws that apply to state and local governments’ employment tax obligations, the State Social Security Administrator in each state serves as an important liaison -- or “bridge” -- between the federal government (IRS and Social Security Administration) and the state and local government employers in the state.  The State Administrator is charged by his state with administering the Section 218 Agreement entered into between the state and Social Security Administration (or its predecessor federal agency).  Individual public employers in each state are added to the state’s master 218 Agreement through “modifications,” each of which must be initiated by the public employer and processed by the State Administrator (according to federal and state laws), and approved by the Social Security Administration before they become official. Any questions? Ask Mr. Wizard. 

5.      ERISA AUTHORIZES APPROPRIATE EQUITABLE RELIEF FOR VIOLATIONS: Until 1998, CIGNA Corporation’s pension plan provided a retiring employee with an annuity based on preretirement salary and length of service.  Its new plan replaced that annuity with a cash balance based on a defined annual contribution from CIGNA, increased by compound interest.  The new plan translated already-earned benefits under the old plan into an opening amount in the cash balance account.  Amara, on behalf of beneficiaries of the pension plan, challenged the new plan’s adoption, claiming, that CIGNA’s notice of the changes was improper, particularly because the new plan in certain respects provided them with less generous benefits.  The federal District Court found that CIGNA’s disclosures violated its obligations under Employee Retirement Income Security Act of 1974. In determining relief, it found that CIGNA’s notice defects had caused the employees “likely harm.”  It then reformed the new plan and ordered CIGNA to pay benefits accordingly, finding its authority in ERISA, which authorizes a plan participant or beneficiary to bring a civil action to recover benefits due under terms of the plan.  After the Second Circuit Court of Appeals affirmed, CIGNA sought review in the United States Supreme Court, which vacated and remanded. Although the section of ERISA cited by the District Court did not give it authority to reform CIGNA’s plan, relief is authorized by another section, which allows a participant, beneficiary or fiduciary to obtain other appropriate equitable relief to redress violations of ERISA or the plan’s terms. The court ordered relief in two steps. Step 1:  It ordered terms of the plan reformed.  Step 2:  It ordered CIGNA to enforce the plan as reformed.  Step 2 orders recovery of benefits provided by the terms of the reformed plan, and thus is consistent with ERISA. However, that provision -- which speaks of enforcing the plan’s terms, not changing them -- does not suggest that it authorizes a court to alter those terms here, where the change, akin to reforming a contract, seems less like simple enforcement of a contract as written and more like an equitable remedy.  (The Court cannot accept the alternative rationale that the District Court enforced the summary plan descriptions, and that they are plan terms.)  The Supreme Court has interpreted ERISA’s phrase “appropriate equitable relief” as referring to those categories of relief, that, before the merger of law and equity, were typically available in equity. This case -- concerning a beneficiary’s suit against a plan fiduciary (whom ERISA typically treats as a trustee) about the terms of a plan (which ERISA typically treats as a trust) -- is the kind of lawsuit that, before the merger, could have been brought only in an equity court, where remedies available were traditionally considered equitable remedies. Because ERISA authorizes appropriate equitable relief for violations of ERISA, the relevant standard of harm will depend on the equitable theory by which the District Court provides relief. That court is to conduct analysis in the first instance, but there are several equitable principles that it might apply on remand.  ERISA does not set a particular standard for determining harm.  And equity law provides no general principle that detrimental reliance must be proved before a remedy is decreed.  To the extent any such requirement arises, it is because the specific remedy being contemplated imposes that requirement.  CIGNA Corporation v. Amara, Case No. 09-804 (U.S., May 16, 2011). (Note, on May 23, 2011, the Supreme Court also granted a related petition for writ of certiorari, and remanded the case to the Court of Appeals for further proceedings. Amara v. CIGNA Corp., Case No. 09-784 (U.S., May 23, 2011.)) 

6.      SEC WILL RAISE PERFORMANCE FEE RULE DOLLAR LIMIT: The Securities and Exchange Commission has issued an order that raises, to adjust for inflation, two of the thresholds that determine whether an investment adviser can charge its clients performance fees.  Rule 205-3 under the Investment Advisers Act allows an investment adviser to charge a client performance fees if the client meets certain criteria, including two tests that have dollar amount thresholds.  Under the order, an investment adviser will be able to charge performance fees if the client has at least $1 Million under management of the adviser, or if the client has a net worth of more than $2 Million.  Either of these tests must be met at time of entering into the advisory contract.  (The previous thresholds were $750,000 and $1.5 Million, respectively, and were last revised in 1998.) The Dodd-Frank Act requires that the Commission issue an order to adjust for inflation these dollar amount thresholds by July 21, 2011 and every five years thereafter.  The Commission published a notice of its intent to issue the order on May 10, 2011.  The order will be effective September 19, 2011, approximately 60 days after publication in the Federal Register. SEC Release 2011-145 (July 12, 2011)

7.      EBRI RESPONDS TO WSJ ARTICLE: In the July 7, 2011 Wall Street Journal, the headline of an article assessing the Pension Protection Act of 2006 provision that encourages automatic enrollment in 401(k) plans suggests that it is actually reducing savings for some people. (See C&C Newsletter for July 14, 2011, Item 5.)  Employee Benefit Research Institute responds that what the article failed to mention is that automatic enrollment is increasing savings for many more -- especially the lowest-income 401(k) participants. EBRI has been publishing studies on the likely impact of automatic enrollment for six years.  In a joint study with Investment Company Institute, EBRI looked at potential change in 401(k)/IRA accumulations as a result of changing the traditional voluntary enrollment 401(k) plans to automatic enrollment plans.  Although EBRI had the advantage of using a database of tens of millions of 401(k) participants going back to 1996, EBRI was limited in knowing how workers would react to automatic enrollment provisions, and thus simulated the likely response using results of academic studies. What EBRI found was that overall expected improvement in retirement accumulations, especially for lower-income quartiles, were nothing less than spectacular.   However, one point that had already been made clear in the academic literature, and was corroborated by the simulation results, was that some workers placed in a 401(k) automatic enrollment plan (without automatic escalation provisions) would continue to contribute at the default contribution rate that the plan sponsor had chosen (typically 3 percent).  Given that many workers who chose to participate in a voluntary enrollment plan would start contributing at a 6 percent rate (largely in response to the matching contribution incentive provided by the employer), some workers in automatic enrollment plans were likely contributing at a lower rate than they would have had they been working for a plan sponsor offering a voluntary enrollment 401(k) plan and had chosen to participate. The anchoring effect can be seen by looking at top-income quartile in the 2005 EBRI/ICI results, where median replacement rate for top-income quartile decreased by 4 percentage points for the scenario with a 3 percent contribution rate and default investments in a money market fund.  However, from a public policy standpoint, it appears that this result was more than offset by the increase in participation for lower-income quartiles due to auto-enrollment, resulting in substantial increases in retirement accumulations. After the 2005 EBRI/ICI study was released, Congress passed the Pension Protection Act of 2006, which eased some of the administrative barriers to providing automatic enrollment, and for the first time setting up safe harbor provisions for automatic escalation.  Although it was too soon to know how plan sponsors would react to the new legislation, EBRI published a study in 2007 that showed how automatic escalation would make the automatic enrollment results even more favorable under a number of different scenarios for both plan sponsor and worker behavior. In 2008, EBRI included all new PPA provisions in a study that compared potential accumulations under automatic enrollment and voluntary enrollment for several different age groups.  Again, EBRI found certain (high-income) groups that were likely to do better under voluntary enrollment than automatic enrollment, but overall, automatic enrollment results dominated. By 2009, many of the 401(k) sponsors who previously had voluntary enrollment plans had shifted to automatic enrollment plans, and EBRI was able to track changes in plan provisions for hundreds of the largest 401(k) plans.  Once again, there was a significant impact of moving to automatic enrollment plans. Later, in 2010, EBRI did an analysis that focused not on a comparison of voluntary enrollment and automatic enrollment, but rather how to improve plan design and worker education to optimize results under automatic enrollment plans with automatic escalation of contributions.  While it is difficult to determine the correct target for retirement savings, EBRI tried to demonstrate what, by most financial planning standards, appears to be quite generous:  an 80 percent real income replacement rate in retirement when 401(k) accumulations are combined with Social Security.  If only the most pessimistic combination of plan design and worker behavioral assumptions were used in automatic enrollment plans studied, only 45.7 percent of the lowest-income quartile would obtain this threshold, and given the way in which Social Security benefits are designed, an even lower percentage of the highest-income quartile would reach the 80 percent threshold. The Wall Street Journal article reported only the most pessimistic set of assumptions. Further, The Wall Street Journal did not report the positive impact of auto-enrollment 401(k) plans on many workers who began to participate due to automatic enrollment.  As with any change, some people will not have the desired results; but if the focus of auto-enrollment is to increase participation among lower-income participants (and, as a result, their retirement financial preparedness), objective analysis suggests auto-enrollment does obtain that goal. 

8.      THE BUFFETT SOLUTION: Everyone knows that Warren Buffett is not just another “talking head.”  He is just plain smart, that is how he became amongst the most respected and wealthiest men in the world. On a recent CNBC show, Buffett reportedly said “I could end the deficit in 5 minutes.”  When questioned, he went on: “just pass a law that says anytime there is a deficit of more than 3% of GDP, all sitting members of congress are ineligible for reelection.” Works for us. 

9.      RETIREMENT PLANNING ATTITUDES AND BEHAVIOR: In the fall of 2010, Center for Retirement Research at Boston College sponsored a series of qualitative interviews with consumers on a range of retirement issues.  The objective was to explore consumers’ attitudes and behavior toward retirement planning, including knowledge gaps, sources of information and unmet needs.  Key findings of the report, prepared by the Boathouse Group and Plan-it Marketing, were 

(a)     Retirement is a life stage that is bigger than “financial planning;” expand definition to reflect and acknowledge both financial and non-financial goals. 

  • Key goals: travel, leisure vs. “financial” goals
  • Must maintain standard of living to get there

(b)     The road to retirement is not linear. 

  • Consumers not seeking/receiving appropriate information but absolutely need it, particularly in preparing for curve balls.

(c)     Deep emotions and attitudes need to be addressed to be relevant.

(d)     Fear of believing in Social Security drives disregard for its importance.

(e)     Given passiveness in seeking help, an active “push” strategy for delivering information to consumers would be most effective.

10.    MAJOR AARP REPORTS ON SOCIAL SECURITY: In 2009, with the 75th anniversary of Social Security one year away, AARP embarked on a two-part study to examine knowledge of and attitudes toward Social Security retirement benefits among current and future beneficiaries. While Social Security provides various types of benefits (including retirement benefits, disability benefits, spousal benefits and survivor benefits for widows/widowers and other dependents), the study focuses only on individuals who are eligible for Social Security retirement benefits.  AARP focused specifically on individuals ages 55 to 66 who are currently receiving Social Security retirement benefits, are not yet receiving them but are already eligible to receive them, or will be eligible to receive them within the next few years.  The study, which consisted of focus groups followed by a survey, had the following key objectives: 

  • To assess current and future beneficiaries’ knowledge of how their Social Security retirement benefits are determined, as well as how the age at which they claim benefits may affect benefits available to their spouse or widow 
  • To determine factors that influence people’s decisions regarding when to claim benefits 
  • To determine whether different methods of presenting the relationship between one’s claiming age and the amount of benefit may lead to different decisions regarding when to claim benefits

The findings from the study are published in two reports. One hundred forty two-page “Assessing Current and Future Beneficiaries' Knowledge of Social Security Benefits” can be accessed at http://assets.aarp.org/rgcenter/general/social-security-assessing-knowledge-of-benefits.pdf. One hundred sixty six-page “Determining How Current and Future Social Security Beneficiaries Make Retirement Decisions” can be accessed athttp://assets.aarp.org/rgcenter/general/social-security-reports-how-beneficiaries-make-decisions.pdf

AARP is a nonprofit, nonpartisan organization with a membership that helps people 50+ have independence, choice and control in ways that are beneficial and affordable to them and society as a whole.

11.    FIREFIGHTER’S FAMILY BLAMES CITY FOR HIS SUICIDE: The family of a firefighter who committed suicide after being asked to resign has sued the city of Salem, Oregon, alleging the city should have been more responsive to his mental health issues. Former firefighter Craig Warren committed suicide on July 31, 2009, the effective date of his resignation. According to The Associated Press, representatives of Warren’s estate are seeking $4.15 Million in damages. The city has not yet responded to the suit, which asserts that Warren changed psychiatrists in early 2009, and the switch led to a mix-up in his medication doses.  While under-medicated, Warren was investigated for making inappropriate comments to other firefighters. His family blames the comments on medication mistakes, and says the city was at fault for not offering Warren “reasonable care.” 

12.    RAMBLINGS: Breaking News: Glenn Beck Moves to Sci Fi Channel. 

13.    PARAPROSDOKIAN: (A paraprosdokian is a figure of speech in which the latter part of a sentence or phrase is surprising or unexpected in a way that causes the reader or listener to reframe or reinterpret the first part. It is frequently used for humorous or dramatic effect.):  Some cause happiness wherever they go. Others whenever they go. 

14.    QUOTE OF THE WEEK: “A man is wealthy in proportion to the things he can do without.” Epicurus

15.    ON THIS DAY IN HISTORY: In 1969, Neil Armstrong steps on Moon at 2:56:15 A.M. (GMT). 

16.    KEEP THOSE CARDS AND LETTERS COMING: Several readers regularly supply us with suggestions or tips for newsletter items. Please feel free to send us or point us to matters you think would be of interest to our readers. Subject to editorial discretion, we may print them. Rest assured that we will not publish any names as referring sources. 

17.    PLEASE SHARE OUR NEWSLETTER: Our newsletter readership is not limited to the number of people who choose to enter a free subscription. Many pension board administrators provide hard copies in their meeting agenda. Other administrators forward the newsletter electronically to trustees. In any event, please tell those you feel may be interested that they can subscribe to their own free copy of the newsletter athttp://www.cypen.com/subscribe.htm. Thank you. 

 

 

Copyright, 1996-2011, all rights reserved.

Items in this Newsletter may be excerpts or summaries of original or secondary source material, and may have been reorganized for clarity and brevity. This Newsletter is general in nature and is not intended to provide specific legal or other advice.


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