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Cypen & Cypen
SEPTEMBER 14, 2006

Stephen H. Cypen, Esq., Editor

Never Forget - September 11, 2001


Money says that life insurance is a must if your family depends on you. The question is, how much coverage? A rule of thumb is 5 to 7 times your annual earnings. But the decision is very much a personal matter. The more expenses and dependents you have, the more insurance you will need. If you have fat retirement accounts or other assets, you can get by with less. But at a minimum, you should leave your family enough to cover big-ticket items like mortgages or college tuition. You will also face a choice between term and whole-life insurance. Money suggests term, which is cheaper and provides more benefits for the dollar.


In a case that has been around for over five years (see C&C Newsletters for June, 2001, Item 11 and September, 2001, Item 10), a North Carolina Superior Court judge has ruled that Governor Mike Easley and other state leaders violated the state constitution by using pension money to solve a budget crisis. Although the judge found the $130 Million diversion from the Teacher and State Employee Pension Plan to be wrong, he did not immediately order repayment. Easley had argued the money was not technically taken from the plan, but was merely directed to other uses before reaching pension accounts. (Now, that's rich.) According to a report from, the court decision points out that the state constitution establishes the inviolability of state retirement funds, and provides that funds cannot be used for anything other than retirement purposes.


An Issue in Brief from Center for Retirement Research at Boston College deals with investment returns of defined benefit plans versus 401(k)/defined contribution plans. Pension coverage in the private sector has shifted from DB plans where professionals manage money to 401(k) plans where participants invest their own accounts. The supposition is that individuals are not very good at investing their own money. The question is whether the supposition is borne out by the facts. In other words, are returns on 401(k) plans markedly lower than those on traditional DB plans? The brief first reports rates of return on DB and 401(k) plans over the period 1988-2004. The second section then looks at the holdings of the two types of plans to see whether the differences in returns can be explained by a more risky portfolio. The third section speculates about the role fees play in the results. The fourth section explores implications of the findings for 401(k) participants. The final section reports on Individual Retirement Accounts, because the assets of these accounts now exceed holdings in either DB or DC plans, and most money is rolled over from employer-sponsored plans. The bottom line is that over the period 1988-2004 defined benefit plans outperformed 401(k) plans by one percentage point. This outcome occurred despite the fact that 401(k) plans held a higher portion of their assets in equities during the bull market in the 1990s. Part of the explanation may rest with higher fees, which are deducted before returns are reported to participants. But the one percentage point shortfall understates the investment problem in 401(k) plans, since an aggregate number does not reflect the fact that more than half of participants in 401(k) plans do not follow the prudent investment strategy of diversifying their holdings. Finally, available data suggest that IRAs produce even lower returns than 401(k) plans, which, if true, implies trouble ahead given the massive amount of money that is being rolled over into these accounts.


According to Institutional Investor, maybe unbeknown to hedge funds is the growing trend of potential investors checking out managers and firms before checking in with their money. In fact, business is booming in a new industry that makes its money by investigating hedge funds first. "The market runs on fear and greed and we're kind of operating on the fear side," says one investigator. "We're trying to alleviate the fear of our clients." These hedge fund private eyes, so to speak, focus on assorted and potentially sordid information about hedge funds and the people who manage and work for them. Some stuff is no more than a mouse click away via online access to databases covering corporate, court, property and some newsworthy and perhaps damning tidbits. A basic search costs as little as $250, while something more elaborate can run a client $2,000 or more in a process that can take weeks. The good news? Despite the high-profile disasters, hedge fund managers come out cleaner than some other objects of investigations: venture capitalists. Nice!


A new online survey conducted for The Wall Street Journal Online found that 88% of U.S. adults say the government should do something to ensure that Americans have enough to live on in retirement. However, there is no consensus on whether the action should take the form of tax breaks, increases in Social Security benefits, requirements to match 401(k) plans for workers or increased pension plan requirements. There are significant differences in preferences based on age and income. The looming retirement-funding crisis due to the aging population and a large baby boomer cohort moving into retirement years is one of the most important opportunities impacting financial services companies today. Securing adequate funding for retirement is critical to the future standard of living of so many people. One-quarter of adults say the government should increase tax breaks for people who have money for retirement in personal savings accounts. Twenty-two per cent say increasing Social Security payments would be a good solution, and 15% say employers should be required to match worker contributions into 401(k) plans more than they do now. Here is one finding that is anomalous at best: 79% say that, if given a choice, they would choose to participate in a defined-contribution plan, such as a 401(k), compared with 21% who say they would prefer a defined-benefit plan, where the employer manages the money and promises a set sum upon retirement. These results could only mean one of two things: either the participants do not understand the real difference between a DB plan and a DC plan or they are resigned to inevitability of eventual demise of DB plans. The results also seem to fly in the face of other findings: 34% say they expect to rely on their own personal savings or investments, 16% say they would rely mainly on employer-based pension and retirement and 15% expect to rely on an employer-provided 401(k). Go figure.


"If there's anything a public servant hates to do, it's something for the public." Kin Hubbard

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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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