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December, 1996

Stephen H. Cypen, Esq., Editor

GROWTH OR VALUE -- DOES IT REALLY MATTER?: According to the BARRA Value and Growth Indices, in the last ten years Growth outperformed Value in six of the years. However, over the whole period, Value slightly outperformed Growth with a 14.71% annual return compared to Value's 14.67%.

PHILADELPHIA PENSION BOARD TO SELL TEXACO STOCK: Bloomberg Business News reports that Philadelphia's pension board voted to sell its $5.8 million in Texaco stock, protesting "continuing racial discrimination in the nation's corporations." The 9-member board, which oversees the pension monies of 60,000 retired and active city workers, voted unanimously to boycott the firm and divest for one year or until Texaco shows "genuine improvement in its work climate for women and minorities." In somewhat of a footnote, Bloomberg also reports that a Texas state legislator will sponsor a bill to require the state's four investment funds to sell their Texaco stock.

BUT STAFF URGES SBA TO KEEP FRS TOBACCO STOCKS: In a recent report, administrative staff to the State Board of Administration -- comprising Governor Chiles, Comptroller Milligan and Insurance Commissioner Nelson -- urged that FRS's $700 Million in tobacco stocks not be divested. The report says that over the last ten years tobacco stocks in the Wilshire 2500 have returned 23% versus 14.2% for non-tobacco stocks. Even though tobacco stocks amount to just over 1% of the $60 Billion pension fund, Governor Chiles faces a quandary in light of the State's pending litigation against major tobacco companies.

MICHIGAN GOVERNOR PUSHES STATE DC PLAN: Hoping to avoid confrontation with the newly-elected Democratic majority in the Michigan House in January, Governor John Engler is attempting to move the state retirement system to a defined contribution plan. As part of this scheme, one proposed bill is tied to an early retirement window, affecting up to 7,000 state employees.

IMPLEMENTING A GOVERNMENTAL EXCESS BENEFIT ARRANGEMENT: In the November 1996 NAPPA Report, A. D. (Gus) Fields, who has a national reputation, wrote an article on Qualified Governmental Excess Benefit Arrangements, permitted by the Small Business Job Protection Act of 1996 (see C&C Special Edition Newsletter for August, 1996). Basically, a Qualified Governmental Excess Benefit Arrangement is maintained solely to provide plan participants "excess benefits" -- that part of the annual benefit otherwise payable under the terms of the plan that exceeds IRC §415 limits. Benefits from a funded Qualified Governmental Excess Benefit Arrangement would not be taxable until the year in which the employee becomes substantially vested in an interest in the Arrangement; that is, when the interest is transferable or not subject to substantial risk of forfeiture. Mr. Fields believes that the foregoing rule limits the efficacy of establishing a funded Governmental Excess Plan Arrangement. However, an unfunded arrangement avoids the need to establish a trust and avoids the substantial risk of forfeiture issue. Simply put, benefits are paid from general assets of the local government pursuant to terms of the Excess Benefit Arrangement as needed. One caveat: the assets of the Qualified Retirement Plan cannot be used for payment of administrative costs of the Qualified Governmental Excess Benefit Arrangement.

SERVICE-INCURRED DISABILITY FOR PURELY MENTAL "INJURY" CIRCUMSCRIBED: The Supreme Court of Iowa recently considered a claim for accidental disability pension for a mental injury without an accompanying physical injury. Moon worked for the Des Moines Police Department for twenty-five years until he was diagnosed as having a panic disorder, which admittedly permanently and totally incapacitated him from being a police officer. He applied for service-incurred disability benefits, citing two incidents, the more serious one of which involved a young officer who served under Moon and committed suicide shortly after Moon had disciplined him. The pension board denied accidental disability benefits but awarded ordinary disability benefits. The plan provision in question reads as follows: "...any member who has become totally and permanently incapacitated for duty as the natural and proximate result of an injury or disease incurred in or aggravated by the actual performance of duty at some definite time and place, or while acting pursuant to order, outside of the city by which the member is regularly employed, shall be retired by the system, if the medical board certifies that the member is mentally or physically incapacitated for further performance of duty, that the incapacity is likely to be permanent, and that the member should be retired." On appeal, the District Court denied review and the Supreme Court affirmed, holding that an applicant must demonstrate stress "of greater magnitude than the day-to-day mental stress experienced by other police officers." Moon v. Board of Trustees of the Municipal Fire and Police Retirement System of Iowa, 548 N.W.2d 565 (Iowa 1996).

FHP CAPTAINS AND LIEUTENANTS WON'T GET SEPARATE BARGAINING UNIT: The District Court of Appeal has affirmed a Public Employees Relations Commission (PERC) Order dismissing the petition of Florida Association of State Troopers, Inc. seeking authorization to represent Captains and Lieutenants in the Florida Highway Patrol. PERC had found that there was no compelling reason to justify carving out a unit of FHP Lieutenants and Captains from a more comprehensive unit composed of those supervisory classifications statewide. Furthermore, the State would be exposed to the possibility of bargaining with more than one unit of employees who share the same classifications, duties and interests. PERC's decision does not preclude any employee organization from filing a petition seeking an appropriate unit of all Lieutenants and Captains statewide. Florida Association of State Troopers v. State of Florida, 21 Fla. L. Weekly D2339 (Fla. 1st DCA, October 30, 1996).

FEDERAL GOVERNMENT APPLIES DOUBLE STANDARD: Unlike in the private sector and in local government retirement systems, the Federal government has shown a "lack of discipline" in dealing with the Civil Service Retirement System, which has a mounting unfunded liability the Federal government has not addressed. BNA reports that CSRS's unfunded liability will reach an astonishing $541 Billion over the next fifty years. Federal retirees receive an average monthly pension benefit of almost three times that received in the private sector. In addition, all Federal retirees receive yearly cost-of-living adjustments, compared to a fraction in the private and local government sectors.

TOWERS PERRIN SURVEY OF WORKERS: A recent Towers Perrin survey of domestic corporations shows that workers can expect to earn about 4% in merit pay raises next year, the same percentage they have received yearly since 1992. However, about 40% will receive a lump-sum payment as a supplement to or in lieu of a merit increase (up from 30%). The survey results were reported by BNA.

NEW YORK RETURN KEEPS CONTRIBUTIONS LOW: If cities would only listen. Citing a return of almost 22% for the fiscal year ended March 31, 1996, the Annual Report of the New York State and Local Retirement Systems estimates that public employer contributions will be about 3% of payroll for the near future -- the lowest of the 20 largest public pension funds (FRS being the highest). Flush with this investment success, the State Comptroller/Sole Trustee will ask the Legislature to establish the "prudent person standard" next year. Note that employees contribute only 3% of salary.

AND THEN THERE'S WEST VIRGINIA: Attempting to circumvent the constitutional prohibition on investment of state pension funds in the stock market, the West Virginia Legislature created the West Virginia Trust Fund Inc., a quasi-private entity. Monies were then transferred from the State pension funds to the trust fund, which intended to invest in stocks. Uh uh. According to BNA, a state trial judge has now barred the trust fund from investing any money in stocks because the constitutional ban cannot be legislatively circumvented. Klos v. Bailey.

YOU DON'T HAVE TO BE "RETIRED" TO RECEIVE RETIREMENT DISTRIBUTION: In an unpublished decision, the U.S. Tax Court ruled that the portion in excess of $150,000.00 received by a state employee as a refund from the state retirement system on transferring to the state pension plan is subject to a 15% excise tax. Under IRC §4980A, a "retirement distribution" is the amount distributed during the taxable year under a qualified employer plan with respect to which the individual is or was an employee. Hard to believe.

CALPERS TAKES HIT IN FLORIDA REAL ESTATE: Like the State of Connecticut Pension Trust Fund with the Plantation Fashion Mall (see C&C Newsletter for August, 1996), California Public Employees' Retirement System is struggling with the Pompano Square Mall. In fact, CALPERS has taken the unusual step of suing to keep tenants in the mall even though the departed tenants have continued to pay rent! Meanwhile, CALPERS is asking $25 Million for the mall, way below its investment. Last year, a consultant analyzing CALPERS' real estate portfolio estimated a $34 Million unrealized loss in property value.

AND IF REAL ESTATE DOESN'T WORK OUT...: CALPERS expects to invest up to $2.5 Billion per year in private equity vehicles, such as California-oriented partnerships. Because riskier investments obviously should command higher returns, the benchmark is 500 basis points above the 10-year rolling average return of the S&P 500.

COURT BLOCKS MUNICIPAL PENSION FUND MERGER: BNA reports that a Milwaukee trial judge has blocked the city from merging a municipal pension fund with a large surplus and one with a shortfall. The court found that the would-be merger was unconstitutional, violated due process and violated the contractual rights of the funds' beneficiaries. The city has vowed to appeal. Milwaukee Police Assn. v. Milwaukee.

FRS DISABILITY BENEFITS NON-TAXABLE: The Internal Revenue Service has determined that the minimum 42% in-line-of-duty disability benefit under the Florida Retirement System, and the cost-of-living adjustment thereof, can be excluded from income under Section 104(a)(1) of the Internal Revenue Code. However, if the benefit exceeds the floor, the excess would be subject to federal income tax because it is computed with reference to a member's age, length of service or prior contributions. Private Letter Ruling No. 9644017.

KEEPING THEM HONEST: The November 1996 issue of Plan Sponsor contains an important opinion-piece on objectivity in investment consulting. The article describes potentially undisclosed relationships and provides retirement plan officials with tools which will lead to improvements in disclosure within their plans. To quote the authors: "only when plan sponsors are fully informed can we expect the highest quality advice for our decision-making and operations." Upon request, we will send non-clients a copy of the suggested sample questionnaire, containing required disclosures for investment consultants and for money managers.

Copyright, 1996-2004, 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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