Spectrum Pension Consultants, Inc.

EFAST2…Faster Than I Thought!

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Thu, 22 Apr 2010 19:39:00 +0000

For the last year or so I have been dreading the arrival of EFAST2. However, my first experience with the Department of Labor’s online filing system for Form 5500 was more pleasant than expected.

Background

EFAST stands for ERISA Filing Acceptance System, a collaboration of three governmental agencies – Department of Labor (DOL), Internal Revenue Service (IRS), and the Pension Benefit Guarantee Corporation (PBGC) – designed to expedite the processing of Form 5500 filings for pension and welfare benefit plans.

The first version of this system, introduced in 1999, allowed plan sponsors to submit Form 5500 to the DOL via both “machine-print” paper forms and electronic media. The new “machine-print” forms included barcodes to allow faster processing. Prior to the introduction of EFAST, Form 5500s were filed with the IRS without barcodes.

The original electronic filing process was not exactly a big hit. A Government Accountability Office report indicates that 98% of Form 5500 filings were still being submitted via paper forms as of 2005.

The DOL claimed that uptake was slow because the system was voluntary, a true but incomplete statement. The original system was cumbersome. It required sponsors to submit a paper form in order to receive electronic filing credentials. Service providers had to purchase potentially expensive software to accommodate the electronic filing. And attaching actuarial certifications or accountants opinions further complicated matters.

The only way to achieve wide usage of such a system would be through government mandate. This mandate came in 2006 when the Pension Protection Act required that all Form 5500s be submitted to the DOL via a 100% electronic filing system. The original mandate was for the 2007 plan year filings. However, after two postponements electronic filing officially became mandatory on January 1, 2010 for the 2009 plan year filings.

Industry Frets

Needless to say many of us in the industry worried whether this new system would prove too complicated for plan sponsors and providers to navigate. We also worried whether it could handle such a high volume of electronic filers.

The information that came out of the DOL was not comforting either. As we approached the deadline the DOL issued numerous FAQs (up to 46 and counting). The detailed explanations made the system sound very complicated. I still don’t understand the difference between the statuses “Unprocessable Submission” and “Filing Unprocessable.”

Systems Works – At Least For Now!

However, last week I tried the IFILE system for the first time. (IFILE is the DOL developed web-based filing system.) I was surprised at how easy it was.

I registered for the website and filled out the Form 5500 online in about 20 minutes. I had already completed the Form 5500 plus attachments in our desktop software, so I was only copying entries onto the website form. Nonetheless it was easy.

Once I completed the Form and Schedules, I contacted the plan sponsor. He was able to obtain signer credentials and electronically sign the Form 5500 by following the online DOL instructions in about 10 minutes. (If he had run into problems the DOL prepared this tutorial to guide him through the process.)

Then with a click of a button I filed the 5500 with the DOL. The whole process took less than half and hour and I didn’t run into any bugs or problems.

There are a few drawbacks I see to the IFILE system:

The User ID and PIN required to electronically sign the documents will be easy to forget, especially for people only using them once a year.
There are limited tools for preparers to manage larger numbers of filings
Additional tools to facilitate collaboration with accountants and actuaries would be nice
Integration with existing recordkeeping and administration software would also be helpful

Most of these issues are being solved by third-party software vendors licensed by the DOL to provide more robust tools to facilitate electronic filing.

Sleeping Better at Night

Of course, a single experience is not enough to substantiate a final judgment. But, I am much less worried about filing Form 5500 than I was a few months ago.

Update from the "Other" Washington: Washington D.C.

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Wed, 17 Mar 2010 16:32:00 +0000

There’s a lot going on in Washington D.C. related to employee benefits so we thought a quick update was in order:

1) The senate passed a bill that would allow participants to do a Roth conversion within their 401(k) and 403(b) plans.

However, in order to be eligible for the conversion participants must have incurred a “distributable event.”
Our sources in Washington indicate the House is expected to approve the Senate Bill in the coming weeks.

2) This same bill also include pension funding relief.

Allowing employers that sponsor defined benefit plans to amortize investment losses over a greater number of years.

3) We expect the House Ways and Means committee to mark up it’s version of a 401(k) Fee Disclosure bill today Wednesday, March 17.

This bill has support of key members of the house, so it has a good shot of getting passed.
It includes service provider and participant fee disclosures.
See our webinar from this past fall for background on 401(k) plan fees.

4) The DOL has proposed new regulations on the provision of investment advice to participants in 401(k) plans and IRAs.

The new regs touch on the active v. passive debate with respect to computer model generated advice.

5) The DOL and SEC recently held a rare joint hearing examining Target Date funds.

Both agencies are looking for enhanced disclosure.
Consumer “perceptions” and provider “reality” for 2010 Target Retirement Date Funds were “night and day.”
The DOL's concerns stem from the fact that the default investment rules allow Target Date Funds to be a Qualified Default Investment Alternative (QDIA) within a 401(k) Plan.

6) We also hear that the DOL wants to rethink and refresh ERISA’s fiduciary standards and definitions, “revolutionizing” them for today's marketplace.

In particular they are rethinking how to influence participant behavior when it comes to retirement distributions (i.e. lump sum v. annuities).
See their recent request for information on this topic.

7) Finally, news was made this week when Senator Dodd unveiled the “new and improved” Financial Services Reform Bill.

The current version gives the new Consumer Financial Protection Agency (CFPA) jurisdiction over plan investment service providers.
It also recommends a single set of Fiduciary standards for brokers (FINRA) and advisors (SEC).
Unfortunately a last minute change gave the CFPA jurisdiction over Pension Consultants and Recordkeepers (like Spectrum).
This is all we need, another regulator to compete with the DOL, Treasury, and PBGC!

March 2010 has proven to be very pivotal, and thus we are entering extremely interesting times. Stay Tuned!

BORSAs and ERSOPs and ROBS…Oh My!

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Thu, 25 Feb 2010 19:19:00 +0000

Are these scary names for 3 new genetically engineered carnivores replacing the traditional "lions and tigers and bears?"

No...These three acronyms all refer to an arrangement under which a prospective small business owner uses his rollover account to finance a start-up business.

BORSA = Business Owner’s Retirement Savings Account
ERSOP = Entrepreneur Rollover Stock Ownership Plan
ROBS = Rollover Business Start-ups

The first two acronyms were coined by private vendors who provide assistance to business owners with this type of transaction. The IRS came up with “ROBS” and it is indicative of their perception of these types of arrangements.

So how do they work? Usually something like this:

An individual with a substantial retirement account wants to start a business and needs financing. Cash distributions from her retirement account would be subject to income tax and potentially an early withdrawal penalty. So, instead of a direct distribution, she establishes a “C-corporation” and creates, but does not issue, any number of corporate shares. This corporation then establishes a qualified profit sharing plan, and the “owner-employee” rolls over her retirement account into the qualified plan. Then the plan exchanges the cash from the rollover with the newly issued company stock and…Viola! The entrepreneur now has cash to finance her business without incurring a taxable event.

Like many things in life these arrangements look good in theory, but in practice have lots of problems. In October 2008 the IRS issued a memorandum, Guidelines regarding rollovers as business start-ups, in which it states: “Although we do not believe that the form of all of these transactions may be challenged as non-compliant per se, issues such as those described within this memorandum should be developed on a case-by-case basis.”

The IRS memo discusses 7 potential issues for these arrangements:

Benefit Rights and Features Discrimination: Stock investment is not “effectively available” to all participants
Prohibited Transactions – Stock Valuations: Initial valuation cannot be substantiated based on fair market value of start-up business
Prohibited Transactions – Promoter Fees: If promoter is a fiduciary the “diversion” of plan assets to pay promoter fees may be a prohibited transaction. (Promoter may be giving investment advice by recommending investment in company stock. Because they are getting paid this makes them a fiduciary and potentially leads to a claim of self-dealing.)
Permanency: If the plan doesn’t have substantial and recurring contributions then the IRS can challenge whether it was ever intended to be a qualified plan.
Exclusive benefit: In some cases the proceeds from the ROBS transaction are used for personal non-business items (e.g. recreational vehicles). This would violate the exclusive benefit rule (i.e. that assets must be used exclusively to pay retirement benefits to participants).
Plan not communicated to employees: May violate requirement that plan be definite written program communicated to employees.
Inactivity of 401(k) arrangement: Plan may include a 401(k) provision, but participants have not been allowed to make a deferral.

Interestingly, this memo may have consequences not intended by the IRS. Instead of acting as a deterrent, the memo is being used as “a road map of the late-stage procedural issues brokers need to monitor closely in order to keep ROBS compliant” (at least according to sources referenced in this Forbes.com article: The IRA Job Machine).

Despite these potential issues, the recent credit crunch and increase in unemployment makes dipping into retirement savings look pretty appealing to many would be entrepreneurs.

We are definitely not in Kansas anymore.

Household Income in America and Retirement Savings

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Fri, 22 Jan 2010 03:37:00 +0000

Household income in America typically refers to all income of residents in every household over the age of 18. Income is usually made up of:

Wages and Salaries
Unemployment Insurance
Disability Payments
Child Support Payments
Regular Rental Receipts
Personal Business, Investment, or other Income received routinely

In 2007, the Median Annual Household Income rose 1.3% to $50,233 according to the Census Bureau, with approximately $7.896 Trillion in total income.

Median Annual Household Income for the state of Washington ranked #10 in 2008 at $58,078.

If every American Household deferred 10% of Household Income into tax-deferred retirement savings vehicles such as 401(k)s or IRAs, based on 2007 Census Bureau numbers, approximately $790 Billion would be tax deferred. Unfortunately, the Average American defers significantly less (closer to 5%).

Interestingly enough, the U.S. Department of Commerce, Bureau of Economic Analysis shows the following earnings changes from 2001-2009 in this Interactive Chart:

$4,183B ('01) to $5,148B ('09) in Private Sector
$804B ('01) to $1,184B ('09) in Government

All Private Sector earning Americans had an earnings increase of 23%, and All Government earning Americans as a whole had an earnings increase of 47%.

The same source reports Personal Savings Rate, as a percent of Disposable Personal Income in Flow of Funds Accounts (FFAs) was:

2006: (0.2)%
2007: 4.8%
2008: 8.7%
2009: ?

Bankruptcy Protection for Retirement Assets

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Fri, 08 Jan 2010 04:15:00 +0000

In these uncertain financial times we get more and more questions about whether 401(k)s and other retirement vehicles are protected in case of bankruptcy.

The short answer is yes.

The Employee Retirement Income Security Act of 1974 (ERISA) and the Bankruptcy Abuse Prevention and Consumer Protection Act of 2005 (BAPCPA) provide federal protection for retirement assets upon bankruptcy.

However, there can be significant differences in protection based on the type of retirement account.

So, here is a longer answer:

ERISA provides the strongest protection for retirement assets. These rules state that your retirement assets can not be assigned or alienated, except under very limited circumstances (e.g. IRS tax levy, qualified domestic relations order, participant loan default). This means that ERISA protected assets are exempt from the employer’s and employee’s bankruptcy estate.

Historical Note: While ERISA has been around for a while, it wasn’t until 1992 that the Supreme Court unanimously ruled that the anti-alienation rules of ERISA apply to bankruptcy cases. This ruling settled a long standing difference among the federal appellate courts.

401(k), profit sharing, defined benefit and most other employer sponsored retirement plans are covered under ERISA. There are a few notable exceptions. ERISA does not cover:

Solo 401(k) plans (i.e. plans covering only self employed individuals)
Certain deferral only 403(b) plans
SIMPLE and SEP IRAs
Traditional and Roth IRAs
Certain governmental plans (e.g. 457)

Fortunately, since October 17, 2005, we have BAPCPA to protect these other types of plans. This law provides bankruptcy protection for “tax-exempt” assets held in these accounts.

Protections under BAPCPA are not as strong as those under ERISA. Specifically BAPCPA doesn’t protect IRA assets in excess of $1 million. (This cap doesn’t apply to SIMPLE, SEP and rollover IRAs. Meaning if you rollover your 401(k) to an IRA the entire rollover amount is protected even if it exceeds $1 million.)

In addition BAPCPA doesn’t protect retirement assets in non-bankruptcy judgments, such as civil lawsuits. ERISA’s stronger anti-alienation rules protect retirement assets in almost all instances. (An interesting exception is the use of a fiduciary’s ERISA protected account to repair a fiduciary breach.)

Hopefully these answers help employers and participants sleep easier knowing their retirement assets are protected.

Haddock v. Nationwide and Revenue Sharing

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Thu, 10 Dec 2009 16:15:00 +0000

An interesting decision was handed down last month in the much watched Haddock v. Nationwide 401(k) fee case. The courts, for the first time, certified a class consisting of all pension benefit plans using a specific provider, in this case Nationwide. Here is the class definition from the ruling made by U.S. District Judge Stefan Underhill:

“All trustees of all employee pension benefit plans covered by ERISA [The Employee Retirement Income Security Act of 1974] which had variable annuity contracts with Nationwide or whose participants had individual variable annuity contracts with Nationwide at any time from January 1, 1996, or the first date Nationwide began receiving payments from mutual funds based on a percentage of the assets invested in the funds by Nationwide, whichever came first, to the date of November 6, 2009.” Haddock v. Nationwide Financial Services Inc., No. 3:01-cv-1552 (SRU) (D. Conn)

Background:

In 2001, the trustees for a handful of 401(k) plans filed suit against Nationwide Financial Services Inc., claiming Nationwide’s contracts with mutual fund companies and retention of revenue sharing was a breach of Nationwide’s fiduciary duty. Central to their claim is the assertion that revenue sharing is a plan asset, which implies that Nationwide’s alleged quid pro quo engagement with mutual fund companies involving revenue sharing violates ERISA’s prohibition of fiduciary “self-dealing”.

Revenue sharing is a practice whereby mutual fund companies pass a portion of their management fees to other “intermediaries.” In the context of a 401(k) plan the mutual fund company passes a portion of the fund expense ratios to other service providers such as the plan’s custodian or recordkeeper. For fuller treatment of plan fees, including revenue sharing, click here.

In 2006 the court denied the defendant’s motion for summary judgment, finding “triable issues of fact” relating the characterization of revenue sharing as a plan asset. In its ruling, the court noted that no explicit definition of plan assets can be found in ERISA and that the regulations and current case law do not provide a definition of plan assets as they relate to revenue sharing. The court called for a “functional approach” to defining plan assets using a two pronged test. According to the ruling plan assets would include benefits received by defendant (1) as a result of its exercise of fiduciary discretion or authority, and (2) at the expense of plan participants or beneficiaries. See Haddock v. Nationwide Fin. Servs., 419 F. Supp. 2d 156 (D. Conn. 2006) for details.

Needless to say this ruling was widely read and discussed within the 401(k) community.

Recent Ruling:

Judge Underhill found that the class of “all trustees of all pension benefit plans…which had contacts with Nationwide” meets the numerosity, commonality, typicality and adequacy requirements for class certification. Judge Underhill also found that the primary purpose of the class would be to obtain injunctive and declaratory relief (i.e. to stop Nationwide from continuing its practices related to “revenue sharing”) and that monetary relief is secondary.

At the heart of this issue is the allegation that Nationwide used it’s collective pool of 401(k) money as leverage to negotiate with mutual fund companies for more revenue sharing in exchange for inclusion of their funds on its 401(k) platform; and that the revenue sharing received was not used to offset a pre-disclosed fee, but rather was additional income for Nationwide. Indeed, the plaintiffs

"allege that the revenue sharing payments were not made in return for any services, arguing that those services were already being paid for by the Plans and participants through the standard fees charged by Nationwide…In other words, Nationwide was already being compensated for those administrative tasks, and, therefore, the revenue sharing payments were pure profit."

Judge Underhill in a prior ruling found “the Trustees have raised a triable issue concerning whether Nationwide in fact performed services in consideration for those payments.”

Because Nationwide was (allegedly) leveraging its collective pool of plan assets for its own benefit, then the trustees of these plans constitute a class that has standing in relation to the fiduciary breach claim.

Conclusion

As a provider we are certainly wary of any developments that would impede our industry’s ability to provide quality and cost-effective services. However, Nationwide is not alone in its treatment of revenue sharing. Many providers either don’t disclose revenue sharing and/or don’t use revenue sharing to offset pre-established fees. We often analogize 401(k) fees to icebergs: you only see the small amount “above the surface.”

I hope this case will call attention to some of these less than transparent practices and will drive more providers to disclose all of their revenue, not just to plan sponsors, but also to plan participants.

The impact of this case will ultimately dependent on whether congress passes real fee disclosure rules for the financial services industry. But that is a discussion for another blog post.

2009 Requirement Minimum Distributions

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Thu, 19 Nov 2009 20:23:00 +0000

This isn’t the most glamorous topic, but is highly relevant to participants and sponsors:

Basic Idea:

President Bush signed the Workers Retirees and Employers Recovery Act of 2008 (WRERA) on December 23, 2008 in order to give relief to plan participants and sponsors due to the economic downturn. This law provides funding relief for employers sponsoring defined benefit plans and allows participants in defined contribution plans to waive their 2009 required minimum distributions (RMDs).

Background:

Current law requires participants to start taking taxable distributions of their retirement benefits starting the year they turn 70 ½ or, if later, the year they stop working. (5% or more owners must start distribution when they turn 70 ½ regardless of when they stop working.)

A participant’s first RMD must be distributed by the April 1st of the calendar year following the year they meet the above requirements (i.e. turn 70 ½ or, if later, stop working). Subsequent minimum distributions must be taken annually by each December 31.

The amount of the minimum distribution is based on the participant’s life expectancy, the idea being to spread out the participant’s benefits over his or her remaining life expectancy. (Note: in some instances the distributions are based on the participant and his or her spouse joint life expectancy.)

Details of WRERA:

Participants can waive their 2009 RMDs. This waiver applies to virtually all defined contributions plans subject to RMD rules:

- Qualified plans (e.g. 401(k))
- 403(b) plans
- Governmental 457(b) plans
- IRAs

The waiver does NOT apply to Defined benefit plans or Tax-exempt 457(b) plans.

A 2009 RMD includes amounts required to be distributed by April 1, 2010 for participants who turn 70 ½ (or sever employment) in 2009. However, 2009 RMDs do NOT include amounts required to be distributed by April 1, 2009 for participants who turn 70 ½ (or sever employment) in 2008.

Normally RMDs are not eligible rollover distributions. However, 2009 RMDs can be rolled over. For amounts distributed to participants earlier in 2009, the 60-day rollover period has been automatically extended to November 30, 2009. Meaning participants can deposit previously distributed 2009 RMDs to an IRA, or back into the distributing plan if permitted, up until Novermber 30th and still avoid tax consequences for 2009.

Even though 2009 RMDs can be rolled over, the plan is not required to apply mandatory 20% withholding, provide for direct rollovers of 2009 RMDs, or provide participants with the special tax notice. These items are all normally required for eligible rollover distributions.

In operation plans have three options to comply with these rules:

(1) Automatically suspend all 2009 RMDs
(2) Automatically distribute all 2009 RMDs
(3) Allow participants to elect whether to take 2009 RMDs

I would have recommended the first option. This option minimizes potential plan errors and is the most beneficial for participants. In most instances participants who depend on their RMDs for living expenses will still be able to take a non-RMD distribution in 2009 (e.g. an in-service-withdrawal or regular termination distribution).

However, IRS notice 2009-82 is not clear whether across the board suspension of 2009 RMDs is permissible. So I believe your safest bet is to give participant a choice, option 3. The election form used should clearly state a default option for non-responsive participants (e.g. unless otherwise elected the plan will not distribute 2009 RMDs).

Disclaimer: The above discussion is not legal or tax advice or even an exhaustive discussion of the RMD rules and/or WRERA. Each individual’s situation may vary. So be sure to check with a qualified consultant or financial advisor regarding your 2009 RMD options.

Problem with the 401(k) System?

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Mon, 12 Oct 2009 18:43:00 +0000

Here is a great article that illustrates one of the shortfalls of our current 401(k) retirement system: the people in charge either don’t want to be in charge or don’t have the time, skills and/or knowledge to be successful in managing the 401(k) plan.

The article gives three case studies that in my experience are representative of many plan sponsors.

Case 1: [The Business Owner] only agreed to set up the plan on two conditions: It wouldn’t cost the company a dime, and he wouldn’t have to deal with it.

Case 2: “As long as you don’t charge us any fees”

Case 3: “It was nice to think there was enough smartness in the group to help pick [the plan’s investment options],” says…the general surgeon who chairs the committee…Smartness isn’t always enough, though.

Quite often 401(k) plans sponsors believe that once they setup the plan and hire the broker all responsibility has been passed to someone else (e.g. the broker and/or participants). However, from a legal standpoint, and I would argue from a business and policy standpoint, this is wrong. See our webinar on Fiduciary Best Practices: A Guide for Small Employers for details.

Also, many 401(k) plans sponsors, being good business people, will make sure the fees paid by the company are reasonable and fair. (Or even better then fair as illustrated by the above quotes!)

However, sponsors are much less likely to worry about the investment fees paid by the plan participants. 401(k) providers know this and use it to their advantage by burying hidden fees in the various investment products they sell.

Even really smart people – doctors, lawyers, scientists – generally don’t have the knowledge or time to unravel the complicated mess that is their 401(k) plan fees, again a fact that providers know and exploit.

There are a number of bills currently pending in congress that would require full fee disclosure both to plan sponsors and, most importantly, to plan participants. Let’s hope one of these bills can make it into law without being too watered down.

For more information on plan fees see our recently completed webinar: Understanding Retirement Plan Fees.

Labor Day Brings Presidential and Congressional Focus on Retirement Plans

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Fri, 11 Sep 2009 06:48:00 +0000

Although Health Care continues to be the focal point on Capital Hill during the month of September (the month that brings Congress back to session) Retirement Plans received a pivotal focus to start the month from members of Congress and President Obama. Senior Obama administration officials issued a package of Treasury Department and Internal Revenue Service guidance to promote workplace retirement savings, releasing the documents early Sept. 5 in time for President Obama’s planned weekly radio address on retirement savings. In this address, President Obama said it is “essential” to the economic recovery to make it easier for people to save for retirement, and spoke specifics on:

1) Intention to Propose the Automatic IRA Proposal in his Budget,
2) Expansion of the SAVER’s Credit,
3) Tax Deductions to be Automatically deposited into an IRA,
4) Proposal to allow payments from Unused Sick and Vacation Time to be deposited into Retirement Plans,
5) New Government Website aimed at helping People Learn how to Save for Retirement.

On the Qualified Retirement Plan front, taxpayers can expect the focus to be on Defined Benefit Funding Relief, 401(k) Fee Disclosure Regulations, as well as Independent Investment Advice. Rep. Richard Neal (D-MA) is the key Congressperson on the House Ways & Means Committee, as Chairman Charles B. Rangel’s (D-NY) “Deputized Leader” on the subject matter.

“If you work hard your whole life, you ought to have every opportunity to retire with dignity and financial security. And as a nation we ought to do all we can to ensure that folks have sensible, affordable options to save for retirement.”

-- President Barack Obama

Is Participant Choice a Good Idea?

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Thu, 20 Aug 2009 21:22:00 +0000

The mainstream media has often commented on the shift from defined benefit plans to defined contribution plans over the last few decades (see PBS FRONTLINE report). But there has also been a shift within defined contribution plans from “trustee” directed “pooled” accounts to “participant” directed “individual” accounts.

Years ago it was common place for employers to sponsor a “pooled profit sharing” plan. Each year the employer would determine how much to contribute and these contributions were held in a single account. The employer would appoint a trustee and/or investment manager to determine how to invest the contributions on behalf of all participants.

Then came the rise of the 401(k) plan. For some reason in a 401(k) plan it was decided that participants ought to choose their own investments. At the meetings I attended where sponsors contemplated adding a 401(k) provision, the logic went something like this: because participants would see the money comes out of their paychecks they will want to (and perhaps ought to) be more involved in the investment decisions.

Some providers also told employers that by handing over investment choices to participants they rid themselves of fiduciary responsibility (for more on the fallacy of this idea please see our recent webinar on Fiduciary Best Practices: A Guide for Small Employers.)

We have moved from a situation where employees didn’t have to make any decisions, or have any choices, about retirement savings (e.g. the traditional DB plan) to a situation where employees have all the decisions, and have perhaps too much choice, (e.g. today's typical 401(k) plan).

Is this good or bad? Here are two studies that provide some illumination:

# 1: The Deloitte 401(k) Benchmarking surveys
In these annual surveys,

Employers consistently report that the biggest barrier to plan participation is a “lack of employee understanding.”
Employees most often report “Where to invest/which funds to use” and “How Much to Save for Retirement” as the more confusing parts of their retirement plans.

While automatic enrollment features and default investments may alleviate some of these problems, they are not perfect solutions (see prior post on PPA’s automatic enrollment provisions).

# 2: Pension Research Council Working Paper: The Efficiency of Pension Menus and Individual Portfolio Choice in 401(k) Pensions
This working paper analyses a rich set of participant account data from Vanguard. Their findings include:

The vast majority of the plans in their study offer reasonable investment menus (i.e. the menus are “efficient” compared to market benchmarks)
Most “real-world” participants make mistakes by investing inefficiently and not diversifying their investments enough.
The participant’s investment mistakes account for the majority (76%) of their poor performance.
These investment mistakes have a significant impact on retirement savings, reducing wealth by 1/5th over a 20 year career.

The study also has interesting findings regarding investment menus:

More is not always better: adding more than about 9 well chosen mutual funds does not improve participant investment performance.
Index bond and index domestic equity funds improve plan efficiency.
Actively managed domestic equity funds hurt plan efficiency.

So what does this mean for today’s 401(k) plan sponsor? If you offer participants a choice, do it right:

Have a well chosen list of investment options covering all asset classes.
Use no more than 9-12 funds.
Consider having participants select between pre-mixed model portfolios instead of individual mutual funds.
To the extent you provide investment education, focus on answering the basic questions: How to enroll in the plan?, How much to save? and Where to invest?
Provide employees easy to use savings guidelines when they enroll in the plan (try the FPA Journal - National Savings Rate Guidelines for Individuals).
Periodically review participant asset allocation, individual investment performance, and retirement readiness. You can’t manage what you don’t measure.

Will the Pension Protection Act of 2006 (PPA) accomplish its purpose? Part 2 of 2

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Thu, 13 Aug 2009 17:38:00 +0000

This is the second and final post addressing whether PPA will accomplish its purpose. Click here for part one.

Purpose #2: Expand Opportunities to Save

PPA definitely expanded opportunities. However, the real question is whether this expansion will solve the problems with our retirement system. In particular, will PPA increase coverage, savings, and investment return rates significantly enough that 401(k) plans will provide workers with enough retirement income? I don’t believe it will.

Auto-enrollment was a major part of PPA and some claimed this provision as the cure-all for our nation’s retirement problems. Many studies, both before and after PPA, show that auto-enrollment significantly increases participation:

A recent Hewitt study reports that the average participation rate for 401(k) plans overall in 2008 was 74.2%, compared to 82.3% for automatic enrollment plans.
In addition providers like Fidelity and Vanguard are reporting large increases in the number of employers converting to auto-enrollment as well as low “opt-out” percentages among workers in these arrangements.

This is promising news and may eventually validate some of the claims that the PPA auto-enrollment provisions will close the retirement savings gap.

However, not all the news about auto-enrollment is positive. Some are claiming that auto-enrollment decreases the amount that participants save. The same Hewitt study referenced above reports that the average deferral rate decreased from 7.9% in 2006 to 7.4% in 2008. This decrease may be due to the fact that the default percentages in auto-enrollment plans are relatively low (e.g. 3% for a typical plan). Thus auto-enrollment may actually cause employees to save less than they should based on what is needed for an adequate retirement.

In addition most of the increase in auto-enrollment is among larger employers (100+ employees). We have a huge percentage of employees at small businesses that don’t have a retirement plan. PPA did nothing to address this issue.

Also, the so-called fiduciary advisor provision of PPA has been a big flop. I don’t know anyone in the industry who actually provides investment advice under this provision. I have even heard talk that this provision may be repealed by congress in upcoming legislation.

The problem is not that we don’t need investment help. A DALBAR study shows that the average equity investor earned an annual return of 1.87% over the last 20 years, compared to 8.35% for the S&P 500. The problem with the PPA provisions was the limited incentives for employers and providers and the lengthy and complicated compliance rules.

So my conclusion: PPA is a step in the right direction. It increases protections and expands opportunities to build retirement nest eggs. But these protections and opportunities are no where near the comprehensive solution needed to solve to this country’s retirement problems.

Will the Pension Protection Act of 2006 (PPA) accomplish its purpose - Part 1 of 2

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Thu, 13 Aug 2009 17:02:00 +0000

I had a client ask me a great question last week: “In your opinion will the Pension Protection Act of 2006 (PPA) accomplish its purpose and why to yes or no?“

Of course before responding I had to define the purpose behind PPA. After reading some committee reports and public statements made by the president and the congress I believe there were two main purposes to this legislation:

Strengthen protections for the American workers’ pensions.
Expand opportunities to build retirement nest eggs.

So now the question is: did PPA strengthen protections for pensions and expand opportunities to save? This first entry will address purpose #1: Strengthen Protections for Pension Plans

A detailed explanation of the changes made to DB plans under PPA is beyond the scope of this blog, but the basics are as follows: The Pension Protection Act of 2006

changed the funding rules, generally increasing the funding requirement to 100% of the present value of benefits earned,
changed the interest rate assumptions from Treasury rates to yield curves,
added additional requirements for at-risk plans,
placed restrictions on the use of credit balances.

In general, the legislation tried to balance the need to increase funding requirements with concerns that more stringent rules will cause employers to drop defined benefit plans in favor of 401(k) type arrangements.

Most of the actuaries I spoke to believe that legislation was needed to shore up the defined benefit plan system. However, some believe the details of PPA were “flawed” and that it was “rushed.” (The PPA technical correction bill from 2008 addressed some but not all of these flaws.)

A good and relatively understandable explanation of the legislative history surrounding these issues can be found here. It is interesting to note the roles played by the administration, various committees, and lobbyists in the creation of this law.

The general consensus, with which I agree, is that PPA was a good first step for fixing problems with our pension system, but is by no means a comprehensive solution. The bigger issue now is of course the recession. The recent economic downturn has had a much more profound impact on our defined benefit system. How we respond to this “crisis” will be important to the security of our retirement.

(Side note: interestingly enough 82% of US respondents to a recent CFO Research Services / Towers Perrin survey claim they have adequate access to cash in order to fund their DB plans for the next 2 years.)

First Mutual Fund Family Cuts Management Fees

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Thu, 06 Aug 2009 23:05:00 +0000

During a time when Employers, Employees, and Governments are all doing what they can to cut hours, costs, and run a successful enterprise, finally, a Mutual Fund family is following suit.

Putnam Investments made an announcement this week, subject to shareholder approval, that it would lower costs for its mutual funds by:

1) Cutting expense ratios,
2) Implementing performance driven expense ratios, and/or
3) Adjusting pricing breakpoints

Analysts expect a 10-13% price reduction.

Who else will follow suit, and why did it take so long?

Welcome to Our Spectrum Pension Blog!

noreply@blogger.com (Spectrum Pension Consultants, Inc.) — Tue, 04 Aug 2009 14:53:00 +0000

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