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Avoiding drawbacks related to unclaimed pension benefits

November 14th, 2014 No comments

Unclaimed pension benefits that sit as uncashed checks are deemed plan assets and are the responsibility of plan fiduciaries, according to Department of Labor guidance. These outstanding benefits could cause some consternation for sponsors when creating policies and procedures to better manage them.

In this article, Millman’s Skyler Marchand outlines guidelines that can help fiduciaries navigate the complexities of uncashed checks and avoid administrative pitfalls that may arise. Here’s an excerpt:

How do I identify the uncashed checks?
Ask your trustee or custodian or your TPA for a list of all uncashed checks.

Can the expense associated with unclaimed benefit administration be applied to the plan?
The full administration associated with locating “lost” participants and paying out benefits can become costly when you factor in certified mailing costs, stop pay and/or reissue fees, vendor search fees, and administration time. Reasonable fees associated with unclaimed benefits may be paid from the plan or offset directly from lost participant accounts.

Avoid the pitfalls
Before you are able to pay these fees from the plan, they must be disclosed in your annual 404(c) fee disclosure notices and distributed to participants before the fee goes into effect.

What steps should be taken once unclaimed benefits are identified?
Many plan documents provide guidance on unclaimed benefits, procedures for locating lost participants, and the forfeiture of prolonged unclaimed benefits. To establish your plan’s procedures you should first refer to your plan document. However, many documents are very general or silent on some of these issues and the plan sponsor must determine what to do. When we advise plan sponsors on options for establishing procedures, we reference the DOL steps outlined for terminating plans2 and use it as a guideline for creating procedures for active qualified plans. Generally, we recommend three main steps to process uncashed checks; 1) notification, 2) reversion of assets back to the plan, and 3) forfeiture of benefits for lost participants….

The article also provides a scenario in which uncashed checks are void or become “stale” 180 days after the issue date and the process is repeated on a quarterly basis.

Pension sponsors can benefit from a weekly death audit

October 29th, 2014 No comments

Overpayment of pension benefits due to annuitant deaths may require additional plan contributions from a sponsor. However, a continuous death audit can help sponsors learn of annuitant deaths early, preventing unnecessary disbursements of funds. In his article “Advantages of a continuous death audit,” Milliman’s Justin Guy discusses the benefits of working with a certified search firm to report on annuitant deaths.

Here is an excerpt:

For some plan sponsors, Milliman has partnered with a certified search firm in order to continuously monitor two distinct populations. Both annuitants and deferred vested participants are monitored on a weekly basis for mortality verification purposes.

Why deferred vesteds? If these participants are not in pay, there is no risk of overpayment, so why monitor this population? The answer has roots in de-risking. If a terminated vested participant dies, the liability to the plan could be removed if that participant is not entitled to a death benefit based on marital status or other applicable plan provisions. In addition, contacting any beneficiary in as timely a fashion as possible will reduce the administrative burden of trying to locate beneficiaries years later before they become lost.

To illustrate the impact of prompt notification of a death for an annuitant, consider the following:

• Administrator conducts annual death audit on July 1.
• Annuitant dies on July 25, 2014.
• Death is not reported by estate.
• Annuitant has EFT.
• Annuitant is receiving a single life annuity of $500.

In this example, an overpayment for the months of August 2014 through July 2015 is likely, totaling $6,000 due to the timing of the audit and trust cut-off calendars. If the death is reported on the public DMF, which Milliman monitors weekly, only the August overpayment is inevitable. Therefore, $5,500 in overpayments would be prevented.

Although we have seen a 70% successful rate of recoupment, this is across the entire plan. It is much more likely to recoup $500 dollars from an estate than $6,000. Also, if identified early enough, it may be possible to recall the EFT without funds being lost from the plan at all!

In real-life administrative activities, a total of 149 annuitants became deceased between July 15, 2013, and August 1, 2013, for the same population Milliman supports.

Overall, the cost of administering these activities is far less than the cost of a single overpayment that is unsuccessfully returned. Milliman can achieve even higher savings due to a per-record fee structure. The more records searched, the lower the cost per record.

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Understanding risks and solutions: A pension de-risking case study

October 17th, 2014 No comments

Corporations with pension plans can be viewed as corporations owning life insurance companies (offering lifetime annuities to plan participants). De-risking these pension plans has become an increasingly important topic for chief financial officers as they try to manage their corporations’ risk.

Annuitization is often touted as one of the primary options to de-risk pension plans, but there are actually many strategies available for consideration. Each has its own strengths and weaknesses, so it is paramount for CFOs to have the appropriate information before making a decision. CFOs must also understand the risks associated with their pension plans, and should be able to define each corporation’s unique risk tolerance.

Longevity risk is often overlooked in the United States because of its long-term nature. However, it is an extremely important risk to consider when de-risking pension plans, due to the tremendous level of mortality improvement experienced in the United States within the last five to 10 years.

In the case where annuitization is determined to be the best solution, the process of obtaining annuity prices introduces a whole new array of considerations for the CFO. Because the annuitization of a pension plan is analogous to selling a life insurance company, we believe obtaining an independent actuarial appraisal can assist the corporation in securing the most cost-efficient annuity.

This article was published in Institutional Investor Journals (subscription required).

To receive a copy of this article, please contact Stuart Silverman.

Hybrid retirement plans provides sponsors with options

October 2nd, 2014 No comments

Hybrid retirement plans are becoming more popular among employers seeking to offer the best features of both traditional defined benefit and defined contribution plans. A recent Employee Benefits Adviser article (subscription required) highlights variations of these hybrid plans and identifies some public and private sector sponsors that have shown interest in adopting them.

Here is an excerpt featuring some perspective from Milliman’s Mark Olleman and Kelly Coffing:

“I think we are going to see more hybrid arrangements and fewer defined contribution and traditional defined benefit plans [in the future],” says Mark Olleman, principal and consulting actuary at Milliman, Inc. in Seattle. “I think we really need more plans to provide people with a lifelong income, without providing employers unpredictable contributions.”

…Wisconsin’s plan looks more like a variable annuity pension plan. [Retiree benefits are based on a conservative assumption of] a 5% return. If the plan returns better than 5% over the long term, retirees get dividends. If it returns below 5%, the dividends will be taken away, Olleman says. Retirees receive a minimum amount [of their original benefit] regardless of how the market performs.

The big difference between public sector and private sector plans is that public sector plans need to get permission from the legislature to make changes, he said. Both sectors have shown an interest in hybrid options.

Kelly Coffing, a principal and consulting actuary for Milliman who works more closely with private sector employers, says that variable annuity pension plans have been around for a while but have not been popular with retirees. The reason? They don’t like it when their benefits go down, she said. In a VAPP, the monthly benefits move up and down based on the performance of the plan. If the assets go up, the benefits go up. If the assets go down, the benefits go down.

Despite the volatility, these types of plans always stay funded and have very predictable, rational employer costs, Coffing says. They also offer longevity pooling and inflation protection, which is something participants don’t get in a defined contribution plan.

…Milliman has attempted to smooth out some of that volatility for retirees in its latest version of the VAPP [that they call the stabilized VAPP].

“In years where returns are high, we don’t give the whole upside to participants. We [cap] the increases [to build] a reserve. When the market goes down, we can [use the reserve to] shore up the benefit to the high water mark,” she says. This way, participants don’t see a roller coaster of ups and downs in their retirement [benefits].

…Milliman’s experts say they hope the variable annuity pension plan will gain in popularity now that [final hybrid retirement regulations issued September 19, 2004 have confirmed that the stabilized VAPP is an acceptable plan design.]

To learn more about how VAPPs can provide lifelong retirement benefits, read Olleman and Kelly’s article entitled “Variable annuity pension plans: An emerging retirement plan design.”

Is pension outsourcing right for you?

August 5th, 2014 No comments

Benbow-DavidThere has been much discussion about the relevance of the defined benefit (DB) pension plan. For decades, people have bemoaned the demise of DB plans, saying they are too costly to administer and too expensive to maintain. Others have suggested that there is no other type of plan that will provide a sufficient and stable source of retirement income. There has been a growing trend of top employee benefit providers shifting their DB outsourcing service models by partnering with firms such as Milliman, while others have opted to exit the DB outsourcing business completely, as recently announced by Vanguard.

Does that mean DB outsourcing is no longer relevant?

Outsourcing is more relevant than ever, but it’s become so specialized that it’s best handled by experts who do it as their core business. DB plan outsourcing was once very expensive, but technology and economies of scale have made outsourcing much more affordable. Here are a few reasons why DB plan sponsors should consider outsourcing.

The changing of the guard
Many employers have a person (call her “Betty”) who has single-handedly administered a DB plan for years, maybe decades. Betty is friendly, she is dedicated, and she knows everything about the pension plan—including when to look people up in the big red binder. Betty is 62.

Not only is Betty going to retire someday, but she hasn’t trained anyone to take her place. Betty is very dependable, but has she stayed current on all the new pension legislation, and would her work stand up to an audit by the Internal Revenue Service or U.S. Department of Labor?

Because a change is imminent, someone else should also be considered with at least as much experience as Betty, someone who is familiar with the challenges of automating the information that’s in Betty’s head (and in the big red binder), and who keeps abreast of the latest pension rules—namely, a DB outsourcing provider.

Participant convenience
We’re more than a decade into the 21st century and, thanks to our laptops, tablets, and smartphones, we’ve gotten used to having information available instantly. Participants meeting with a financial planner will want to look up their pension benefits online as well as model a few different retirement dates to see what works best for them. Some outsourcing providers have this capability, which renders the annual pension statement obsolete (participants never bothered to look at them anyway).

Providing self-service options for participants also cuts down on requests to human resources departments (and Betty is pretty overloaded with requests for estimates).

For participants who still prefer human interaction, an outsourcing provider may include a call center of friendly DB experts, who have full access to the participant’s information. They can field questions ranging from plan eligibility to the ever-popular “Where is my check?”

Plan sponsor convenience
As mentioned earlier, DB plans have become much more complicated to administer. In order to calculate benefits consistently and efficiently, a dedicated system is required for all but the simplest plans.

Plan auditors are more confident with calculations produced by a pension system instead of hand calculations or clunky spreadsheets. System results can be stored indefinitely along with evidence that calculations were reviewed. In addition, many outsourcing providers are independently audited and can provide plan auditors with a Statement on Standards for Attestation Engagements No. 16 (SSAE 16 Type 2) report for additional reassurance.

With a dedicated pension system, plan sponsors can also have a wealth of data at their fingertips. Regular reports can be generated for compensation and benefits committees and data extracts for plan actuaries. Mailing lists for summaries of material modifications (SMMs) or annual funding notices are made much simpler.

Finally, with the day-to-day pension operations off its hands, the benefits department can focus on other, more urgent matters.

It takes a village
It takes quite a few people to administer a DB plan: Actuaries to measure plan funding and forecast liabilities, administrators to calculate benefits, representatives to answer participant phone calls, and payment processors to work with the trustee. A full service outsourcing firm houses all these roles under one roof, creating a seamless team of professionals to make life easier for plan participants and plan sponsors.

If you’re wondering whether Milliman can help with the administration of your DB plan or would like to see a demo of our administration system or participant website, feel free to contact me or visit www.milliman.com.

What steps can a company take to de-risk a pension plan?

July 21st, 2014 No comments

A recent webinar organized by PlanSponsor asks sponsors if pension de-risking is right for their company. The webinar, sponsored by Prudential, features Milliman consultant Stuart Silverman discussing a three-step approach that can help chief financial officers make an informed de-risking decision for their company.

Here is an excerpt from his presentation:

We’ve been advocating a stepwise approach to decision making, and the first step is that the corporation needs to understand all their risks, not just the asset risk but also understanding the liability-related risk.

The second step, once we understand all these risks is helping the corporation understand what their risk tolerance is. Some corporations might have a wide risk tolerance and some may have a very limited risk tolerance.

…After we know what the risks are and what their tolerance is, we want to find the most cost-effective solution to bring their risk into a tolerable range.

In his article “The risks of de-risking pension plans,” Zorast Wadia also provides perspective concerning the risks associated with de-risking a defined benefit plan:

…While every plan sponsor and advisor should be thinking about pension risk management, it is important to exercise care in the strategy that is chosen and in the timing of implementation. Every pension de-risking strategy has its own pluses and minuses and most have an embedded cost associated with them, whether implicit or explicit. Risk management strategies must be customized for organizations depending on their risk tolerance and cash flow requirements. Once a strategy is selected, periodic refinement should also be considered. It’s not a one-size-fits-all approach. Before proceeding down a particular direction, plan sponsors must equally be made aware of both the risk reduction opportunities and the risks of de-risking.

If you are interested in learning more about pension risk management considerations, read Zorast and John Ehrhardt’s four-part PlanSponsor series.

Post-retirement benefits: Three new exposure drafts from GASB

June 26th, 2014 No comments

AlexKaplanPhoto.comOver the past two years, the Governmental Accounting Standards Board (GASB) has been working on a project to modify accounting for post-retirement benefits that covers both “other post-employment benefits” (OPEB) and pensions that are not funded through a trust. The new GASB 67 and 68 rules for pensions published in 2012 apply only to pension benefits funded through a trust.

That project has reached fruition and the GASB has published three new exposure drafts. The first describes new requirements for the external financial reports of OPEB plans. The second proposes new accounting requirements for governmental entities that provide OPEB benefits to their employees. The third establishes requirements for defined benefit (DB) pension plans not funded through a trust, which are therefore not subject to GASB 67 or 68. It also contains some minor amendments to GASB 67 and 68.

The timeline for this project is:

• August 29, 2014: Comment deadline
• September 10-12, 2014: Public hearings
• First half of 2015: Final statements

The new accounting for OPEB and pensions not funded through a trust are largely based on the same principles as those found in GASB 68. Especially for an entity that provides OPEB benefits to its employees, this represents a significant change from the requirements of GASB 45. In particular, the use of the entry age normal funding method will be required and liabilities will be valued using an interest rate that is representative of a combination of the rate to be earned on invested assets and the rates in a government bond index. Perhaps more importantly, the plan’s unfunded accrued liability (i.e., the entire accrued liability for unfunded plans) will be placed on the balance sheet of the entity sponsoring the plan. For many small local entities such as towns and school districts this liability may exceed the entire size of their annual budgets.

The proposed effective dates of the new standards are as follows:

• For OPEB plans, the fiscal year beginning after December 15, 2015 (2016 for calendar-year plans)
• For an entity that provides OPEB benefits to its employees, the fiscal year beginning after December 15, 2016 (2017 for calendar-year plans)
• For pension benefits not funded through a trust (i.e., not subject to GASB 67 or 68), fiscal years beginning after June 15, 2016 (June 15, 2015, for the minor amendments to GASB 67 and 68)

To read Milliman’s PERiScope series on technical and implementation issues surrounding GASB 67 and 68, click here.

Boosting retirement confidence

June 4th, 2014 No comments

Bleick-TimThe Employee Benefits Research Institute (EBRI) recently issued its 2014 Retirement Confidence Survey. The percentage of American workers who say they are not too confident or not at all confident they will have enough money to live comfortably throughout their retirement years now stands at 43%, down from 49% a year ago. While this is trending in the right direction, it is still concerning that more than four out of every 10 American workers currently put their chances of a comfortable retirement at less than 50-50.

The survey does a good job of dissecting the results to explore correlations. For example, the retirement confidence levels are vastly different between workers who have a retirement plan—e.g., an IRA, a defined contribution (DC) plan, or a defined benefit (DB) plan—compared to those who do not. Of those who have a retirement plan, only 28% say they are not too confident or not at all confident about a comfortable retirement. Of those who do not have a retirement plan, 69% are not too confident or not at all confident. It’s likely that many of these workers have very little personal savings. Add to that everyone’s concern about the path that Social Security is currently on, and it’s no wonder that almost seven out of 10 American workers with no retirement plan take a dim view of their chances for a comfortable retirement.

There’s an obvious solution to increasing retirement confidence in America, which is to get more workers into retirement plans. It may well be that a good portion of that 69% has 401(k) or similar retirement savings vehicles available at their employers, but they are not utilizing them. To get more workers into these plans, employers need to be continuously encouraging their employees and educating them on the power of “starting early,” the benefits of tax-deferred growth, and how they are leaving money on the table if there’s a match. Plus, automatic enrollment is an excellent mechanism to get new employees contributing at the onset. Small employers who do not currently offer a retirement savings vehicle should consider that retirement plans can help attract and retain employees and instill the importance of saving for retirement.

One of the most common 401(k) designs is one in which the employer matches 50 cents of every dollar an employee contributes, up to 6% of pay. Translation: employee contributes 6% of his pay and employer kicks in another 3% of pay, for a total of 9%. A person age 35 making $50,000 doing this every year for 30 years would have about $500,000 at age 65 (assuming 3% pay increases and 6% return on investments). Do you think half a million dollars would boost someone’s retirement confidence level?

A stabilization reserve could ease possible declines in VAPP benefits

May 8th, 2014 No comments

Variable annuity pension plans (VAPPs) have a lot going for them. They stay fully funded and have contribution and accounting stability like 401(k) plans. However, benefits increase or decrease depending on whether a plan’s investments return more or less than the set “hurdle rate.” With a basic VAPP, retirees will experience decreases in their benefits some years, but there is a benefit stabilization strategy that maintains the funding stability and dramatically diminishes benefit declines. Milliman’s Grant Camp and Kelly Coffing provide some perspective on this strategy in their article “Making the case for variable annuity pension plans (VAPPs).”

Here is an excerpt:

A stabilization reserve is built to keep benefits level during down markets. We call it the cap and shore-up method:

Build a stabilization reserve (by capping benefit increases in high return years).

A stabilization reserve could be developed in several ways. Two possibilities are described below:

  • Limit VAPP benefit increases to a certain maximum increase per year, say 10%. When the plan’s investment return would result in benefit adjustments greater than 10%, benefits would only increase by 10% and the excess return would be used to build a reserve.
  • Build the reserve with a portion of the return directly above the hurdle rate. For example, if the hurdle rate is 4%, do not provide benefit increases on the portion of the return between 4% and 5%. Benefits would only increase when returns are greater than 5%.

Spend the reserve in down markets to prevent benefit decreases (shoring-up benefits).

When benefits would otherwise decrease, use a portion of the stabilization reserve to prevent benefit reductions. The intent is to protect each retiree’s high-water mark (i.e., the highest level of monthly benefit received in retirement) to the greatest extent possible.

For example, if a retiree’s underlying VAPP benefit decreases from $1,000 to $900 per month, the stabilization reserve would provide $100 a month to shore up the benefit, maintaining a total benefit of $1,000 per month. The retiree has not had his benefit payment decrease.

The next year, the underlying VAPP benefit of $900 per month will be adjusted based on the plan’s investment return. If the underlying benefit exceeds the prior high-water mark of $1,000 per month, the underlying benefit is paid (this becomes the new high-water mark) and no payment is made from the reserve. However, if the underlying benefit is still less than the prior high-water mark, a portion would again be paid from the reserve.

Figure 4 from the article illustrates how a retiree’s basic VAPP benefit would have performed compared to a stabilized VAPP benefit from 1984 to 2013.

 

What to look ahead for in pension risk management

May 1st, 2014 No comments

Defined benefit plan sponsors are concerned about contribution and funded status volatility. Some recent pension risk management strategies have focused on liability-driven investing (LDI) and lump-sum distributions. In this article, Milliman consultants Tim Connor, Scott Preppernau, and Zorast Wadia discuss in general terms methods that plan sponsors may implement to de-risk their pensions moving forward.

Here is an excerpt:

We suspect that 2014 will see a continued trend of sponsors looking to de-risk their plans through the various methods mentioned above. In addition, we believe sponsors will investigate the benefits of a hybrid plan design such as the variable annuity plan for the reasons mentioned above.

Another trend likely to continue is the implementation of lump-sum windows or permanently increased lump-sum thresholds. These strategies have found favor with many plan sponsors, particularly in response to recent increases in Pension Benefit Guaranty Corporation (PBGC) premiums. Because PBGC premiums include a per-participant charge, and because that charge has increased substantially in recent years, sponsors will no doubt continue to take a hard look at the idea of offering lump sums if it translates into fewer participants for whom they must pay those premiums. In addition, the rates utilized to pay out lump sums have been fully phased in for a few years now, from the previous basis of 30-year Treasury rates. That old basis resulted in a period of time where lump sums were seen as costly to sponsors. That is no longer the case. On a U.S. GAAP accounting basis, plans are valuing liability at rates that are close to the rates that are now utilized to pay lump sums. In other words, there is no longer much of an accounting gain or loss to a plan that pays out a lump sum. Yet, it does accomplish de-risking by transferring management of the pension to the participant.

On the investment side, we also expect sponsors to explore some nontraditional de-risking solutions. Not all sponsors share the belief that leaving the space of equity investments makes sense in the long term. Some feel they can’t afford not to be seeking returns in the market. For them, a tail risk hedging investment strategy can be an attractive de-risking solution. A typical strategy allows for upside through equity investments, while at the same time mitigating downside losses that occur in volatile, declining markets. The concept of hedging tail risk is quite familiar to the insurance industry, which utilizes such strategies to manage its own risk in guaranteeing certain products, such as variable annuities. It makes natural sense for defined benefit plan sponsors to incorporate the approach to de-risk their own pension promises.

Read Grant Camp and Kelly Coffing’s article Making the case for variable annuity pension plans (VAPPs) to learn more about the variable annuity pension plan design. Also, for more Milliman perspective on lump-sum distributions, click here.