Tag Archives: Pensions

Generation X: Savings, pensions, and Social Security

pink-lesleyThis is the second blog in a three-part series exploring the economic history and future of Generation X. The series also focuses on what this generation can do to prepare for retirement. In the first installment, we highlighted some of Generation X’s financial predicaments.

Generation X faces major retirement challenges.

Besides the issues of job security and stagnant wages, there is the topic of cold hard cash—saving enough, having enough, allocating enough.

Some Gen Xers know that they started saving too late and wouldn’t be able to make up the difference. Others were worried because they’d been saving since they got their first jobs—20+ years ago—and felt that that money still wouldn’t be enough when they reach retirement age. And others just couldn’t save. As one fellow Gen Xer put it, “My wife and I don’t make enough together to save for retirement and the kids.” And let’s not fool ourselves—“retirement age” no longer has a firm definition.

We Gen Xers aren’t alone. According to the 2015 Retirement Confidence Survey published by the Employee Benefit Research Institute, “Almost two-thirds of workers (64 percent) say they feel they are behind schedule when it comes to planning and saving for retirement.” This survey also notes that cost of living and day-to-day expenses top the list of reasons why workers don’t save (or don’t save enough) for retirement.

Pensions, often referred to as defined benefit (DB) plans, used to be a mainstay. But they are not as common as they once were, and this, too, is affecting Generation X. In fact, according to Jennifer Leigh Parker on CNBC.com, Generation X is the first generation to see its pension leg replaced by 401(k) savings plans, which were increasingly adopted during the 1980s. The 401(k) plans are portable but aren’t designed as a monthly “pension paycheck.” The owner of the account balance has to take significant action to understand and convert any or all of it to that pension paycheck. Gen Xers , in general, will find that its collective savings plan account balances are woefully deficient and for many, sitting in a tax-deferred account. And the Internal Revenue Service (IRS) can’t wait for us to start cashing them out.

Additionally, we Gen Xers, who have been paying Social Security payroll tax for years, may not receive full benefits upon reaching retirement age.

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Lump-sum windows: Too much information?

Benbow-DavidIn January, the U.S. Government Accountability Office (GAO) issued the report “Participants need better information when offered lump sums that replace their lifetime benefits.” This is much easier said than done. There is so much information included in lump-sum kits that they typically run at least 25 pages. The Special Tax Notice alone takes up five pages.

The relative value rules are supposed to give participants a heads-up if they’re about to forfeit an early retirement subsidy, but very few participants ask questions about the relative value descriptions in their pension kits. Could the reason be that the relative values clarify things so much that everyone understands all the consequences of their elections? Could it be that participants are already suffering from information overload and simply tune out?

“Better information” is only better if participants understand it and are willing to take the time to read it. Unless each lump-sum kit is hand-delivered by a pension specialist and an actuary, participants will never understand the required information.

There is still a great deal of interest in offering lump-sum windows. Many plan sponsors have been offering lump sums to terminated vested participants, and in 2012, both Ford and General Motors got approval to offer their retirees the opportunity to trade in their lifetime payments for lump sums.

The Internal Revenue Service (IRS) has, for the time being, stopped issuing Private Letter Rulings allowing companies to offer lump sums to retirees. But why? Are they afraid retirees will be bilked out of their future payments? Retirees wouldn’t be losing out on any early retirement subsidies like terminated vested participants might. Furthermore, there are several reasons why it might be very advantageous for retirees to take lump sums:

  • If they don’t expect to live very long

Remember that retirees are old. If you knew your days were numbered and you were receiving monthly payments for life, wouldn’t you jump at the opportunity to trade your $200 monthly payment for an $18,000 lump sum?

  • If their monthly annuity payments are ridiculously small

Many plans only pay lump sums if the total present value is under $5,000 at the time of commencement. As a result, there are a lot of retirees out there who are receiving monthly payments of less than $50. They would probably appreciate the opportunity to turn that small payment into a chunk of money they could actually do something with.

  • If their financial situations have changed

People’s situations change over the course of time. Retirees may decide that, for whatever reason, the lump-sum payment could give them the opportunity to pay off a debt, buy an RV, or invest in a business.

Instead of saying that participants need better information, why not accept that every participant’s situation is different and no amount of additional information is going to change the fact that they know what they want?

Risk sharing within pension plans in the Netherlands

Sagoenie-RajishDutch pension system
Like many other European countries, the Netherlands operates a three-pillar pension system. This consists of:

1. A government-provided pension.
2. An employer-provided pension.
3. Personal pensions purchased through individual savings.

The first pillar, government pension, provides a basic income to retired people in the Netherlands. It is financed through taxes and is based on a pay-as-you-go system. The pension provided is linked to the country’s minimum wage. An amount of 2% of the state pension benefit is accrued for each year that an individual has lived or worked in the country until the age of 67, with a maximum period of 50 years taken into account. Depending on the increase in nationwide longevity, the age of 67 will increase.

The second pillar consists of occupational pension schemes. Companies offering their employees a pension plan are obliged to administer these plans externally via a pension fund or an insurance company. Funding for these schemes is provided through employer and member contributions and is based on capitalization. A majority of employers used to bear all the risk for these schemes but, in line with globally changing attitudes, there has been a move toward risk-sharing types of schemes. This pillar is discussed in further detail below.

The third pillar consists of annuities and pensions bought from individual savings. It is the main source of postretirement income for self-employed individuals and individuals working for organizations that do not provide a pension. To encourage people to make use of this pillar, tax incentives (within limits) are provided by the government.

In 2014 and 2015 the tax incentives in the second and third pillars were further limited. The annual salary on which the pension is based is limited to EUR 100,000.

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PBGC requires plan sponsors to report risk transfer activities

Single-employer and multiemployer defined benefit plan sponsors that undertake “de-risking” activities must now disclose information about annuity purchases or lump-sum window offerings when they pay their premiums to the Pension Benefit Guaranty Corporation (PBGC), beginning with the filings for the 2015 plan year. For sponsors of plans with calendar-year plans, the first filing with the de-risking disclosures is due October 15, 2015. The PBGC’s rationale for this new requirement is that there currently is available no comprehensive, detailed, and reliable source for information on risk transfer activities, which can result in substantially reduced premium payments to the agency. This Client Action Bulletin provides more perspective.

Multiemployer Review: Multiemployer Pension Reform Act of 2014

This Multiemployer Review summarizes provisions of the Multiemployer Pension Reform Act (MEPRA) that were included in the Consolidated and Further Continuing Appropriations Act of 2015 (P.L.113-235). The MEPRA provisions that apply to all multiemployer plans are discussed first, followed by provisions that impact plans depending on their Pension Protection Act (PPA) zone status (green zone or endangered status, endangered and critical status, and critical status).

Defined benefit plan investments: Planning for the future now

Marzinsky-JeffDuring December 2014, U.S. equity markets peaked at all-time highs—over 18,000 for the Dow Jones Industrial Average and 2,090 for the S&P 500 Index. Then, in January, equity markets became more volatile and both indexes pulled back dramatically, as international economic uncertainty rose and oil prices fell. Some thought interest rates couldn’t go any lower during 2014 with the U.S. Federal Open Market Committee (FOMC) hinting at an upward adjustment. But interest rates on the longer end of the maturity spectrum dropped during 2014, which most likely had a detrimental effect on defined benefit (DB) pension plan liabilities.

Now, more than ever, plan sponsors should be reviewing their DB plan investments as we react to these market movements, which are critical in the asset allocation process. For more perspective on the shifting landscape, see my paper “Developing pension plan investment strategy: A variety of considerations,” published last year to help DB plan sponsors understand the range of considerations and how they interact in the development of a pension plan investment strategy.