HomeMy WebLinkAboutDocumentation_Pension Public Safety_Tab 25_02/14/2006
ti1f3RIF~.T., F~t)ETlLt2, 5:~(i7'll &:t,f111P~iV~S'
CONSULTANTS & ACTUARIES
One Towne Square ~ Suite 800 ~ Southfield, Michigan 48076 ~ 248-799-9000 ~ 800-521-0498 ~ fax 248-799-9020
October 27, 2005 ~~4 `~ ~-''q ^K /~
~~~ ~~
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The enclosed GRS News Scan and Research Memo were developed by Gabriel, l~eder, Smith &
Company to inform our clients and other benefit professionals about important events in the
benefits industry. We hope you find our information clearly written and useful in your
professional activities.
To receive our publications electronically, send an email to }~%eb.adn~in~r~~ahl°iell•oeder.colu with
the message "SUBSCRIBE NEWS SCAN" in the subject line. To stop receiving our publications
via email, send the message "LTNSUBSCRIBE NEWS SCAN" in the same way.
Please turn to our web site at ~~ ~, ~~ . <~,f~l-i~ tr~~~{el-,r+}=:~ ~ for other publications related to pensions
• and benefits.
Sincerely,
~~~
Paul Zorn
Director of Governmental Research
Enclosures
•
- Treatment of implicit rate subsidies when retirees are insured in a group plan together with current
employees.
The implementation guide (product code GQA43/45) can be ordered from the GASB by calling 800-748- •
0659 or via its website at: http://www.^asb.or~/
1.1SItA uzad .1C'I'I2 Publish Results of Pulzlic I~'und Sitrve~-
In September 2005, the National Association of State Retirement Administrators (NASRA) and the National
Council on Teacher Retirement (NCTR) released the Public Fund Survey Summary of Findings for FY 04.
The survey, sponsored by NASRA and NCTR, presents key data from 103 public retirement systems with 127
plans, covering 12.6 million active members, 5.8 million retirees and other annuitants, and holding $2.1
trillion in assets as of FY 2004. The survey data pertains to defined benefit plans, including several hybrid
plans. Overall, the systems surveyed represent 88 percent of public retirement plan membership and assets.
The survey results are available on-line individually for each system and plan, including: plan membership,
groups covered, actuarial assumptions and methods, plan assets and liabilities, contribution rates, benefit
summaries, benefit payments, and system asset allocations. Selected data can also be viewed through
comparative tables that allow sorting on selected items and provide graphs of selected data (e.g., inflation and
investment return assumptions).
The Summary of Findings presents statistical analysis of the data on plan funding, membership, benefits,
contribution rates, cash flows, and actuarial assumptions. The key findings include:
- The average actuarial funded ratio for the surveyed plans was 87.8 percent in FY 2004 down from
91.2 percent in FY 2003, with 71 percent of the plans having funded ratios above 80 percent.
- The aggregate funding level declined for the third consecutive fiscal year due mainly to the •
continued asset smoothing of equity market losses from April 2000 through March 2003. The
median decline in funding level from FY 2001 to FY 2004 was 12.6 percent.
- Since FY 2001, the number of annuitants has grown by a cumulative 13.1 percent compared with an
increase in actives of only 1.3 percent. The ratio of active members to annuitants fell from 2.27 in
FY 2003 to 2.18 in FY 2004.
- The median actuarial assumption for investment return was 8.0 percent in both FY 2003 and FY
2004. The median inflation assumption declined from 3.75 percent in FY 2003 to 3.50 percent in FY
2004.
The Public Fund Survey is available at: http://ww~~~.publicfundsurvey.org/
llt~ issues 1'ropased i1S:~~ Rel;ulatlo~rs
On August 26, 2005, the IRS and Treasury Department published guidance on proposed regulations regarding
employer contributions to Health Savings Accounts (HSAs), as established in the Medicare Prescription
Drug, Improvement, and Modernization Act of 2003. Although employers are not required to contribute to
their employees' HSAs, those that do must make "comparable contributions" to the HSAs of all "comparable
employees." Comparable employees are employees who have the same category of High Deductible Health
Plan (HDHP) coverage - i.e., self-only HDHP coverage or family HDHP coverage. An employer's
contributions are comparable if all employees in the same category of coverage receive the same dollar
amount or the same percentage of the deductible. Employers that fail to make comparable contributions
during a calendar year are subject to an excise tax equal to 35 percent of the aggregate amount contributed by
the employer to the HSAs during the year.
The proposed regulations provide guidance and clarification regarding the calculation of comparable •
contributions, definition of comparable employees, procedures for making comparable contributions, and
10!2712005 ~~'~ 2{)05 - Gabriel, I2oedcar, Smith dr. C'ornhant- Pulse 2
exceptions to the comparability rules for employees in cafeteria plans. Comments are due to the IRS by
November 25, 2005.
• The proposed regulations are available at: http://www.treasury.gov/press/releases/reports/reg_13864704 .pdf
IIS IZt~les I2etrec I)rn; Subside :~'I~av tint bu I sed in il.ini~iiu~n Cost C:alciilat.ion L'ndcr IRC § 42U
On August 25, 2005, the IRS issued Revenue Ruling 2005-60 which held that the Medicare Part D subsidy for
employers providing retiree drug coverage should not be taken into account in computing the "minimum cost
requirement" under IRC § 420. This section of the Code permits a defined benefit plan to transfer "excess
assets" to a retiree health care account established within the defined benefit plan. For this transfer to be
approved by the IRS, the plan must provide that the "applicable employer cost" of retiree health coverage for
the five years after the transfer are not less than the applicable employer costs for the two years before the
transfer. This minimum cost requirement prevents employers from substantially reducing retiree health
coverage following the transfer of pension assets to the retiree health account.
According to the IRS, the "applicable employer cost" is based on qualified current retiree health liabilities
which, in turn, are based on "aggregate amounts which would be allowable as a deduction to the employer for
the taxable year with respect to applicable health benefits." Under IRC § 139A, the aggregate amounts
allowable as a deduction to the employer for the taxable year does not include the employer subsidy for
maintaining prescription drug coverage. Therefore, the IRS ruled that the applicable employer cost for
determining the minimum cost requirement should not include the employer subsidy for prescription drug
coverage.
Revenue Ruling 2005-60 is available at: http://www.irs.~ov/pub/irs-drop/rr-OS-60.pdf
I~;1I21 Itt*lats;-fi on I~~s~ctors "9~'h~•~tz~~t~ra~ing l~eti~•er.~ont I_r~~c-~~ia~e Sei•u~•it~-
• On August 9, 2005, the Employee Benefit Research Institute (EBRI) released its report, Retirement Income
Security: A Look at Social Security, Employment-Based Retirement Plans, and Health Savings Accounts.
The report is based on an EBRI policy forum that examined factors threatening the economic security of
retirees such as: rising health care costs, low enrollment in 401(k) plans, and social security reform.
Although participants expressed a wide range of views regarding threats to retirement security and potential
solutions, most agreed that health care expenses should be a key component of a retirement savings plan.
Retiree health care costs are likely to be greater than most people expect and may require an additional 20
percent or more ofpre-retirement income.
Participants also generally agreed that automatic enrollment for eligible workers in 401(k} plans could
significantly affect the amount available for retirement income, especially for low-income workers. In a
401(k) plan, the greatest potential for increased retirement savings is possible if workers: 1) participate when
offered a plan, 2) preserve assets while working and changing jobs, and 3) spend assets responsibly after
retirement.
EBRI research explored the effects of several possible changes in Social Security ranging from maintaining
Social Security as a defined benefit system to creating individual accounts within the current program as
proposed by President Bush. However, this discussion reflected widely divergent views.
The report is available on EBRI's website at: http•//w~~w.ebri.ort;/pdfIEBRI Notes 08-2005.pdf
:A:1ItI'"s Social ~~ecurit~- 70th ;~naioersar-y l~~:lsort
• On August 11, 2005, AARP released its survey, Social Security 70`" Anniversary Survey Report: Trends over
Time. The survey report addressed the historical importance of Social Security, as well as the public's
perceptions and future expectations regarding the program. Key findings indicated:
~1 O127i2t1O5 ~<=~ ?005 - (,~~briel, Roeder, Sntit,i~ K Carnpany Pah~e 3
- Recent focus on Social Security reform has resulted in greater information and generally strengthened
positive attitudes toward Social Security. •
- Nearly 30 percent of respondents indicated that Social Security was their primary source of actual or
expected retirement income.
- Most workers continue to value Social Security as an important government program.
- Most workers would be willing to pay more to ensure Social Security benefits at retirement.
AARP's survey is available at: http://www.aam.ors,~research~socialsecurity/reform/ss 70 anniv.html.
1:`125 Report on Lump-sum l~istributicairs and Retiremcait lncorne Security
On August 3, 2005, the Congressional Research Service (CRS) released its report, Pension Issues: Lump-
Sum Distributions and Retirement Income Security. CRS found that 61 million U.S. workers, slightly less
than half of all U.S. workers, participated in employer-sponsored retirement plans in 2003. Of these, 52
million (85 percent) were in plans offering lump sum distributions, and 16 million (26 percent) reported
having received at least one lump-sum distribution. CRS also reported that a typical 25 year-old today is
likely to work for at least seven employers before reaching age 65.
CRS found that 44 percent of those who received alump-sum distribution said they rolled over the entire
amount into an IRA or other employer-sponsored plan. Another 40 percent said they saved at least part of the
distribution in some other way. The rollover decision is influenced by the recipient's age, race, marital status,
gender, distribution amount, and other factors. About 84 percent of all recipients saved at ]east part of their
lump-sum distribution.
Lump sum distributions used for current consumption can reduce future retirement income. For example, if a
person receives a lump sum distribution of $7,200 at age 46 and invests it at an 8 percent annual return, the •
estimated value would be $31,100 at age 65. This could purchase a level, single-life annuity paying $225 per
month ($2,700 per year).
The CRS report is available at: http://w~~w.opencrs.con~/document/RL30496.
C12S k2t>{Marls tarp ilee~ t.iaaccN`tainty tat' [~,mplcar~rs l~'laintaining; l~t~ttree 1.3a'ta;; 13cneldts
On August 19, 2005, the Congressional Research Service (CRS) released its report, "Medicare Drug Benefit;
Retiree Provisions." According to CRS, a majority of employers are expected to apply for the Medicare Part
D subsidy in 2006 to help cover the costs of their plans. However, it is uncertain if employers will continue
maintaining retiree drug coverage. As the baby boomers retire, increased costs may also cause employers to
drop retiree health coverage or significantly reduce contributions.
CRS presented other options that could benefit employers, but may require plan restructuring to meet the Part
D requirements. These include:
1) paying a portion of retirees' Part D premiums;
2) offering enhanced coverage through supplementary or "wrap around" benefits; or
3) contracting with a commercial vendor to offer Part D coverage for retirees.
The full report is available from BNA PLUS for $27 plus shipping and handling at 800-372-1033 or email at
bnaplus a.,bna.com.
la{~)1.'Ern9~orcc,nent of the Labor NLanagement Deporting and L)ischasure :1ct
The August 22,2005, issue of BNA's Pension & Benefits Reporter features a special report on changes in the
U.S. Department of Labor's position regarding enforcement of the Labor Management Reporting and
11)/3712{lOr+ :r~ ?{}{}} _ Gabriel, It~.acder, Ssnit:h ~ ~.'ornlaan~- }'a;e 4
Disclosure Act (LMRDA) of 1959. Although DOL historically has not taken an aggressive approach to
enforcing these provisions, a new DOL initiative requires employers to report all payments to labor
• organizations, union officials, union employees, or other representatives of labor organizations. This would
include gifts and in-kind payments worth more than $25, including meals, travel, hotel accommodations, golf
outings, etc. The term "employer" is broadly defined to include "every individual or entity that employs one
or more employees." Thus, a service provider (accounting firm, attorney, etc.) that gives a gift worth more
than $25 to a union representative would have to report it.
Employers report the payments using DOL Form L-10, signed by both the company president and treasurer
(or corresponding officers) within 90 days after the end of the employer's fiscal year. Civil and criminal
penalties apply, including fines up to $10,000 and imprisonment for up to one year.
Employers do not have to report payments if (i) they have a value of $25 or less; (ii) are sporadic or
occasional; and (iii) are given under circumstances unrelated to the recipient's status in a labor organization.
According to the law firm of Proskauer Rose LLP, employers also do not have to report "payments made in
the regular course of business to a class of persons determined without regard to whether they are identified
with a labor organization and whose relationship with a labor organization is not ordinarily or readily
ascertainable by the payer."
Karen Barr, general counsel for the Investment Advisor Association, has raised a number of issues regarding
the initiative with the DOL, including:
• Whether application of LMRDA requirements to investment advisors and other financial service
providers is within the scope of the law;
• Whether the $25 threshold is reasonable and appropriate;
• Whether DOL properly informed investment advisors and other service providers about the new
• enforcement initiative; and
• Whether it is practical to apply retroactively.
Source: Bureau of National Affairs, Pension c4c Benefits Reporter, August 22, 2005.
IAA's letter to the DOL is at: http~//wv~w.icaa.org~ublic/letters/comment082905.pdf
I'cnsit~ri Tian I.iaiyilities Pose O~inimal l~isl;. tai Financial Stirl>ilits-
On August 18, 2005, a new analysis by Watson Wyatt indicated that the pension liabilities at about half of the
Fortune 1000 companies with defined benefit plans pose little risk to the financial stability of the companies'
core businesses, while about 30 percent face a moderate amount of risk, and remaining 20 percent are exposed
to relatively high risk levels. The analysis also found 84 percent of the aggregate pension risk currently in the
system belongs to companies with an investment-grade bond rating.
According to the article, "This snapshot suggests that pensions pose minimal risks to the broader business
environment. Most pension risk is concentrated in investment-grade companies that could likely weather an
adverse shock. While these companies may want to reduce the risk from their pension operations for the sake
of their own financial health, it seems unlikely that the vicissitudes of their pension funds would trigger a
broader disturbance among American businesses."
The full text of the July 2005 Watson Wyatt's Insider Article "Pension Fund Finances and Business Risk" is
at: http_:/._~y~~_~~~._~~_it~cm~yyatt_cc~ill/us puln_rn,r.c~c.r_shi~~ti i~,tclc.asp?Ai~ticlclL~.=1;.~H63f~C'~it~~c>ntnt=Thc,±lnsider
Irnployer 1lealtl7 Pt~cns Cover (~1oa•e "1'lr:zn Ilal1 ~~f 1'riz~srte Sector ~~'orl4c~r•s
• On August 24, 2005, the Labor Department's Bureau of Labor Statistics (BLS) released its "National
Compensation Survey: Employee Benefits in Private Industry in the United States, March 2005." Relatively
unchanged from the previous year, the survey found that approximately 70 percent of private sector workers
l €1!27iZt3t.'t~+ ~~ 2t1U5 - C;~rbriel, ltr~eclt?r, Smit:ta c'w Corrrl~an~ Page
had access to employer-sponsored health care plans with 53 percent participating in those plans. For
employees with family coverage, 88 percent of the plans required employees to pay a portion of the health
care premiums, which averaged $273 per month for the employee and $562 per month for the employer. For •
employees with single coverage, 76 percent of the plans required that employees pay a part of the health care
premiums, which averaged $69 per month for the employee and $237 for the employer. Employers that paid
the full premium for employees averaged $673 per month for family coverage and $300 per month for single
coverage.
With regard to retirement plans, about 60 percent of workers had access to retirement plans (including defined
benefit and defined contribution plans) with 50 percent participating in at least one type of plan or both.
Additionally, 77 percent of private sector employees were eligible for paid holidays and vacations. The
amount of paid vacation days increased with years of service to an average of 19.3 days after 25 years. BLS
also reported that higher-paid employees were eligible for more benefits. Employees earning more than $15
per hour were more likely to be covered by all benefits.
The 2005 report is available on the BLS website at: http:/,'www.bls.~ov/ncs/ebs/sp/cbsm0003.pdf
Census Report on Income and health Insurance Coverage
On August 30, 2005, the U.S. Census Bureau issued its current population report titled Income, Poverty, and
Health Insurance Coverage in the United States: 2004. The report provides detailed estimates of income,
poverty rates, and health insurance coverage at both the national and state levels based on such characteristics
as race, age and region. The U.S. population without health insurance remained essentially unchanged from
15.6 percent in 2003 to 15.7 percent in 2004. However, the number of Americans lacking health insurance
rose for the fourth consecutive year reaching 45.8 million in 2004, an increase of 6 million people since 2000.
The report indicated the number with health care insurance increased by 2 million in 2004 reaching 245.3
million or 84.3 percent. The number of children without health coverage was 11.2 percent in 2004, but
children living in poverty were much higher at 18.9 percent. According to the Census, income levels impact •
the likelihood of having health insurance. In 2004, about 92 percent of households with annual income
greater than $75,000 had health insurance.
The Census report is available at: http://www.census.ov/prod/2005pubs/p60-229.pdf
°~~do~~~tana ~;ul,~re3~rot~ C_'ourt l~.i~lbs ttt~tiren~ent 13o~~~•d ;~~1~~~' i.)efint~ ~tauarial }?tltiivalence*
On August 16, 2005, the Montana Supreme Court ruled that the Montana Public Employees' Retirement
(PER) Board has the authority to define actuarial equivalence to determine retirement pay as provided under
the state constitution (Baumgardner v. Montana Public Employees' Retirement Board, No. 04-861, 8/16/05).
Prior to 2001, state law defined "actuarial equivalent" as a "benefit of equal value when computed upon the
basis of the 1971 Group Annuity Mortality Table, with ages set back 4 years and an interest rate of 8 percent
compounded annually." In 2001, the state adopted a new bill, H.B. 294, changing the definition to one based
on "mortality table and interest rate assumptions defined by the board."
The plaintiff in this case, Joseph Baumgardner, worked as a state employee for over 36 years and retired in
2002. Under the previous law, he expected to receive $2,334 per month. However, on July 1, 2001, the
Board adopted the new formula for determining retirement benefits which resulted in a benefit of $2,150 per
month. Baumgardner sued the PER Board alleging that H.B. 294 unconstitutionally delegated legislative
power to the Board.
In overturning the District Court decision, the Supreme Court unanimously ruled that the retirement board is
specifically empowered to make actuarial determinations in accordance with Article VIII, Section 15 of the
Montana Constitution which reads: "The governing boards of public retirement systems shall administer the
system, including actuarial determinations, as fiduciaries of the system participants and their beneficiaries." •
The case brief is available at: http://www.lawlibra~.state.mt.us/dscgi/ds.Ry/Get/Filc-43808/04-861.pdf
10!2712(1{l~, ~~~ 2t}O5 -Gabriel, ltned~~r, Smith & C'orcapany Pale 6
l::conoznit: lrtap)i~:ations of Dc~riagrapl~ic .~tiiu;;
. On September 7, 2005, Sylvester Schieber, Vice President and U.S. Director of Benefits Consulting at
Watson Wyatt Worldwide, advised the Social Security Advisory Board on the impact of aging societies on
Social Security and U.S. economy. According to Schieber, demographic aging is causing dependency rates to
grow whereby the ratio of retirees to workers continues to increase in developed countries. As the
retiree/worker ratio continues to rise, the demand for goods and services may grow beyond the capability of
the workforce. The combined effects of the increase in retirees, decrease in workers, and longer retirement
periods threaten the sustainability of current pension systems and broader economic prospects of many
developed countries.
Schieber is co-author of an extensive analysis entitled, "The Economic Implications of Aging Societies: The
Costs of Living Happily Ever After." This analysis presents current trends in birth rates, longevity, labor
force participation and productivity, globalization of labor markets, financial viability of social insurance
programs, and methods of sharing economic output between working-age and retiree populations.
More information is available at: http://www.watsonwvatt.con~/news/a~in~societies/
C.BE) ~Estiruatr~s F ederal ~I~t~tiree >~I_eulth [~nsurant:e Jwial'iVas~ld Reduce 12c.venuc~ by $? .33illion in 2015
On September 1, 2005, the Congressional Budget Office (CBO) provided cost estimates on a bill (H.R. 994)
passed by the House Committee on Government Reform to allow federal civilian and military retirees to pay
for health insurance premiums on a pre-tax basis when paid through a pension reduction arrangement. In
2015, the estimated annual revenue loss would be $2 billion and annual increase in spending would be $133
million. According to the Joint Committee on Taxation (JCT), federal revenues are projected to decrease by
$12.7 billion over the 2006-2015 period. CBO expects increased direct federal spending by $600 million over
the same period. CBO also anticipates the implementation cost to be $1 nullion in 2006. Predictions indicate
• that the bill may result in a slight increase in participation by new retirees in the Federal Employees Health
Benefits Program (FEHB) or possibly cause them to transfer to more generous and expensive health plans.
The CBO report is available at: http://www.cbo.17ov,~ftpdocs,'66xx/doc6623/hr994.pdf
a~'Iiatncs<st.A G«vernor `+i!;ns I3i3.1 trs "1'ax i~w.~tia-i~e I.~rul Sul~sicl}°
On July 13, 2005, Minnesota Governor Tim Pawlenty (R) signed the omnibus tax bill (S.S. H.F. 138), which
included several changes in state tax law intended to address recent changes in federal tax law. However, the
omnibus bill did not exempt from state taxes the Medicare Part D employer drug subsidies provided in the
new Medicare law. The Part D subsidies are intended to encourage employers and unions to retain retiree
prescription drug coverage, and are exempt from federal taxes. According to Minnesota legislative analyst,
Joel Michael, taxing the employer subsidies would prevent the state from losing $10 million in tax revenues
over the next two years.
Minnesota is the first state that will not exempt the Part D employer subsidy from state taxes. Other states
facing budget shortfalls are also expected to consider taxing the subsidies. Centers for Medicare & Medicaid
Services (CMS) Employer Policy Group Director, Mark Hamelburg, stated that the agency is discussing the
matter and is expected to issue guidance on creditable coverage reporting, calculating subsidy claims rebates,
and claims data submission requirements in the near future.
Source: Bureau of National Affairs, Pension & Benefits Reporter, September 20, 2005.
C.I3O hstiiuat~s I~icaltlt Curl €'hoiit~ :pct ~~i'ill ~Lndreasi~ Fede~~:~l y'a~~rol! any Inoomc "I'a~ I2evEnue
On September 13, 2005, the Congressional Budget Office (CBO) reported that the Health Care Choice Act
• (H.R. 2355) which would permit the sale of individual health insurance policies across state lines would raise
federal payroll and income tax revenue. Under current law, entities must be licensed in the state in which
they offer coverage for individual health insurance and comply with that state's laws and regulations.
I ll1271Zi1115 ~~'~ ?Ot}ti - Gabriel, I2oedc~r, `smith ~ C'o~rapany- Pulse 7
Additionally, the employer's health insurance premiums and most of the employee's portion of the prenuums
are currently exempt from taxation.
Under the proposed legislation, health insurers would designate the state where they file a health insurance •
policy as the "primary state" for regulatory jurisdiction, regardless of residency in that state or any secondary
state in accordance with the terms of the act. Some employers may eliminate health insurance coverage for
employees due to the availability of less expensive individual insurance from an out-of--state insurer. Over 90
percent of the estimated increase in tax revenue would be a result of a decline of workers covered by
employer-sponsored health plans. This would cause a reduction in health care premiums which is tax-favored
compensation and increase revenue from payroll taxes. CBO projected the legislation would increase federal
revenues by $1.9 billion from 2007-2010 and $12.6 billion from 2007-2015.
Enactment of the proposed bill would also increase Medicaid enrollment for those who would either lose
employer-sponsored health insurance or purchase individual insurance policies. The estimated increase in
federal direct spending for Medicaid would be $160 million from 2007-2010 and $1 billion from 2007-2015.
CBO's cost estimate is available at: http://www.cbo.~ov/ftpdocs/66xx/c-ioc6639/lu•2355.pdf
•
•
10127i'2tbi)S ~:<~> 2t)(}5 - f.;.~briel, l~oeder, ~;mit.h c~ C'oml~~an~- i'a~e 3
•
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C;~~S RE;S.f.AI~C;>I ~~~.I;1If)I:_a.;tl~ti~:It
C'otasuliz~nts c4 Actuaries
RE: Maximum Deferral and Threshold Limits for 2005 and 2006
FROM: Mary Ann Vitale and Paul Zorn, Director of Governmental Research
DATE: October 27, 2005
The Internal Revenue Code (IRC) establishes a number of limits on retirement plan benefits and
contributions. The limits are located in numerous sections of the Code and often apply in different ways
to private and public-sector plans. Generally, plans must comply with the limits to maintain their tax-
qualified status.
The Internal Revenue Service (IRS) periodically increases certain limits to reflect changes in the
Consumer Price Index (CPI). In many cases, the adjustment is only made if the change in the limit
attributable to the CPI exceeds a certain amount (e.g., $1,000 or $5,000). On October 14, 2005, the IRS
published new limits in IRS Release IR-2005-120, generally effective January 1, 2006. The table below
presents key limits for 2006 and compares them with the 2005 limits. The remainder of this memo
briefly summarizes the limits referenced in the table.
~l~~sitnt~tl~ 1Jc=fe~-a-~.1 ~titcl 'I'1>:reslas~l~l ~i:r~~its f€~~- Zilfl~ any{ 2{4OCi
20.05 2006
Maximum Accrued Benefit Dollar Limit $170,000 $175,000
IRC § 415(b)(1)(A)
Special Firefighter/Police 415(b) Dollar Limit 170,000 175,000
IRC 415(b)(2 (G)
Maximum Contribution to a Qualified Defined Contribution Plan 42,000 44,000
IRC § 415(c (1)(A)
Maximum Compensation Limit 210,000 220,000
IRC § 401(a)(17)
Maximum Compensation Limit in Lieu of OBRA '93 315,000 325,000
IRC § 401(a)(17)
Elective Deferral Maximum for 401(k) Plans and 403(b) Plans 14,000 ..15,000
IRC 402( )(1)
Elective Deferral Maximum for 457 Plans 14,000 15,000
IRC § 457(e)(15)
Catch-Up Limit (Age 50 and Older) for 401(k), 403(b) and 457 Plans 4,000 5,000
IRC § 414 v)(2)(B (i))
Catch-Up Limit (Age 50 and Older) for SIMPLE Plans 2,000 2,500
IRC § 414(v (2)(B)(ii))
IRA Contribution Limit 4,000 4,000
IRA Catch-Up Limit (Age 50 and Older) 500 1,000
IRC § 219(b)(5)(B)(ii)
Social Securi Maximum Taxable Wa e - OASDI 90,000 94,200
Social Securit Maximum Taxable Wa e - HI No Limit No Limit
Sources: IRS Release IR-2005-120 and SSA "2006 Social Security Changes" Fact Sheet.
t This memorandum describes changes to certain tax rules applicable to retirement plans. The authors are not attorneys and the
• statements made are not intended as legal advice or opinion. Plan administrators should seek the advice of qualified legal
counsel to ensure that plan provisions and documents comply with applicable federal laws and regulations.
lt)1?7/'44{Iti ~~~ C;altrii~i, Roc~lt~r, `~ntitlt c~: C;atttlsarta~ 1'a„;c 1
II.Zxltntaar~ {~.cca-uc~d I3cuetit~;
IRC § 415 limits the benefits that can accrue in defined benefit plans and the amounts contributed to •
defined contribution plans. Generally, IRC § 415(b) limits the employer-provided benefits that can
accrue to members in a defined benefit plan to the lesser of $175,000 in 2006 (the "dollar limit") or 100
percent of the participant's average compensation for his or her three highest years. Although private-
sector plans are subject to both limits, governmental plans are exempt from the 100 percent of
compensation linut.
IRC § 415(b) also requires the dollar limit to be actuarially reduced for retirement before age 62, using
prescribed factors. However, for certain qualified police and firefighters with at least 15 years of service
credit, no actuarial reduction is required. Consequently, the dollar limit for these members is the same as
the unreduced § 415(b) dollar limit, or $175,000 in 2006, regardless of age.
~~laxintvzr~t f:cuitrilytxticans
IRC § 415(c) limits the maximum "annual additions" to a defined contribution plan to the lesser of
$44,000 in 2006, or 100 percent of annual compensation. In this context, annual additions include
employer and employee contributions, as well as forfeitures. Due to changes made by the Taxpayer
Relief Act of 1997, annual compensation, for the purpose of deternning this limit, includes elective
deferrals to 401(k), 403(b), 457(b) and 125 "cafeteria" plans.
For governmental plans that do not "pick-up" mandatory employee contributions under IRC § 414(h)(2),
employee contributions are treated as contributions to a defined contribution plan and are subject to the §
415(c) limits. For governmental plans that do "pick-up" employee contributions, the contributions are
treated as part of the employer-provided portion of accrued benefits subject to the § 415(b) dollar limits. •
t'laRimuraa (:'caaa~l~e~as;~ttiou
IRC § 401(a)(17) limits the amount of compensation that can be taken into account by the plan, for the
purpose of determining benefits and contributions, to $220,000 in 2006. For private-sector plans, even if
a plan member earns more than this amount, only $220,000 may be used in 2006 to calculate employee
contributions to, or benefits provided by, the qualified plan.
Special rules apply to some public-sector plan members hired before 1996. In 1993, IRC § 401(a)(17)
was amended by the Omnibus Budget Reconciliation Act COBRA `93), lowering the maximum
compensation limit from $200,000 to $150,000, indexed for inflation. OBRA `93 allowed governmental
plans to grandfather the compensation limits specified in the plan as of July 1, 1993, for employees hired
before 1996 -provided the plan was amended to apply the OBRA `93 limits to employees hired in 1996
and after. For governmental plans applying the pre-OBRA `93 limits, the maximum compensation limit
in 2006 is $325,000 for grandfathered employees. For governmental plans that had no maximum
compensation limit as of July 1, 1993, and that amended the plan to grandfather these provisions, benefits
can be detern~ined without reference to any compensation limit for grandfathered employees.
:~Ia~:iaaaurn 1/lectiv€~ i)el'ea-r•aals
Elective deferrals are voluntary agreeanents in which employees elect to forego current income in return
for the employer's contributions to retirement or other benefit plans. Elective deferrals are available for
a variety of tax-qualified retirement plans, including 401(k) and 403(b) plans, for which the maximum •
elective deferral per participant is $15,000 in 2006. Governmental employees may have access to non-
I1}.!Z 7%'{{l:+ ~.:~:' (r;~lrri~~l, I~ESedcr, ~saraith ~ C:taax~l~.arati 1'sit?e "_'
qualified deferred compensation plans established under IRC § 457(b). The maximum elective deferral
for 457(b) plans is also increased to $15,000 in 2006.
Llt.i~ f'o~~tributlt~~i l..in~tit
The maximum annual contribution to a traditional IRA and a Roth IRA is $4,000 for 2006 and will
increase to $5,000 in 2008. Beginning in 2009, contributions will be indexed for COLA increases in
$500 increments.
C:~atcl~-l'p 1_)o1I<<r Limits
The Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) added IRC § 414(v),
providing new "catch-up" provisions for participants in 401(k), 403(b), 457(b), SEPs, IRAs, and SIMPLE
plans. Under the new provisions, plan participants who are or will be age 50 or older by the end of the
plan year may voluntarily make additional contributions to the plan, above the maximum elective deferral
limits. The maximum catch-up contribution is the lesser of (1) a specific dollar amount (the "catch-up
dollar limit") or (2) the participant's compensation for the year reduced by any other elective deferrals
made during the year. For 2006, the catch-up dollar limit for 401(k), 403(b), SEPs, and 457(b) plans is
$5,000. For SIMPLE plans, the 2006 catch-up dollar limit is $2,500. For IRAs, the catch-up dollar limit
is increased to $1,000 in 2006 and thereafter.
Note: 457(b) plans have an additional catch-up provision under IRC § 457(b)(3). As amended by
EGTRRA, a participant may, in one or more of the three years ending before norn~al retirement age,
defer the lesser of (1) twice the applicable dollar limit (i.e., twice $15,000 or $30,000 in 2006) or (2) the
sum of the applicable dollar limit for the year (i.e., $15,000 in 2006) plus the amount by which the
• applicable dollar limit in preceding years exceeded actual deferrals in those years. In the three years
ending before normal retirement age, a 457(b) plan participant may apply the greater of the 414(v) catch-
up provision or the 457(b)(3) catch-up provision, but not both.
T.~~:al~ie ~'.~~;e~ I3<rsc~ fo~• ~;ctcit~l `~ccis•it~ .r:a c1 i'r[edic~t~•e
The taxable wage base limits the amount of earnings that are taxable under Social Security's Old Age,
Survivor, and Disability Insurance (OASDI) program. Both employers and employees pay a 6.20%
payroll tax on these earnings to fund the OASDI program. The taxable wage base is adjusted annually
for inflation and is increased to $94,200 for 2006. Because the maximum taxable wage base for
Medicare (HI) was eliminated by OBRA '93, there is no limit on the earnings subject to the 1.45%
Medicare tax.
On October 14, 2005, the Social Security Administration (SSA) announced a 4.1% cost-of-living
adjustment for 2006. The adjustment is based on the Consumer Price Index for Urban Wage Earners and
Clerical Workers (CPI-W) from the third quarter of 2004 to the third quarter of 2005. The cost-of-living
adjustment will be effective for payments beginning in January 2006 to Social Security and Supplemental
Security Income (SSI) beneficiaries.
Liitl:s
IRS News Release (IR-2005-120) is at: http:/iwww.irs.~ov/newsroom/
• 2006 Social Security Changes is at:
http://~~•ww. socialsccui_ity_govi~_essc~ftice/fact sheets/colafacts200f .~~d f
L(1~'?7i2(1(1S <~~ (~;ahricl, I~~oedttir, Srnith ,~ C'ortzpany i'at;c 3
•
•
The following news summaries were developed by Gabriel, Roeder, Snuth & Company to inform clients and
other benefit professionals of news in the benefits industry. Our thanks to Mary Ann Vitale for her diligent
work on this issue. To receive this publication electronically, send an email to
web.admin@gabrielroeder.com with the message "SUBSCRIBE NEWS SCAN" in the subject line. To stop
receiving this publication electronically, send the message "UNSUBSCRIBE NEWS SCAN" in the same
manner. Copies of this and other benefit-related publications are available on the GRS web site at
www. ~abrielroeder. com.
(11ti I~~xtEncls ~`Ieciicarc fart D Sul~Eialy :lplslsc•atiE~n Deadline to Oct.otatr 31
On September 2, 2005, the Centers for Medicare and Medicaid Services (CMS) extended the deadline for
plan sponsors to submit Medicare Part D subsidy applications and retiree lists for plan years ending in 2006.
The application deadline has been automatically extended from September 30, 2005 to October 31, 2005.
However, CMS urged plan sponsors to submit the required information as soon as possible. Open enrollment
for the 2006 Medicare drug benefit will begin on November 15. CMS's announcement is available at:
http~//w~vw.rds.cros.lills~ov/Iistscrv090205.pdf
• Additional information may be found in GRS's research memorandum titled "Medicare Part D Prescription
Drug Benefits and Subsidies for Employer-Sponsored Retiree Drug Coverage" at:
http:/hmwtiv.C abriclroeder.com/brs library/index.html`?research.html&RM MedicarePartD
(f:~:S.li Issues ltulslesstent:stioss (:;aside 1'c~r l~c~tir~:•c+ I-ic~~altlt I3esscfits
On August 8, 2005, the Governmental Accounting Standards Board (GASB) published the Guide to
Implementation of GASB Statements 43 and 45 on Other Postemployment Benefcts. The guide is intended to
assist state and local governments apply the new reporting standards for retiree health benefits and certain
other postemployment benefits (OPEB). Statement 43, Reporting for Postemployment Be~zefit Plans Other
Than Pension Plans, addresses accounting standards and reporting requirements for plans that administer
OPEB. Statement 45, Accounting and Financial Reporting by Employers for Postemployment Benefits Other
Than Pensions, establishes accounting and reporting requirements for state and local government employers
that provide OPEB. The statements will become effective beginning in 2007, with implementation phased-in
based on the amounts of revenue collected by the state or local government that sponsors the OPEB plan. The
guide answers over 250 questions related to the following topics, among others:
- The scope and applicability of Statements 43 and 45, including how to differentiate OPEB benefits
from other employee benefits such as pensions or ternlination benefits;
- Actuarial issues, including the timing and frequency of OPEB valuations, as well as selection of
valuation methods and assumptions; and
•
' The authors of these news summaries are not attorneys and the statements made are not intended as legal advice or
opinion. Qualified legal counsel should be consulted to ensure plan provisions and documents comply with applicable
laws and regulations.
10'2712(}k15 ~~~ 2005 - G~tt~riel, l~oecle~r, S~x~ith ~~ t`'a~ersl.a~sy: Page t
- Treatment of implicit rate subsidies when retirees are insured in a group plan together with current
employees.
The implementation guide (product code GQA43/45) can be ordered from the GASB by calling 800-748- •
0659 or via its website at: http://www.rasb.or~/
\.1SIt:1.~nd 1C"[.'ll {'u.l~lisli .Results of Public F'tl.nd Snl'1"Lv
In September 2005, the National Association of State Retirement Administrators (NASRA} and the National
Council on Teacher Retirement (NCTR) released the Public Fund Survey Summary of Findings for FY 04.
The survey, sponsored by NASRA and NCTR, presents key data from 103 public retirement systems with 127
plans, covering 12.6 million active members, 5.8 million retirees and other annuitants, and holding $2.1
trillion in assets as of FY 2004. The survey data pertains to defined benefit plans, including several hybrid
plans. Overall, the systems surveyed represent 88 percent of public retirement plan membership and assets.
The survey results are available on-line individually for each system and plan, including: plan membership,
groups covered, actuarial assumptions and methods, plan assets and liabilities, contribution rates, benefit
summaries, benefit payments, and system asset allocations. Selected data can also be viewed through
comparative tables that allow sorting on selected items and provide graphs of selected data (e.g., inflation and
investment return assumptions).
The Summary of Findings presents statistical analysis of the data on plan funding, membership, benefits,
contribution rates, cash flows, and actuarial assumptions. The key findings include:
- The average actuarial funded ratio for the surveyed plans was 87.8 percent in FY 2004 down from
91.2 percent in FY 2003, with 71 percent of the plans having funded ratios above 80 percent.
- The aggregate funding level declined for the third consecutive fiscal year due mainly to the •
continued asset smoothing of equity market losses from April 2000 through March 2003. The
median decline in funding level from FY 2001 to FY 2004 was 12.6 percent.
- Since FY 2001, the number of annuitants has grown by a cumulative 13.1 percent compared with an
increase in actives of only 1.3 percent. The ratio of active members to annuitants fell from 2.27 in
FY 2003 to 2.18 in FY 2004.
- The median actuarial assumption for investment return was 8.0 percent in both FY 2003 and FY
2004. The median inflation assumption declined from 3.75 percent in FY 2003 to 3.50 percent in FY
2004.
The Public Fund Survey is available at: http://ww~~~.hublicfundsurve~~/
[1{S [slues 1'~•oprsed H'i:~1 [2e~;ulations
On August 26, 2005, the IRS and Treasury Department published guidance on proposed regulations regarding
employer contributions to Health Savings Accounts (HSAs), as established in the Medicare Prescription
Drug, Improvement, and Modernization Act of 2003. Although employers are not required to contribute to
their employees' HSAs, those that do must make "comparable contributions" to the HSAs of all "comparable
employees." Comparable employees are employees who have the same category of High Deductible Health
Plan (HDHP) coverage - i.e., self-only HDHP coverage or family HDHP coverage. An employer's
contributions are comparable if all employees in the same category of coverage receive the same dollar
amount or the same percentage of the deductible. Employers that fail to make comparable contributions
during a calendar year are subject to an excise tax equal to 35 percent of the aggregate amount contributed by
the employer to the HSAs during the year.
The proposed regulations provide guidance and clarification regarding the calculation of comparable •
contributions, definition of comparable employees, procedures for making comparable contributions, and
[0~`27i2005 C~~~ 2005 -Gabriel, Roedr~r, Srr~ith c~: Cornpan~- P~~;;t~ 2
exceptions to the comparability rules for employees in cafeteria plans. Comments are due to the IRS by
November 25, 2005.
• The proposed regulations are available at: http://www.treasury.gov/press/releases/reports/reg_13864704pdf
I.I~S I2ults Iietirec I)ru; Siibs~d~~ :~'Iati~ dot lit t seal in il.ini~iiutzi Cost (:alciiiation Uudcr IItC § 420
On August 25, 2005, the IRS issued Revenue Ruling 2005-60 which held that the Medicare Part D subsidy for
employers providing retiree drug coverage should not be taken into account in computing the "minimum cost
requirement" under IRC § 420. This section of the Code permits a defined benefit plan to transfer "excess
assets" to a retiree health care account established within the defined benefit plan. For this transfer to be
approved by the IRS, the plan must provide that the "applicable employer cost" of retiree health coverage for
the five years after the transfer are not less than the applicable employer costs for the two years before the
transfer. This minimum cost requirement prevents employers from substantially reducing retiree health
coverage following the transfer of pension assets to the retiree health account.
According to the IRS, the "applicable employer cost" is based on qualified current retiree health liabilities
which, in turn, are based on "aggregate amounts which would be allowable as a deduction to the employer for
the taxable year with respect to applicable health benefits." Under IRC § 139A, the aggregate amounts
allowable as a deduction to the employer for the taxable year does not include the employer subsidy for
maintaining prescription drug coverage. Therefore, the IRS ruled that the applicable employer cost for
determining the minimum cost requirement should not include the employer subsidy for prescription drug
coverage.
Revenue Ruling 2005-60 is available at: http://www.irs.~ov~ub/irs-drop/rr-OS-60.pdf
l~;lll I~t*~.~t39t on l~'Fict~~rs'l h~•t~ttr~taiiaH l~yeti~•er;~t3lat irait~~ne Sct•u~•it~~
• On August 9, 2005, the Employee Benefit Research Institute (EBRI) released its report, Retirement Income
Security: A Look at Social Security, Employment-Based Retirement Plans, and Health Savings Accounts.
The report is based on an EBRI policy forum that examined factors threatening the economic security of
retirees such as: rising health care costs, low enrollment in 401(k) plans, and social security reform.
Although participants expressed a wide range of views regarding threats to retirement security and potential
solutions, most agreed that health care expenses should be a key component of a retirement savings plan.
Retiree health care costs are likely to be greater than most people expect and may require an additional 20
percent or more ofpre-retirement income.
Participants also generally agreed that automatic enrollment for eligible workers in 401(k) plans could
significantly affect the amount available for retirement income, especially for low-income workers. In a
401(k) plan, the greatest potential for increased retirement savings is possible if workers: 1) participate when
offered a plan, 2) preserve assets while working and changing jobs, and 3) spend assets responsibly after
retirement.
EBRI research explored the effects of several possible changes in Social Security ranging from maintaining
Social Security as a defined benefit system to creating individual accounts within the current program as
proposed by President Bush. However, this discussion reflected widely divergent views.
The report is available on EBRI's website at: http•//w~sw.ebri.ort;/pdfIEBRI Notes 08-2005.pdf
~:~.121''s Social SeeuritS 7Jth ,+tnnioers~u-~ l't:port
• On August 11, 2005, AARP released its survey, Social Security 70`" Anniversary Survey Report: Trends over
Time. The survey report addressed the historical importance of Social Security, as well as the public's
perceptions and future expectations regarding the program. Key findings indicated:
~10/27i2119)~ !~~~ ?Ot)5 - £;abriel, I~oetlnr, timitla ~, Cornpanti- Page 3
- Recent focus on Social Security reform has resulted in greater information and generally strengthened •
positive attitudes toward Social Security.
- Nearly 30 percent of respondents indicated that Social Security was their pnmary source of actual or
expected retirement income.
- Most workers continue to value Social Security as an important government program.
- Most workers would be willing to pay more to ensure Social Security benefits at retirement.
AARP's survey is available at: http://www.carp.org1researcllisocialsecurity/reform/ss 70 anniv.html.
L:`ItS I2epEal•t on l~urnp-SuIIi Distributions and Retirement 1rtcEilllE: Security
On August 3, 2005, the Congressional Research Service (CRS) released its report, Pension Issues: Lump-
Sum Distributions arzd Retirement Income Security. CRS found that 61 million U.S. workers, slightly less
than half of all U.S. workers, participated in employer-sponsored retirement plans in 2003. Of these, 52
million (85 percent) were in plans offering lump sum distributions, and 16 million (26 percent) reported
having received at least one lump-sum distribution. CRS also reported that a typical 25 year-old today is
likely to work for at least seven employers before reaching age 65. .
CRS found that 44 percent of those who received alump-sum distribution said they rolled over the entire
amount into an IRA or other employer-sponsored plan. Another 40 percent said they saved at least part of the
distribution in some other way. The rollover decision is influenced by the recipient's age, race, marital status,
gender, distribution amount, and other factors. About 84 percent of all recipients saved at least part of their
lump-sum distribution.
Lump sum distributions used for current consumption can reduce future retirement income. For example, if a
person receives a lump sum distribution of $7,200 at age 46 and invests it at an 8 percent annual return, the •
estimated value would be $31,100 at age 65. This could purchase a level, single-life annuity paying $225 per
month ($2,700 per year).
The CRS report is available at: http://w~~lv.opencrs.com/document/RL30496.
C12S lteparts on t.hE~ 1:~ICeriaislt.y oi'~C~.mhlo~'i~rs ~l~'[.zizltainin~~~ f~etiree l.)I•II~ I~E:netits
On August 19, 2005, the Congressional Research Service (CRS) released its report, "Medicare Drug Benefit;
Retiree Provisions." According to CRS, a majority of employers are expected to apply for the Medicare Part
D subsidy in 2006 to help cover the costs of their plans. However, it is uncertain if employers will continue
maintaining retiree drug coverage. As the baby boomers retire, increased costs may also cause employers to
drop retiree health coverage or significantly reduce contributions.
CRS presented other options that could benefit employers, but may require plan restructuring to meet the Part
D requirements. These include:
1) paying a portion of retirees' Part D premiums;
2) offering enhanced coverage through supplementary or "wrap around" benefits; or
3) contracting with a commercial vendor to offer Part D coverage for retirees.
The full report is available from BNA PLUS for $27 plus shipping and handling at 800-372-1033 or email at
bnaplus(a~bna.com.
Dt)I. ~nft}CL'l'ille[it ()f the Lal)ur i~`I.Ina1;eIIICIIt Reporting a11d I.)iSCi0sllre :'\ct •
The August 22,2005, issue of BNA's Pension & Benefits Reporter features a special report on changes in the
U.S. Department of Labor's position regarding enforcement of the Labor Management Reporting and
141.~27.!2t105 c~ 2()0~ -Gabriel, )tt~eclE°r, Smit11 ~ C'arripany Page 4
Disclosure Act (LMRDA) of 1959. Although DOL historically has not taken an aggressive approach to
enforcing these provisions, a new DOL initiative requires employers to report all payments to labor
• organizations, union officials, union employees, or other representatives of labor organizations. This would
include gifts and in-kind payments worth more than $25, including meals, travel, hotel accommodations, golf
outings, etc. The term "employer" is broadly defined to include "every individual or entity that employs one
or more employees." Thus, a service provider (accounting firm, attorney, etc.) that gives a gift worth more
than $25 to a union representative would have to report it.
Employers report the payments using DOL Form L-10, signed by both the company president and treasurer
(or corresponding officers) within 90 days after the end of the employer's fiscal year. Civil and criminal
penalties apply, including fines up to $10,000 and imprisonment for up to one year.
Employers do not have to report payments if (i) they have a value of $25 or less; (ii) are sporadic or
occasional; and (iii) are given under circumstances unrelated to the recipient's status in a labor organization.
According to the law firm of Proskauer Rose LLP, employers also do not have to report "payments made in
the regular course of business to a class of persons determined without regard to whether they are identified
with a labor organization and whose relationship with a labor organization is not ordinarily or readily
ascertainable by the payer."
Karen Barr, general counsel for the Investment Advisor Association, has raised a number of issues regarding
the initiative with the DOL, including:
• Whether application of LMRDA requirements to investment advisors and other financial service
providers is within the scope of the law;
• Whether the $25 threshold is reasonable and appropriate;
• Whether DOL properly informed investment advisors and other service providers about the new
• enforcement initiative; and
• Whether it is practical to apply retroactively.
Source: Bureau of National Affairs, Pension c~c Benefcts Reporter, August 22, 2005.
IAA's letter to the DOL is at: http://www.icaa.org/public/letters/comment082905.pdf
Pension Ilan I_ial~ilities Pose ~3inimal I~isl:. try Fin:rraci;rl 41r6>ilit3-
On August 18, 2005, a new analysis by Watson Wyatt indicated that the pension liabilities at about half of the
Fortune 1000 companies with defined benefit plans pose little risk to the financial stability of the companies'
core businesses, while about 30 percent face a moderate amount of risk, and remaining 20 percent are exposed
to relatively high risk levels. The analysis also found 84 percent of the aggregate pension risk currently in the
system belongs to companies with an investment-grade bond rating.
According to the article, "This snapshot suggests that pensions pose minimal risks to the broader business
environment. Most pension risk is concentrated in investment-grade companies that could likely weather an
adverse shock. While these companies may want to reduce the risk from their pension operations for the sake
of their own financial health, it seems unlikely that the vicissitudes of their pension funds would trigger a
broader disturbance among American businesses."
The full text of the July 2005 Watson Wyatt's Insider Article "Pension Fund Finances and Business Risk" is
at: httR~J_~y~~.~v.~~ it5nmvyatt.com/us'pu:b5.msrdc.r.shu~~.rrt~clc.asp'?A~~ticleI~.=_I._SHEi3c~C'c~m~onent=-[_hc,+in~ider
I~:rt~r;Moyer I-le~rltls .["tans Cavt~r h~lrr~e,'l~°h.ari lLalfof .1'riv.~te Sector ~~'orl.:c~rs
• On August 24, 2005, the Labor Department's Bureau of Labor Statistics (BLS) released its "National
Compensation Survey: Employee Benefits in Private Industry in the United States, March 2005." Relatively
unchanged from the previous year, the survey found that approximately 70 percent of private sector workers
3 €!;'27i2t3tlf+ ~~ 20US - ~Cabriei, lir~edc~r, Smit:lr ~~ Corrrpan~- Pa;;e S
had access to employer-sponsored health care plans with 53 percent participating in those plans. For
employees with family coverage, 88 percent of the plans required employees to pay a portion of the health
care premiums, which averaged $273 per month for the employee and $562 per month for the employer. For •
employees with single coverage, 76 percent of the plans required that employees pay a part of the health care
premiums, which averaged $69 per month for the employee and $237 for the employer. Employers that paid
the full premium for employees averaged $673 per month for family coverage and $300 per month for single
coverage.
With regard to retirement plans, about 60 percent of workers had access to retirement plans (including defined
benefit and defined contribution plans) with 50 percent participating in at least one type of plan or both.
Additionally, 77 percent of private sector employees were eligible for paid holidays and vacations. The
amount of paid vacation days increased with years of service to an average of 19.3 days after 25 years. BLS
also reported that higher-paid employees were eligible for more benefits.. Employees earning more than $15
per hour were more likely to be covered by all benefits.
The 2005 report is available on the BLS website at: http:/,'www.bls.~ov/ncs/ebs/sp/ebsmU003.pdf
Census Repc3rt oar Income and health Inseu-ance C;overa~;e
On August 30, 2005, the U.S. Census Bureau issued its current population report titled Income, Poverty, and
Health Insurance Coverage in the United States: 2004. The report provides detailed estimates of income,
poverty rates, and health insurance coverage at both the national and state levels based on such characteristics
as race, age and region. The U.S. population without health insurance remained essentially unchanged from
15.6 percent in 2003 to 15.7 percent in 2004. However, the number of Americans lacking health insurance
rose for the fourth consecutive year reaching 45.8 million in 2004, an increase of 6 million people since 2000.
The report indicated the number with health care insurance increased by 2 million in 2004 reaching 245.3
million or 84.3 percent. The number of children without health coverage was 11.2 percent in 2004, but
children living in poverty were much higher at 18.9 percent. According to the Census, income levels impact •
the likelihood of having health insurance. In 2004, about 92 percent of households with annual income
greater than $75,000 had health insurance.
The Census report is available at: http://w~~nv.census.gov/prod/2005pubs/p60-229.pdf
Z~io~~~tana Sul.~re~ne ('or~rt l~i~Ib~s Rc~tir~:~-~~e~it [loaa•tl ~~TaE' I)e~fine .~~+auariai I:cluivalence
On August 16, 2005, the Montana Supreme Court ruled that the Montana Public Employees' Retirement
(PER) Board has the authority to define actuarial equivalence to determine retirement pay as provided under
the state constitution (Baumgardner v. Montana Public Employees' Retirement Board, No. 04-861, 8/16/05).
Prior to 2001, state law defined "actuarial equivalent" as a "benefit of equal value when computed upon the
basis of the 1971 Group Annuity Mortality Table, with ages set back 4 years and an interest rate of 8 percent
compounded annually." In 2001, the state adopted a new bill, H.B. 294, changing the definition to one based
on "mortality table and interest rate assumptions defined by the board."
The plaintiff in this case, Joseph Baumgardner, worked as a state employee for over 36 years and retired in
2002. Under the previous law, he expected to receive $2,334 per month. However, on July 1, 2001, the
Board adopted the new formula for determining retirement benefits which resulted in a benefit of $2,150 per
month. Baumgardner sued the PER Board alleging that H.B. 294 unconstitutionally delegated legislative
power to the Board.
In overturning the District Court decision, the Supreme Court unanimously ruled that the retirement board is
specifically empowered to make actuarial determinations in accordance with Article VIII, Section I S of the
Montana Constitution which reads: "The governing boards of public retirement systems shall administer the
system, including actuarial determinations, as fiduciaries of the system participants and their beneficiaries." •
The case brief is available at: http//www lawlibrary.state.mt.us/dscgi/ds.py~'Get/File-43808/04-861.pdf
10!27.%2(}0~ :S~ 2t)tt5 -Gabriel, Roeder, Smith & C'orr~pan~~ Pal;c 6
[~:conornic In~plicatio-as ol~ I3enlo;rapllic A~;inl;
• On September 7, 2005, Sylvester Schieber, Vice President and U.S. Director of Benefits Consulting at
Watson Wyatt Worldwide, advised the Social Security Advisory Board on the impact of aging societies on
Social Security and U.S. economy. According to Schieber, demographic aging is causing dependency rates to
grow whereby the ratio of retirees to workers continues to increase in developed countries. As the
retiree/worker ratio continues to rise, the demand for goods and services may grow beyond the capability of
the workforce. The combined effects of the increase in retirees, decrease in workers, and longer retirement
periods threaten the sustainability of current pension systems and broader economic prospects of many
developed countries.
Schieber is co-author of an extensive analysis entitled, "The Economic Implications of Aging Societies: The
Costs of Living Happily Ever After." This analysis presents current trends in birth rates, longevity, labor
force participation and productivity, globalization of labor markets, financial viability of social insurance
programs, and methods of sharing economic output between working-age and retiree populations.
More inforniation is available at: http://www.watso.nwyatt.con>/news/a~in~societies/
C;I3{) ~Esti~u.~tes Federal ~R~~tirt~e I~~ic±altll Insuranta: Bill ~1'~~uld Reduce I2~venue bti- $2.13illion in 2015
On September 1, 2005, the Congressional Budget Office (CBO) provided cost estimates on a bill (H.R. 994)
passed by the House Committee on Government Reform to allow federal civilian and military retirees to pay
for health insurance premiums on a pre-tax basis when paid through a pension reduction arrangement. In
2015, the estimated annual revenue loss would be $2 billion and annual increase in spending would be $133
million. According to the Joint Committee on Taxation (JCT), federal revenues are projected to decrease by
$12.7 billion over the 2006-2015 period. CBO expects increased direct federal spending by $600 million over
the same period. CBO also anticipates the implementation cost to be $1 million in 2006. Predictions indicate
• that the bill may result in a slight increase in participation by new retirees in the Federal Employees Health
Benefits Program (FEHB) or possibly cause them to transfer to more generous and expensive health plans.
The CBO report is available at: http://www.cbo.r ov/ftpdocs,'66xx/doc6623/hr994.pdf
I~Iinllesaat<ti G~~vernor Signs l~.ill to 'Wax Rr~tiric. I:)rul; Suhsi<lz~ .
On July 13, 2005, Minnesota Governor Tim Pawlenty (R) signed the omnibus tax bill (S.S. H.F. 138), which
included several changes in state tax law intended to address recent changes in federal tax law. However, the
omnibus bill did not exempt from state taxes the Medicare Part D employer drug subsidies provided in the
new Medicare law. The Part D subsidies are intended to encourage employers and unions to retain retiree
prescription drug coverage, and are exempt from federal taxes. According to Minnesota legislative analyst,
Joel Michael, taxing the employer subsidies would prevent the state from losing $10 million in tax revenues
over the next two years.
Minnesota is the first state that will not exempt the Part D employer subsidy from state taxes. Other states
facing budget shortfalls are also expected to consider taxing the subsidies. Centers for Medicare & Medicaid
Services (CMS) Employer Policy Group Director, Mark Hamelburg, stated that the agency is discussing the
matter and is expected to issue guidance on creditable coverage reporting, calculating subsidy claims rebates,
and claims data submission requirements in the near future.
Source: Bureau of National Affairs, Pension & Benefits Reporter, September 20, 2005.
C::BO I:stifuat.t~s Iie~Ilth Carl t:hoice :pct ~;~ill Increast~ Fetlecal I'avroll ant! Irliome "I'a~ i~o~-enue
On September 13, 2005, the Congressional Budget Office (CBO) reported that the Health Care Choice Act
• (H.R. 2355) which would permit the sale of individual health insurance policies across state lines would raise
federal payroll and income tax revenue. Under current law, entities must be licensed in the state in which
they offer coverage for individual health insurance and comply with that state's laws and regulations.
10!27I2F.P05 ~~? 20t)5 -Gabriel, Raeder, `~mit11 ~ C'oenpal~t- 1'a~e 7
Additionally, the employer's health insurance premiums and most of the employee's portion of the prenuums
are currently exempt from taxation.
Under the proposed legislation, health insurers would designate the state where they file a health insurance •
policy as the "primary state" for regulatory jurisdiction, regardless of residency in that state or any secondary
state in accordance with the terms of the act. Some employers may eliminate health insurance coverage for
employees due to the availability of less expensive individual insurance from an out-of--state insurer. Over 90
percent of the estimated increase in tax revenue would be a result of a decline of workers covered by
employer-sponsored health plans. This would cause a reduction in health care premiums which is tax-favored
compensation and increase revenue from payroll taxes. CBO projected the legislation would increase federal
revenues by $1.9 billion from 2007-2010 and $12.6 billion from 2007-2015.
Enactment of the proposed bill would also increase Medicaid enrollment for those who would either lose
employer-sponsored health insurance or purchase individual insurance policies. The estimated increase in
federal direct spending for Medicaid would be $160 million from 2007-2010 and $1 billion from 2007-2015.
CBO's cost estimate is available at: http://www.cbo.~ov/ftpdocs/66xx/doc6639/1u-2355.pdf
•
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11)!27i'Zt411~ '>`~ 2f)(9S - f~~hriei, 3Zoedc~r, Smit.l~ c~ Conapar~y 1'a;e 3
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(~~:5 ~iF;SE:Af~CII ~"I F;l1()I':~l~I)U1It
(:~os2su3i.~ots etiz Acto.u~iea
RE: Maximum Deferral and Threshold Limits for 2005 and 2006
FROM: Mary Ann Vitale and Paul Zorn, Director of Governmental Research
DATE: October 27, 2005
The Internal Revenue Code (IRC) establishes a number of limits on retirement plan benefits and
contributions. The limits are located in numerous sections of the Code and often apply in different ways
to private and public-sector plans. Generally, plans must comply with the limits to maintain their tax-
qualified status.
The Internal Revenue Service (IRS) periodically increases certain limits to reflect changes in the
Consumer Price Index (CPI). In many cases, the adjustment is only made if the change in the limit
attributable to the CPI exceeds a certain amount (e.g., $1,000 or $5,000). On October 14, 2005, the IRS
published new limits in IRS Release IR-2005-120, generally effective January 1, 2006. The table below
presents key limits for 2006 and compares them with the 2005 limits. The remainder of this memo
briefly sumrrtarizes the limits referenced in the table.
~I~tvirntrart I~;t~fc=t-t-~a ~a~:rl "I'1tre~:taftlrl f.isztits 1€-r 20(}S t€nd 2(1O(~
2005 2006`
Maximum Accrued Benefit Dollar Limit $170,000 $175,000
IRC § 415(b)(1)(A)
Special Firefighter/Police 415(b) Dollar Limit 170,000 175,000
IRC 415(b)(2 (G)
Maximum Contribution to a Qualified Defined Contribution Plan 42,000 44,000
IRC § 415(c (1)(A)
Maximum Compensation Limit 210,000 220,000
IRC § 401(a)(17)
Maximum Compensation Limit in Lieu of OBRA '93 315,000 325,000
IRC § 401(a)(17)
Elective Deferral Maximum for 401(k) Plans and 403(b) Plans 14,000 . _ 15,000
IRC 402( )(1)
Elective Defen-al Maximum for 457 Plans 14,000 15,000
IRC § 457(e)(15)
Catch-Up Limit (Age 50 and Older) for 401(k), 403(b) and 457 Plans 4,000 5,000
IRC § 414 v)(2)(B (i))
Catch-Up Limit (Age 50 and Older) for SIMPLE Plans 2,000 2,500
IRC § 414 v (2)(B)(ii))
IRA Contribution Limit 4,000 4,000
IRA Catch-Up Limit (Age 50 and Older) 500 1,000
IRC § 219(b)(5)(B)(ii)
Social Securi Maximum Taxable Wa e - OASDI 90,000 94,200
Social Securit Maximum Taxable Wa e - HI No Limit No Limit
Sources: IRS Release IR-2005-120 and SSA "2006 Social Security Changes" Fact Sheet.
t This memorandum describes changes to certain tax rules applicable to retirement plans. The authors are not attorneys and the
• statements made are not intended as legal advice or opinion. Plan administrators should seek the advice of qualified legal
counsel to ensure that plan provisions and documents comply with applicable federal laws and regulations.
1(}/27,1,',El(}:, ~~~ (;altrii~i, Ituctlt~r, Sntitlt c4 C:c~tttl?~tt-~~ 1':i;;e l
VIII\itIIUIII :~,ccl•utacl Belletts
IRC § 415 limits the benefits that can accrue in defined benefit plans and the amounts contributed to •
defined contribution plans. Generally, IRC § 415(b) limits the employer-provided benefits that can
accrue to members in a defined benefit plan to the lesser of $175,000 in 2006 (the "dollar linut") or 100
percent of the participant's average compensation for his or her three highest years. Although private-
sector plates are subject to both limits, governmental plans are exempt from the 100 percent of
compensation linut.
IRC § 415(b) also requires the dollar limit to be actuarially reduced for retirement before age 62, using
prescribed factors. However, for certain qualified police and firefighters with at least 15 years of service
credit, no actuarial reduction is required. Consequently, the dollar limit for these members is the same as
the unreduced § 415(b) dollar limit, or $175,000 in 2006, regardless of age.
~"~I111ri1t![Il ri~()Iltitl)titit}IiS
IRC § 415(c) limits the maximum "annual additions" to a defined contribution plan to the lesser of
$44,000 in 2006, or 100 percent of annual compensation. In this context, annual additions include
employer and employee contributions, as well as forfeitures. Due to changes made by the Taxpayer
Relief Act of 1997, annual compensation, for the purpose of deternning this limit, includes elective
deferrals to 401(k), 403(b), 457(b) and 125 "cafeteria" plans.
For governmental plans that do not "pick-up" mandatory employee contributions under IRC § 414(h)(2),
employee contributions are treated as contributions to a defined contribution plan and are subject to the §
415(c) limits. For governmental plans that do "pick-up" employee contributions, the contributions are
treated as part of the employer-provided portion of accrued benefits subject to the § 415(b) dollar limits. •
latitzltltll t'tintlso.IS~ttiott
IRC § 401(a)(17) limits the amount of compensation that can be taken into account by the plan, for the
purpose of determining benefits and contributions, to $220,000 in 2006. For private-sector plans, even if
a plan member earns more than this amount, only $220,000 may be used in 2006 to calculate employee
contributions to, or benefits provided by, the qualified plan.
Special rules apply to some public-sector plan members hired before 1996. In 1993, IRC § 401(a)(17)
was amended by the Onmibus Budget Reconciliation Act COBRA `93), lowering the maximum
compensation limit from $200,000 to $150,000, indexed for inflation. OBRA `93 allowed governmental
plans to grandfather the compensation limits specified in the plan as of July 1, 1993, for employees hired
before 1996 -provided the plan was amended to apply the OBRA `93 limits to employees hired in 1996
and after. For governmental plans applying the pre-OBRA `93 limits, the maximum compensation limit
in 2006 is $325,000 for grandfathered employees. For governmental plans that had no maximum
compensation limit as of July 1, 1993, and that amended the plan to grandfather these provisions, benefits
can be determined without reference to any compensation limit for grandfathered employees.
~laxilllxlln Elecli~°t~ I)efrl°r•als
Elective deferrals are voluntary agreements in which employees elect to forego current income in return
for the employer's contributions to retirement or other benefit plans. Elective deferrals are available for
a variety of tax-qualified retirement plans, including 401(k) and 403(b) plans, for which the maximum •
elective deferral per participant is $15,000 in 2006. Governmental employees may have access to non-
1(l;'"? 7%2(}tj~ «:-~ (z~6:tl•1<~I, F:aaecler, `s~rtith ~ €::rttatlt:tas~ 1'n~c 2
qualified deferred compensation plans established under IRC § 457(b). The maximum elective deferral
for 457(b) plans is also increased to $15,000 in 2006.
LR:~ (~'otttr•i17Ft4i4tt~ [.irt~~lt
The maximum annual contribution to a traditional IRA and a Roth IRA is $4,000 for 2006 and will
increase to $5,000 in 2008. Beginning in 2009, contributions will be indexed for COLA increases in
$500 increments.
Catch-L1p ~C)oll~tr Liz~~irs
The Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA) added IRC ~ 414(v),
providing new "catch-up" provisions for participants in 401(k), 403(b), 457(b), SEPs, IRAs, and SIMPLE
plans. Under the new provisions, plan participants who are or will be age 50 or older by the end of the
plan year may voluntarily make additional contributions to the plan, above the maximum elective deferral
limits. The maximum catch-up contribution is the lesser of (1) a specific dollar amount (the "catch-up
dollar limit") or (2) the participant's compensation for the year reduced by any other elective deferrals
made during the year. For 2006, the catch-up dollar limit for 401(k), 403(b), SEPs, and 457(b) plans is
$5,000. For SIMPLE plans, the 2006 catch-up dollar limit is $2,500. For IRAs, the catch-up dollar limit
is increased to $1,000 in 2006 and thereafter.
Note: 457(b) plans have an additional catch-up provision under IRC § 457(b)(3). As amended by
EGTRRA, a participant may, in one or more of the three years ending before nornial retirement age,
defer the lesser of (1) twice the applicable dollar limit (i.e., twice $15,000 or $30,000 in 2006) or (2) the
sum of the applicable dollar limit for the year (i.e., $15,000 in 2006) plus the amount by which the
• applicable dollar limit in preceding years exceeded actual deferrals in those years. In the three years
ending before normal retirement age, a 457(b) plan participant may apply the greater of the 414(v) catch-
up provision or the 457(b)(3) catch-up provision, but not both.
T~tx•A~ble ~~'.agc 13~t,c~ l~or Social ~ccu~•ity ~incl i'~`ledic:~tre
The taxable wage base limits the amount of earnings that are taxable under Social Security's Old Age,
Survivor, and Disability Insurance (OASDI) program. Both employers and employees pay a 6.20%
payroll tax on these earnings to fund the OASDI program. The taxable wage base is adjusted annually
for inflation and is increased to $94,200 for 2006. Because the maximum taxable wage base for
Medicare (HI) was eliminated by OBRA '93, there is no limit on the earnings subject to the 1.45%
Medicare tax.
On October 14, 2005, the Social Security Administration (SSA) announced a 4.1% cost-of-living
adjustment for 2006. The adjustment is based on the Consumer Price Index for Urban Wage Earners and
Clerical Workers (CPI-W) from the third quarter of 2004 to the third quarter of 2005. The cost-of-living
adjustment will be effective for payments beginning in January 2006 to Social Security and Supplemental
Security Income (SSI) beneficiaries.
[.,inls
IRS News Release (IR-2005-120) is at: htth:/iwww.irs.~ov/ncwsroonl/
• 2006 Social Security Changes is at:
htt~://www.socialsecurity~ovi~_essoflice/factsheets/colafacts2006 ~di•
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