Supplemental Pension Plan Review Preliminary Report to Small Municipality USA May 2012

Supplemental Pension Plan ReviewPreliminary Report to Small Municipality USA

May 2012

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Presented by CBIZJon S. Ketzner and Jack Keller

11440 Tomahawk Creek ParkwayLeawood, KS 66211

44 Baltimore StreetCumberland, MD 21502

Project Mission

• Help City meet its fiduciarial responsibilities to tax payers and employees • Review current program• Review future expense impact on City• Review alternative post-retirement approaches to the Supplemental

Pension Plan that continue to meet the current goals and purpose for the City for retirement programs

2Supplemental Pension Plan ReviewMay 2012

Current Goals and Purpose: When integrated with other retirement programs, the City's retirement benefits should aid with:

• Recruitment – The plan should act as an incentive for recruiting high quality employees. The program must be competitive with other cities for which we compete for employees.

• Retention - The program should act as an incentive for retaining high-quality employees and maintaining a stable workforce. The program should also be compatible with changing workforce and demographic trends.

• Reward - The program should provide a solid foundation for retirement security following a career in public service.

• Sustainability - The cost of each plan should be sustainable and predictable over the long term.

• Fundability – The total cost of retirement plans should be reasonable and affordable for the City.

• Affordability - The cost of each plan should be affordable for current and future employees. • Equity - The program benefits should be equitable for all employees.


Current Program

Three Defined Benefit Pension Plans• Kansas Public Employees Retirement System (1.75% of final

pay)• Kansas Police and Fire System (2.5% of final pay)

• Municipality Employees Supplemental Pension Plan (1%/.75% of final pay)

Unmatched 457 Plan (ING Platform)• Elective employee contributions only• Employee directed investments

Post Retirement Health Plan (OPEB)• City pays 50% of single premium for 5 years after retirement


Current Post-Retirement Program

• Compared with other employers (excluding Governments) – Generous

• Compared with other governmental employers – Competitive to somewhat better than competitive

• Competitive/adequacy comparison would need to consider all employee compensation

• Most governmental agencies are currently reviewing their post-retirement promises and obligations


Estimated Retirement Program Expense (as a % of payroll)

Year Kansas Pension Plans**

457 Plan OPEB* Supplemental Pension Plan

Total

2009 10.57% 0.0% 1.99% 4.59% 17.15%

2010 10.48% 0.0% 2.00% 4.09% 16.58%

2011 11.69% 0.0% 2.25% 3.83% 17.77%

2012 13.94% 0.0% 2.35% 4.50% 20.79%

2013 15.50% 0.0% 2.55% 4.50% 22.55%

2014 15.75% 0.0% 2.75% 4.40% 22.90%

2015 16.00% 0.0% 3.00% 4.30% 23.30%

2016 15.00%*** 0.0% 3.25% 4.20% 22.45%

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*Assumes non pre-funded OPEB – if the OPEB is being pre-funded then these costs would be approximately .60% of payroll lower.

**Note: These rates would be approximately 1.50% of payroll higher if KPERS billed the City for the Public Employees’ plan at the actual cost rate rather than the “statutory” rate set by the legislature.

***Note: Special amortization charge drops out of Kansas Police Officers and Firefighters Plan.Supplemental Pension Plan ReviewMay 2012

A Quick and Dirty Review of “Contract Clause”Protection Under Kansas State Law

• The Supplemental Pension Plan may create a contract between the City and the Plan members (probably at employment – possibly at vesting date)

• If Plan is amended to the disadvantage of participants – an offsetting advantage should be provided

• Plan can be amended to just the extent necessary to maintain its integrity• Future benefit accruals can be modified, or require employee

contributions• Plan can be eliminated or provide lower benefits to future employees (as

with 2010 Amendment)


City should seek legal advice if it amends the Supplemental Pension

Plan

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Valuation Date 01/01

Valuation Assets

Actuarial Accrued Liabilities Funded Ratio

Unfunded Actuarial Accrued Liabilities

2001 $922,247 $3,281,712 28.1 $2,359,465

2002 $1,328,295 $3,880,144 34.2 $2,551,849

2003 $1,750,707 $4,565,697 38.3 $2,814,990

2004 $2,614,536 $5,059,675 51.7 $2,445,139

2005 $3,341,841 $5,732,344 58.3 $2,390,503

2006 $4,032,152 $6,771,187 59.5 $2,739,035

2007 $4,902,802 $7,939,483 61.8 $3,036,681

2008 $5,716,905 $8,716,898 65.6 $2,999,993

2009 $5,194,888 $10,005,957 51.9 $4,811,069

2010 $7,464,260 $10,999,708 67.9 $3,535,448

2011 $8,892,444 $11,470,971 77.5 $2,578,527

2012 $9,118,571 $12,311,256 74.1 $3,192,685Supplemental Pension Plan ReviewMay 2012

Retirement Program AlternativesDefined Benefit Plan(Supplemental Pension)

• Traditional governmental program• City bears all investment and mortality

risk• High Maintenance Costs

– Investment Advisory– Administrative– Actuaries

• Essentially mandatory and potentially volatile Funding Requirements

• Private sector is abandoning very conspicuously which is putting pressure on governments to do the same

Defined Contribution Plan457 or 401(a)

• Emerging alternative for governmental employers

• Employee bears all investment and mortality risk

• Lower Maintenance Costs– Employees invest– Administration

• Discretionary funding requirements


Supplemental Pension Plan Alternatives

• Plan Termination – Benefits protected to the extent funded• Hard Freeze – No new plan participants – No new benefit increases• Soft Freeze – No new plan participants• Amend Plan(s) – change multiplier (Just done in 2010)• Defined Contribution Plan• Variations

– Floor Plan– Cash Balance Plan

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• Post-Retirement Health Account PlanOther Alternatives

Supplemental Pension Plan ReviewMay 2012

Plan Termination

• Benefits currently funded at 74% for all participants• If current retirees are kept whole then remaining participants are at 70%

funded• Shortfall of approximately $2.5 to $3.0 million to buy everyone up to 100%

- to avoid probable contract impairment issue• Lump sum benefits could be rolled into successor 457 or 401(a) plan at

the unilateral election of the City – or distributed to plan participants


Plan FreezeHard Freeze Soft Freeze• All benefits and plan participation fixed at

freeze date• Plan participation frozen at freeze date.

Current participants would continue to earn benefits at present levels

• Very probable contractual issues (need legal opinion) without offsetting benefits

• New employees participate in employer funded 457 or 401(a) accounts

• Notification to employees • No immediate cost savings

• Annual cost savings of approximately $450,000 – but equivalent benefits may need to be provided through some other program.

• No notification to employees

• Potential PR issues in future

• Under serious consideration by many governmental agencies

• Appears permitted under contract law – City will need legal opinion


Amend Plan to Less Generous Traditional Benefit Structure

• Reduce multiplier for the future – Just did this in 2010 (including raising NRD to 65)

• Reduce combined benefit limit from 85%

• Require employee contributions

• Any reduction in pension plan could be partially off-set by matching or “profit sharing” contributions to the 457 or 401(a) plan

• Possible contract impairment issue if applied to current plan participants


Defined Contribution Plan

• Primary retirement plan design for private sector• Account plan• Predictable contributions – Unpredictable retirement benefit outcomes

(opposite of defined benefit plan)• City’s current employee-only funded 457 Plan is a defined contribution

plan and could possibly be used as a successor plan for City contributions• If 457 Plan is not available, then City could adopt a “401(a)” Defined

Contribution Plan instead• Equivalent level of City contributions (approximately 4% of payroll)

probably will meet contract impairment requirement – need legal opinion.


Defined Contribution Plan

Age at EmploymentAverage Rate of Annual Investment Returns

4.50% 6% 7.5% (Current Assumption)

25* 4.75% 3.00% 2.00%

35 9.50% 6.75% 5.00%

45 10.00% 7.50% 6.00%

55 10.50% 8.50% 7.00%

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Percentage of Annual Pay Contribution into 457 or 401(a) Plan Needed to Equal Current Supplemental Plans Equivalent Benefit at Age 65 (General Employee – Post 2010 Plan)

Assumptions: Pay increases of 4%/year (Current Assumption)

Average pay increase in 2011: About 1% for general employees and -.5% for public safety employees

*Contribution rates are lower than at other ages because of 85% of pay cap when benefits are integrated with KPERS.


Floor Plan

Basic Concept: Supplemental Pension Plan is frozen and, instead, the City contributes monies into the 457 or 401(a) plan on everyone’s behalf

At retirement, if certain protected employees (say those currently employed) do not receive as much from the frozen pension plan plus the City contributed 457 or 401(a) plan monies as they would have from the original Supplemental Pension Plan, then the frozen Supplemental Pension Plan will make up the difference.

Issues: • Avoids contract impairment issue

• 457 or 401(a) matching contributions may not be able to be used as part of the “floor”

• Accelerates migration to a full defined contribution approach

• City would probably want to control its 457 or 401(a) investments used for floor benefits


Pension Plan Based Retirement Program Alternatives

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Floor Plan – Simplified ExampleA floor Plan is a combination of a defined benefit plan and a defined contribution plan. Essentially, the City would contribute monies each year into its defined contribution plan for each eligible employee, as well as perhaps maintain a frozen or much more modest defined benefit plan. At retirement, though, the participant’s defined contribution account is converted into an equivalent annuity stream (for comparison purposes only) and if that equivalent annuity is less than some minimum annuity value then the defined benefit plan would provide the difference.Example: City sponsors a defined contribution plan but promises a minimum benefit of $1,000/month at age 62

City Funded457 Account Balance

@ 62

City Funded 457 Equivalent Annuity @

62

Minimum Annuity Provided by Defined Benefit Plan

Employee 1 $150,000 $1,500/mo $1,000/mo $0/mo

Employee 2 85,000 850/mo 1,000/mo 150/mo

Note: Minimum benefit can be determined under any basis (say, the current Supplemental Plan’s formula) and can be met by a combination of the 457 or 401(a) employer contributions and any retirement benefits provided by the defined benefit pension plan.Note Also: Neither 457 employee contributions nor matching contributions can be used for a Floor Plan.


Cash Balance Plan• Defined Benefit Plan

– Actuaries– City still bears investment and mortality risk – but investment risk is less because benefits

are tied, to some extent, to capital markets– Funding Volatility – but much less then traditional final pay formula plans

• Benefit structure is an “account” – just like a 457 or 401(a) plan

• Modern Benefit Design – popular in private sector

• At retirement, “account” is annuitized

• City guarantees some level of investment return on the account – unlike a traditional defined contribution plan (like the 457 plan)

• Current Supplemental Pension Plan could be amended into a Cash Balance Plan for future accruals

• KPERS may adopt Cash Balance Plan


Supplemental Pension Plan for Employees of Municipalityas of January 1, 2013

SUMMARY OF BENEFITS FOR

Charles J. Smith

Your Pension Account Balance on 1/1/2012 $0Plus 5% of your salary of $30,000 1,500Interest on your account at a rate of 4.00% 60Your Pension Account Balance on 1/1/2013 $1,560Your Vested Pension Account Balance is $1,560

At age 62, your Pension Account Balance will be converted to a monthly benefit. Based on your current account balance, your minimum Post-2012 accrued monthly benefit at age 62 will be $500. In addition, you earned a monthly benefit payable at 62 of $635 based on your service through December 31, 2011. Accordingly, your total minimum accrued monthly benefit at age 65 is $800. Note, all retirement payments from this Plan can be in the form of an annuity.The benefits shown are based on data in City files and are subject to all of the terms in the Plan documents. In any data is incorrect, please notify the company as soon as possible.


Post-Retirement Health Account Plan

• Can be used to replace some of any reduced benefits from the Supplemental Pension Plan

• Exclusively to provide post-retirement health benefits

– Could provide for retiree’s cost-sharing or post-65 benefits, for example

• Defined contribution (i.e. account) benefit structure

• Benefits are tax-free

• Current expense is much less than apparent benefit.

• Relatively straight-forward to administer


Preliminary Recommendation – Cost Savings

• Eliminate benefits for future hires – Review again in 3 years– If future economic conditions permit, the new hires could be made eligible for the plan

with all past service benefits restored.– If City provides some other type of benefit (say, makes contributions to the 457 plan in

behalf of new hires) then the new hires could be made eligible to the Supplemental Pension Plan sometime in the future with only service from that point credited for benefits.

– City costs would decline to 0% of pay over 16 years at current amortizations.


Cost Savings - Alternative

• Add employee contributions – Reduce long term costs to approximately 2.5% of pay– 1% of pay for Fire and Police– 2% of pay for General Employers

• Employees already make fairly significant contribution to State program• Uncertainty of KPERS/KP&F future contribution rates a concern


Preliminary Recommendation – Cost Neutral

• Keep Supplemental Pension Plan – Review again in 3 years– Replacement plans would cost about the same and create disruption– Long term costs = 4% of pay


Note: Current Benefit Payments = $200,000/year

Current Benefit Accruals = $450,000/year

Current Plan Assets = $9.2 million

Cost Neutral - Alternative I

• Hard Freeze Supplemental Pension Plan and add 3% of pay to each employee’s 457 (or new 401(a)) account beginning January 1, 2013

• Floor benefits for current employees using frozen Supplemental Pension Plan. New employees will not be covered by Floor Plan

• Long term costs = 4% of pay


Cost Neutral - Alternative II

• Terminate Supplemental Pension Plan (after funding up benefits - $2.5 - $3.0 million)

• Roll monies into 457 plan or new 401(a) plan• City match 457 employee contributions at 50% up to 4% of pay (i.e. 2%

of pay maximum match)• City credits 2% of pay into Post-Retirement Health Account Plan• Long term costs = 4.0% of pay (including value of current plan buy-up)


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• GASB issued "Preliminary Views" on June 16, 2010 and “Public Comment” on June 27, 2011 (due by September 30, 2011). Final adoption expected June 2012.

• Covers only Pension recognition issues (i.e. GASB 25/27) "Views" on note disclosures and supplemental information coming next

• Principal concept - Separates Accounting from Funding (as in private sector)

• Effective Date – Generally, period beginning June 15, 2013

New Governmental Accounting Standards

Filling the GAAP Gap2012 ACOPA Advanced Actuarial Conference

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• Requires use of Entry Age Normal Cost Method - Would require change back to EAN method – Modest revision to model

• Requires use of Market Value of Plan Assets -County already complies

• Requires net liability on sponsor's balance sheet - INCLUDING COST SHARING EMPLOYERS

• More volatility in year to year "expense" charges(shorter amortization periods - investment gains and losses treated separately)

• Funding policy may well be disconnected from accounting recognition

New Governmental Accounting Standards

Filling the GAAP Gap2012 ACOPA Advanced Actuarial Conference

Questions?


Supplemental Pension Plan Review Preliminary Report to Small Municipality USA May 2012

Documents

Transcript of Supplemental Pension Plan Review Preliminary Report to Small Municipality USA May 2012