Month: November 2004

“WFTRA” is the acronym for the “Working Families Tax Relief Act of 2004.” When Congress provides a name for legislation, wouldn’t it be helpful if they would provide a pronunciation of the acronym as well? Because, depending upon where you are from, you hear a whole host of pronunciations. On this new acronym, my guess is that those in Pennsylvania would be inclined to call it “Wooftra” (“oo” sound of “wood”) since Pennsylvanians pronounce the word “water” as “wooder”. (No kidding, we really do.) However, those in the Midwest, might call it “Wahftra” (as in “watt”) since they pronounce “water” as “wahter.” Then there might be some who call it “Waftra” as in “raft” (likely Texans) or some who might call it “Wiftra” as in “whiff.” And then there are those who like to add a “ter-ra” to the end (regardless of how they pronounce the first syllable)–making the pronunciation of “WFTRA” three syllables–Wif-ter-ra.

If Congress won’t provide the answer, maybe the IRS could take it upon themselves to put us all out of our misery and issue some guidance on the proper pronunciation, so we won’t all be wondering: “How do you pronounce the acronym “WFTRA”?

An example of how not to handle a dispute with the Department of Labor: here. (From PlanSponsor.com)

The IRS has issued Notice 2004-79 clarifying some of the confusion over changes made to the definition of dependent by the Working Families Tax Relief Act of 2004 (“WFTRA”). WFTRA changed the definition of dependent under section 152 of the Code, but did not make conforming amendments to section 106 of the Code. (Congress apparently did not make conforming amendments to ? 106 in WFTRA because the reference to ?dependents? under ? 106 appears only in the regulations under that section and not in the statute itself.) The IRS has clarified the situation as follows:

Under current law, the exclusion under § 106(a) for employer-provided coverage under an accident or health plan parallels the exclusion under § 105(b) for employer-provided reimbursements of medical care expenses incurred by the employee and the employee’s spouse and dependents, as defined in § 152. However, as a result of the changes made by WFTRA, the definition of dependent in § 105(b) differs from the definition in the regulations under § 106(a). Accordingly, if the regulations under § 106(a) continued to be applied as currently written after the effective date of section 201 of WFTRA, the value of employer-provided coverage for an individual who is not a qualifying child and who does not meet the gross income limitation for a qualifying relative would have to be included in the employee’s gross income. Because the intent of Congress was not to change the definition of dependent for purposes of employer-provided health plans, regulations under § 106 should be revised to provide that the same definition of dependent applies to § 106 as applies to amended § 105(b).

The IRS states that they will revise the regulations at 26 C.F.R. 1.106-1 to provide that the term “dependent” for purposes of § 106 shall have the same meaning as in § 105(b), and that the the revised regulations will be effective for taxable years beginning after December 31, 2004.

(More here in this previous post.)

The DOL has announced that a federal district court in New York City has approved a final settlement of $79 million for the benefit of workers and retirees of the Global Crossing retirement plan. In addition to the restitution that was recovered in the private litigation, the settlement prohibits the company’s executives from acting as fiduciaries to ERISA-covered benefit plans for five years (unless the Department of Labor gives prior approval) and covers two former inside directors of Global Crossing as well as the three former members of the Employee Benefits Committee.

Those of you interested in the benefits implications of the recent insurance probes will want to read the complaint filed by New York State Attorney General Eliot Spitzer against Universal Life Resources, Inc. (“ULR”) (The press release is here and the complaint is here.) An excerpt from the complaint:

Federal law requires certain private employers to disclose all compensation paid to brokers in connection with those employers’ purchase of group insurance for their employees. This information must be reported on Form 5500 and be filed by the employer with the United States Department of Labor. The employer may not necessarily know the specific amounts and types of compensation (i.e., commission, consulting payment, override, communication fees) the insurer has paid to the broker. As a result, the insurer usually prepares a schedule for the Form 5500 (“Schedule A”) on behalf of the employer, which reports the amount of compensation the insurer has paid to the employer’s broker. In the absence of disclosure of such compensation elsewhere, Schedule A provides an opportunity for employers and employees to learn of the total compensation the broker has received from an insurer; if payments such as overrides or communication fees are not disclosed on Schedule A, the employer and employees may not learn of their existence.

For a summary of the controversy involving ULR, see this article from Workforce: “Spitzer Opens Benefits Front.” (from Benefitslink.com)

Also, yesterday the Subcommittee on Financial Management, the Budget, and International Security, of the U.S. Senate Committee on Governmental Affairs, held a hearing entitled “Oversight Hearing on Insurance Brokerage Practices, Including Potential Conflicts of Interest and the Adequacy of the Current Regulatory Framework.”

Excerpts from Statements and Testimony at the Hearing:

Senator Peter G. Fitzgerald:

“My study of this insurance brokerage controversy convinces me that there is a federal role — the time-honored federal role that guarantees competition and fights the mischief of undue market concentration. Contingent commission arrangements have been common and legal for decades. I believe it is no coincidence that the controversy of these compensation arrangements tracks the increasing consolidation of the brokerage market — especially the market for large corporate buyers.

I believe it is no coincidence that Attorney General Spitzer first sued the largest market player in insurance brokerage. And I believe it is no coincidence that when Attorney General Spitzer first investigated contingent commissions pursuant to his vast powers under New York’s Martin Act, he appears to have discovered anticompetitive — and even criminal — abuses orchestrated not by just any random insurance broker, but by an insurance broker that controlled 40% of its target market.

And I will be interested in hearing the views of the witnesses as to whether this brokerage controversy lends more, or less, support to the proposal developed by the leadership of the House Financial Services Committee — the State Modernization And Regulatory Transparency Act, or SMART Act — a draft of which has been circulated by Chairman Oxley and Capitals Markets Subcommittee Chairman Baker. The House Financial Services Committee has conducted 16 hearings on insurance reform since the Committee’s organization in January 2001, and I applaud the hard work of Chairman Oxley and Congressman Baker in this area.“

Senator Daniel K. Akaka:

“I also want to know whether the deceptive and questionable practices found in commercial property and casualty insurance are also found in other lines of insurance, such as health insurance, where premiums continue to rise. Employer-sponsored health insurance premiums increased an average of 11.2 percent in 2004 according to the Kaiser Family Foundation and Health Research and Educational Trust. For many working families, these increases have made it more difficult for them to make ends meet and to retain their health insurance coverage. If a portion of the increase in premiums for health insurance may be attributed to deceptive and opaque practices among insurance brokers, steps must be taken to make sure that families are not overpaying for their current coverage due to the questionable activities of some insurance brokers.”

Eliot Spitzer, Attorney General, Office of the New York State Attorney General:

“Not only do insurance brokers receive contingent commissions to steer business, but many brokers, with the assistance and collusion of insurance companies, engage in systematic fraud and market manipulation in order to ensure that profitable and high volume business goes to a few selected insurance companies. In other words, we found that favoritism, secrecy and conflicts rule this market, and not open competition.

This struck us as a very familiar pattern. Whether in investigating conflicts of interest between the research and investment banking arms of large wall street firms or our recent work in the mutual fund industry, we have found that the lack of transparency, combined with inadequate disclosure and regulatory oversight, often leads to market fraud and collusion. Many insurance lines, from employee benefits to property and casualty, essentially function as insiders clubs, where those with market clout and power pay for preferential treatment. Similar to the small investor on wall street or in mutual funds, the ordinary purchaser of insurance has no idea that the broker he selects is receiving hidden payments from insurance companies, that the advice he receives from the broker may be compromised, or that the market bids he sees may be illusory. This has led to a crisis of accountability. . .

Last Friday, my office filed a complaint against Universal Life Resources, Inc., a key consultant and broker in the employee benefits industry. ULR advises hundreds of employers in the selection of insurance and has placed insurance for four million U.S. workers. The complaint details how ULR is retained to help employers reduce costs and procure the most appropriate benefit plans for their employees, but instead engages in massive steering of this business to a small set of insurers that have been willing to enter into side-deals with lucrative payoffs for ULR. . . It is, of course, employees who pay for these hidden costs through higher life and other group premiums. . . .

The federal government should not preempt state insurance enforcement and regulation. Nonetheless, I do believe there is a role for the federal government, especially in the areas of off-shore capitalization and investment by insurance companies. At a minimum, federal involvement may be necessary to assure some basic standards of accountability on the part of insurance professionals.“

Richard Blumenthal, Attorney General, State of Connecticut :

“State law should establish a binding, enforceable code of ethics for both insurance brokers and agents. This code should prohibit an agent or a broker from basing an insurance recommendation on potential compensation from the insurer. It should also require an agent to disclose in writing that the agent works for the insurance company rather than the consumer. Both agents and brokers should disclose to the consumer any compensation from insurers relating to the consumer’s insurance purchases.

The code of ethics should impose a fiduciary duty on the broker to obtain the best deal for the consumer irrespective of broker self-interest.

Recognizing the potentially corrosive and coercive effect of either contingent or straight commissions on the insurance agent’s or broker’s recommendation to the consumer, state law should require full disclosure by the agent or broker of the various insurance options for the consumer. If the agent or broker recommends one insurance product over another, the agent or broker must articulate in writing the reasons for the recommendation. This information will guarantee the consumer is fully aware of the options and create a paper trail for regulators to ensure that the agent or broker is not making recommendations based solely on the agent’s or broker’s financial interest.“

John Garamendia, Insurance Commissioner, State of California :

“With respect to disclosure of the amount of commissions, brokers and agents will ask, “Why should we have to disclose the amount of our commissions? Most salesmen sell on commission, yet they are not required to disclose the source and amount of the compensation they receive.”

The answer is, as I have said before, that buying insurance is not like buying groceries. Securities brokers and real estate brokers are required to disclose the source and amount of their commissions, and so should insurance brokers and agents.“

More on the hearing from the Kaiser Family Foundation here.

A great cartoon here from the TaxGuru. Sounds a bit like the predicted plight of baby boomers if they don’t start doing a better job of saving for retirement. . .

Interesting article from the New York Times: “Teamsters Find Pensions at Risk.”

The IRS has issued Notice 2004-78 (from Benefitslink.com), providing guidance with respect to a change to section 415 of the Code which was tucked away in the Pension Funding Equity Act of 2004 (“PFEA”). The change affects all defined benefit plans and has to do with the actuarial assumptions that must be used to adjust a benefit payable in a form other than a straight life annuity.

Prior to its amendment by PFEA, section 415(b)(2)(E))(ii) provided that, for purposes of adjusting any benefit payable in a form that is subject to the minimum present value requirements of section 417(e)(3) of the Code, the interest rate assumption could not be less than the greater of the applicable interest rate (as defined in section 417(e)(3)) or the rate specified in the plan.

PFEA amended section 415(b)(2)(E)(ii) of the Code to provide that the interest rate assumption must not be less than the greater of the applicable interest rate (as defined in section 417(e)(3)) or the rate specified in the plan, except that in the case of plan years beginning in 2004 or 2005, 5.5 % is used in lieu of the applicable interest rate.

The Notice makes it clear that the changes made to section 415 of the Code by PFEA will be effective for plan years beginning on or after January 1, 2004, but that the changes will not apply to plans that terminated prior to April 10, 2004, the date of enactment of PFEA. Also, the Notice provides that a plan won’t violate section 411(d)(6) of the Code or section 204(g) of ERISA if the plan is amended on or before the last day of the first plan year beginning on or after January 1, 2006 and the plan is operated in the meantime as though the amendment were in effect during the period beginning on the date the amendment is effective.

What is the financial effect of this change? The Notice provides as follows:

. . . [W]here a plan’s interest rate is 5%, the applicable interest rate under § 417(e)(3) is 5.25%, and where the plan uses the applicable mortality table for determining actuarial equivalence, the effect of section 101(b)(4) of PFEA ’04 would be to require the conversion of a single-sum distribution paid during the plan year beginning in 2004 to an equivalent straight life annuity using 5.5 % rather than the applicable interest rate of 5.25% as under prior law. In such a case, to satisfy the limitations of section 415 of the Code, the maximum single-sum distribution for a participant who is age 65 in 2004 would be $1,866,645 calculated using 5.5% as required by section 101(b)(4) rather than $1,905,638 calculated using 5.25% as required under prior law.

The Treasury and IRS have issued new 403(b) proposed and temporary regulations as announced here in a press release. Proposed regulations are here and temporary regulations are here. According to the press release, the regulations “provide the first comprehensive guidance on section 403(b) arrangements in over 40 years” and provide guidance on statutory changes that occurred during the 40 years and answer issues that were not previously addressed in formal guidance. The proposed regulations will not go into effect until taxable years beginning after 2005.

(Better make your comments here as to any changes you would like to see. Who knows–an opportunity to comment on 403(b) rules might not come around for another 40 years 🙂

Don’t miss this important decision from the Seventh Circuit written by Circuit Judge Richard Posner which discusses “partial terminations” in the context of when participants must receive 100% vesting: “Matz, et al. v. Household International Tax Reduction Investment Plan.” (An interesting aspect of the case was the fact that the case was in its 9th year of litigation. Many employers automatically vest participants in such transactions in order to avoid the risk of protracted litigation over vesting.) The issue in the case as framed by Judge Posner was this:

The question is the correct approach to deciding whether an ERISA pension plan-in this case a defined-contribution plan in which the employer matched contributions that its employees made by means of payroll deductions to individual retirement accounts-has been partially terminated.

According to the opinion, “as a result of a series of reorganizations of subsidiaries of Household, a total of 2,396 of the 11,955 participants in Household’s plan ceased to be participants.” The issue was whether such reorganizations should result in the participants attaining 100% vesting in the plan. Here’s what Judge Posner had to say:

So where to draw the line? The IRS, which is not famous for encouraging tax windfalls, draws it at 20 percent. As we look back upon the course of this litigation, now in its ninth year and its third interlocutory appeal to this court, we find ourselves drawn back to the IRS’s position. Not because it is entitled to Chevron deference-we adhere to our holding that it is not-but because, having toyed with the alternatives, we think it is the best available and we respect the IRS’s experience in formulating tax rules.

The court provides a table of all of the cases and rulings on the issue of what constitutes a “partial termination” and makes the following statements about the results:

In 20 of the 21 cases and rulings, if 20 percent or more of the participants lose coverage, there is a finding of a partial termination, and if fewer than 20 percent do, a partial termination is not found. The exception is the Sea Ray case, where a 27.9 percent loss of coverage was held not to be a partial termination because the loss was the consequence purely of economic conditions; the employer was not motivated by any desire to obtain a tax benefit or reallocate pension benefits to favored participants in the pension plan.

In an effort to make the law as certain as possible without opening up gaping loopholes, we shall generalize from the cases and the rulings a rebuttable presumption that a 20 percent or greater reduction in plan participants is a partial termination and that a smaller reduction is not. How rebuttable? One can imagine cases in which a somewhat smaller reduction in the percentage of plan participants would be tax-driven and might on that account be thought a “partial” termination, and other cases, like Sea Ray, in which the reduction is perhaps not so far above 20 percent that further inquiry is inappropriate. We assume in other words that there is a band around 20 percent in which consideration of tax motives or consequences can be used to rebut the presumption created by that percentage. A generous band would run from 10 percent to 40 percent. Below 10 percent, the reduction in coverage should be conclusively presumed not to be a partial termination; above 40 percent, it should be conclusively presumed to be a partial termination.

The court then vacated and remanded the case, stating that a remand was necessary for the district court to consider additional “facts and circumstances.” The court noted that it had considered whether or not to “invite the IRS to submit an amicus curiae brief” advising the court of its “current view of the proper approach to determining partial termination” but “decided not to do so because of the great age of the case.” The court went on to emphasize that “should the IRS decide on its own to revisit the issue” the court “would give [the IRS’s] views significant weight” and “therefore the rule we have just formulated for deciding such cases as this should be considered tentative.”

Query: With Judge Posner being the likely author of the appeal in the IBM cash balance plan decision, can we glean anything from this Household opinion which could lead us to believe that Judge Posner might uphold the cash balance plan as being not violative of ERISA in the IBM appeal? (Read about the cash balance plan controversy here in an article from the Journal of Financial Planning as well as in previous posts here and here.) Statements in the opinion like–“[W]e respect the IRS’s experience in formulating tax rules,” the IRS’s views should be accorded “significant weight,” and the emphasis in the opinion on “mak[ing] the law as certain as possible,” coupled with the precedence of 3 out of 4 district court opinions upholding cash balance plans, might lead us to speculate that Judge Posner could provide a reversal.

Some related reading: “What Will Judge Posner Do Next? Balm or Bomb for Cash Balance Plans?” by Alvin D. Lurie (via Benefitslink.com). Lurie makes the following statement regarding Judge Posner and ERISA cases:

Judge Posner, who admits to enjoy(ing) ERISA cases which he finds frequently difficult and fascinating (see Posner, How I Approach the Decision of an ERISA Case, NYU Review of Employee Benefits and Executive Compensation 2002, ch. 14, hereafter “NYU”) waded into this unforgiving terrain with gusto and acumen. . . ”

Also, a personal glimpse of Judge Posner here.