Thoughts on “Decoration Day”

Given the pace at which we live our life these days, it’s pretty easy to let the distinctions between the different holidays become blurred.  We often find ourselves seeing holidays as just a break from time in the office, an extra-long weekend to spend on our favorite pastimes, an opportunity to focus on things other than work, or – less exciting, perhaps – to make progress on projects. 

If there is one holiday that we should not let that happen to, it is Memorial Day.  It’s a day to remember the sacrifices that others have made for us.  Ultimate sacrifices, to put a finer point on it.  As is often said of those who have served, “all gave some, some gave all”.  In honor of those who have paid that price, this blog will depart from its normal retirement plan focus and look at what this holiday means. 

There are probably few who are younger than the baby boom generation that will recognize the term “decoration day,” and even those of this generation that do recognize it, likely does so only because their parents or grandparents may have called it by that now-archaic name.  Memorial Day was, in fact, first known as Decoration Day when it was recognized as a national holiday following the American Civil War.  It was a day, traditionally the last Monday in May, when family members and others put flowers on the graves of soldiers, both Union and Confederate, who died in what many consider the event that most defined us as a people and a nation.  In other words, they "decorated" the graves in memory and recognition.  Since those early days the title changed and Memorial Day has officially become a day to honor and remember all who have made that ultimate sacrifice while in military service. 

Many Americans have no idea or have forgotten how close our country came to being two countries, rather than one, a century and a half ago.  There is no way to properly envision or comprehend what two divided Americas might not have accomplished in shaping the world as it now exists.  In particular, helping as we did to save our world from dark forces that rejected individual freedoms and sought political and military domination.  We are by no means a perfect nation.  We have made our mistakes and have our flaws.   But in our balance of imperfection and good intentions, our commitment to self-determination and individual liberties stands out and we can be proud of most of what we have come to stand for to the rest of the world.

The sacrifices a century and a half ago that affirmed us as a united people have been demonstrated more than once, in world wars and in other conflicts, but also in peaceful things, made possible by the common purpose that was a byproduct of our unity.  Creating an international forum in which nations can attempt to resolve their differences, striving and working for equal opportunity and personal dignity for our citizens, exploring the universe beyond the confines of our own sphere, and many other accomplishments, are a legacy of sacrifices both before and since the first Decoration Day. 

As a nation and a people we are not inclined to dwell on gloom and loss, the emotions that must have accompanied the first Decoration Day.   We’re inclined to look toward the future through the lenses of optimism and confidence.  Maybe that is why Memorial Day as we celebrate it in our era is a time for smiles and laughter, appreciating our families and friends, as well as for remembering the sacrifice and loss of those who have served and insured our freedom.

And after this welcome holiday is over, a time to get back to working toward a worthy and secure retirement for us all.

More Musings on the New Rollover Limitation

One of the truisms of our industry, as it is a truism of life, is that “nothing is as constant as change.”  That certainly applies to the IRA rollover limitation issue, which reared its head in the Bobrow v. Commissioner U.S. Tax Court case, and completely upended thirty-plus years of IRS interpretation on IRA rollovers.   As most will remember, the Court disallowed a taxpayer’s IRA rollover on the grounds that he was limited to one rollover distribution per taxpayer per 12-month period, not one rollover per IRA per 12-month period.  Proposed regulations dating back to 1981, and IRS publications, had formerly granted the more liberal option.

That’s water under the bridge, because the IRS has fallen into marching step with the new drummer – the U.S. Tax Court.  The IRS revealed in Announcement 2014-15 that, going forward, the rule will be one IRA distribution per taxpayer, not per IRA, that will be eligible for an indirect 60-day rollover in any 12 month period.   Released in March, Ann. 2014-15 stated that the IRS would not enforce this new interpretation before January 1, 2015.  Ascensus has since learned from a reliable IRS contact that the “no sooner than” timing for enforcement of this new interpretation will, in fact, be January 1, 2015.  The IRS representative stated that the nine month enforcement reprieve – from March to next January – was granted in response to industry requests for a grace period to allow IRA custodians, trustees and issuers to adjust their procedures.

Some over-eager service providers did not wait until the IRS released Ann. 2014-15, but responded to the January Tax Court decision and immediately informed clients and prospects that they should amend their IRA documents, advising that they do this at the first opportunity.  They also indicated that the new interpretation had to be followed and adhered to immediately.  This was suggested not only before the IRS responded to the Tax Court ruling by issuing Ann. 2014-15, but before it was even known whether the Bobrow case would be appealed, and whether its ruling might be upheld, or reversed. 

The point here is that it is usually best in such situations to let the dust settle, to not over-react, or – as some might do – take an opportunistic tack and recommend actions prematurely.  Yes, IRA documents will certainly have to be revised for new accounts, and it is advisable that existing IRAs be updated to align with the new interpretation that will govern future rollovers.  But, as revealed in Ann. 2014-15, we are still nearly seven months away from the earliest enforcement date for the new rule, and no date has been even hinted at for updating existing IRAs.  For the remainder of 2014, the enforcement of the rule will remain as it has been, one rollover per IRA. 

A little reflection on the new rollover interpretation might also be in order here, given the level of uproar and resistance seen within the industry.  Many were predictably upset that the Tax Court ruled as it did, reversing a long-held tradition and contradicting an oft-stated and oft-published IRS position.   Perhaps more upsetting was the fact the IRS brought this case in the first place and didn't give credence to their own published guidance.  Regardless of this, the statutory reference to rollovers in the Internal Revenue Code has not changed since 1978, and a plain-language reading of it – while somewhat ambiguous – can in all honesty be read as the Tax Court did, limiting rollovers to one per-taxpayer per year.   

The Tax Court took the position that our lawmakers intended to make access to IRA funds possible, but not so easy as to encourage abuses.  “Leakage,” or frittering away retirement assets, has long been a concern of Congress.  Also, there are clear prohibited transaction rules that discourage an IRA owner from dealing “…with the income or assets of a plan in his own interest or for his own account.”  IRA assets are to be preserved for retirement as much as possible.  Some might say that the strategy – permissible under the existing rules – of setting up multiple IRAs and thereby receiving multiple rollable distributions within the same 12-month period, was tantamount to enabling the taking of multiple 60-day “loans” from one’s IRAs.  Put another way, that person could, in some peoples minds,  be accused of using IRA assets “in his own interest.” 

As much as we like flexibility and freedom when it comes to our own property, we can’t ignore the desirability of accumulating sufficient assets to experience a reasonably comfortable, independent retirement.  We also can’t ignore the fact that we typically receive a tax break as an encouragement for us to save.  Sometimes we rely on our own discipline to resist temptation and make the right choices, and sometimes the Tax Code does it on our behalf.  If it serves the ultimate end of helping us accumulate assets for a secure retirement, maybe the change in the rollover limitation won’t be such a bad thing after all.

IRS Inbound Rollover Guidance May Both Help and Hinder

Retirement plan rollovers are a high priority for the IRS these days.  That is not a criticism, because the portability of retirement savings is essential to workers if they are to have the maximum opportunity to retain IRA and employer plan assets for a financially secure retirement. 

Perhaps the rollover issue getting the most attention has been the IRS’s declaration in Announcement 2014-15 that it will change its stance and limit taxpayers to one IRA rollover per 12 months, regardless of how many IRAs an individual has.  Some have suggested that the agency itself “rolled over” by abandoning a position it held for over 40 years, which had allowed one rollover per IRA per 12 months.   But it is pretty hard for the IRS to ignore a U.S. Tax Court decision (Bobrow v. Commissioner), which prompted the reversal.

More recently, the IRS issued guidance intended to give employers some comfort and certainty when their plans accept employee rollovers from IRAs or other retirement plans.  This guidance, Revenue Ruling 2014-9, provides several practices which, if followed, may serve as evidence that the administrator of the recipient retirement plan took the necessary steps to determine whether assets being received into the plan were eligible for rollover.

Under Treasury Regulations, a plan administrator will jeopardize the qualified status of a plan with respect to  a rollover unless two conditions are met.  The administrator must “reasonably conclude that the rollover contribution is valid,” and if it later proves otherwise, “distribute the ineligible rollover contribution, with earnings, within a reasonable time of discovering the error.”

In the past, some plan administrators felt it necessary to go to such lengths as requiring an employee to produce a determination letter from the prior retirement plan where the pending rollover originated.  In those days, prior to the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), only assets that originated in another qualified retirement plan could be rolled over to a new one.  What’s more, when distributed from such prior plan and not immediately rolled over to a new plan, the assets had to reside for the interim period in what was then known as a “conduit IRA.”  It was a lock-box, or quarantine, you might say.  Commingling such assets with other IRA or employer plan assets disqualified them for rollover to another employer plan.

Motivated by concern over workers dissipating their retirement assets prematurely, Congress, through EGTRRA, liberalized the rollover rules to enhance plan-to-plan portability and hopefully limit such “leakage.”  Thereafter, general portability between plan types, and even rollovers to employer plans of IRA-originating assets, was possible. 

The expectations of employers changed, too.  It may be over-simplifying, but instead of absolute certainty that assets received in a rollover had come from a compliant qualified plan or IRA, employers were required to take steps to be “reasonably certain” that a rollover was valid. Under this standard, employers have had a certain amount of flexibility in making such determinations. 

The IRS has now, in endeavoring to add clarity for employers, provided a list of actions an employer can, or should, take in determining whether a rollover is valid.  Steps described in IRS Revenue Ruling 2014-9 include visiting the Department of Labor’s web site and reviewing a prior employer plan’s Form 5500 filing, to see whether it was “intended to be a qualified plan,” in the IRS’s words.  “Certification” of rollover validity is to be obtained from the employee requesting the rollover, whether it’s from another employer plan, or from an IRA.  Reliance on documentation from a custodian or trustee holding the funds prior to rollover is suggested, with check or wire transfer payment source details given as an example. 

Industry reaction has been mixed.  On the one hand there is appreciation; there is value in details versus generalities.  On the other hand there is some concern and uncertainty over the application of the IRS’s suggested due diligence steps.  In the IRS’s own words the agency states that “These procedures are generally sufficient.”  Are they not always sufficient?  Are they a new minimum standard?  How much latitude and judgment do plan administrators now have in determining rollover eligibility?  The unintended consequence may be more uncertainty, rather than less.   

In the eyes of many, there has not been a significant problem in judging the eligibility of rollovers to employer plans.  What has really been lacking is more aggressive participant education efforts to reinforce the importance of retaining assets for retirement, and the options for doing so.  That, many believe, is where the problems really lie.

Tussey vs ABB Offers Both Clarity and Caution

In March of this year the 8^th U.S. Circuit Court of Appeals in St. Louis handed down rulings in the case known as Tussey vs. ABB.  It was a case closely watched not just for its fiduciary implications for plan sponsors, but also for plan service providers.  In this case the service provider happened to be Fidelity Investments, which served as the investment provider and recordkeeper to the ABB plan.

ABB, Ltd., is a supplier of transmission and distribution equipment for the power industry.  This case centered on 401(k) plan fiduciary responsibility, alleged to have been abused by ABB and Fidelity Investments.  Specific allegations included ABB’s supposed failing to properly monitor recordkeeping fees, and selecting unnecessarily costly share class investments.  Recordkeeper Fidelity was alleged to have improperly retained float income associated with the funds used to purchase securities shares as plan investments.  The law firm representing the plaintiffs, Schlichter, Bogard & Denton, has been at the forefront of litigation against plan sponsors for alleged fiduciary failures. 

In the boxing world this one might be called a split decision.  The appeals court upheld a lower court decision that ABB, Ltd., was guilty of “failing to control recordkeeping costs,” and the court affirmed a $13.4 million award to plan participants.  ABB was judged to have failed in the area of due diligence, specifically by not “comparison shopping” or benchmarking the fees it paid Fidelity for recordkeeping.

The appeals court vacated, or set aside, the lower court’s judgment against ABB for its mapping of an investment option between fund families, and subsequent losses to participants who held that mapped investment.  This one will go back to the lower court for further litigation.

One element of the appeals court’s ruling is of particular interest to many retirement plan service providers.  That was its overturning the district court’s finding that Fidelity had improperly used plan assets by not allocating “float” income among the plan’s participants.  “Float” can be described as a sum used to purchase investment shares, held temporarily – for logistical reasons – until it can be paid to the chosen investment funds to purchase the shares requested.  This timeframe is commonly next-day.    

In a strategy that many would call prudent, Fidelity invested this float in secure investment vehicles that could earn interest during the very brief overnight float period.  Earnings, or “float interest,” was distributed broadly among all shareholders of the selected mutual funds, whether these shareholders were plan participants or simply private investors.  Fidelity did not retain the float interest for itself. 

The plaintiff’s attorney claimed that this float interest belonged to the plan, not broadly to all investors in these mutual funds.  The float interest was, plaintiff’s counsel claimed, a plan asset that Fidelity improperly distributed to investors other than plan participants.  Fidelity countered that the participants had been immediately credited with the shares they directed to be purchased, and were entitled to – and paid – any dividends or other gains associated with the shares purchased for them.  The “cash” used to purchase the shares, however, was no longer the property of the plan once the share purchase transaction was executed, Fidelity asserted.  The appeals court found that the plaintiffs were unsuccessful in rebutting Fidelity’s position on entitlement to float interest, and reversed the district court’s $1.7 million judgment against the firm. 

There may be multiple morals to this story, for plan sponsors, administrators and service providers alike.  Especially worth emphasizing is the importance of transparency and due diligence.  Knowing what is being paid for and what is being received, and knowing that amounts paid are “in the ballpark,” is crucial.  We get a sense from this and similar ERISA litigation that “reasonable” is a relatively flexible term in the eyes of the courts, as long as the terms of service and compensation are disclosed.    

EBSA’s New Disclosure Guidance: Questions as Much as Answers

On March 12th, the Department of Labor’s Employee Benefits Security Administration (EBSA) proposed new guidance intended to make it easier for retirement plan fiduciaries to understand information about the services provided to their plans, and the fees paid for them.  Whether or not EBSA’s proposal will become a mandate remains to be seen.  But what IS clear is that the retirement plan community is sitting up and taking notice, and beginning to assess just how challenging it might be to comply if this proposal becomes a requirement.

This latest proposed guidance would amend the previously issued EBSA final fee disclosure regulations, the purpose of which is to assist fiduciaries in prudently selecting and monitoring service providers to their ERISA-governed plans, and to ensure that service arrangements are reasonable.  To accomplish this, detailed information on services and accompanying costs must be disclosed by a covered service provider, or CSP.  A CSP is any entity that expects to receive at least $1,000 in direct or indirect compensation for services – such as advisory, fiduciary, recordkeeping, etc. – to a plan.

The final regulations permit service providers to use multiple documents, such as a collection of contracts, client agreements, memoranda, etc., to disclose services and fees.  The final regulations did not define how such documents were to be organized, or specify that there must be a table of contents, or other guide, to help fiduciaries find the service and fee information.  There was, however, a “sample” guide that service providers could elect to use to help fiduciaries find the required information.  Perhaps that should have been our clue.

Now enter EBSA’s new proposed amendment to these final regulations.  If a single, relatively simple document provides all of the needed service and fee information, all would be well, and no additional documentation would be needed.  But, if a CSP provided service and expense information in a lengthy document, or in multiple documents, this new EBSA amendment would require furnishing a separate guide to help the fiduciary find the required information.

When would this separate guide be needed, and how detailed must it be? It is on these questions that the difficulty of complying will turn.  If multiple documents are used to satisfy the CSP’s fee disclosures, the guide proposed in this amendment would require identifying each document, and within it, each required item of information.  Section or page numbers would be required to narrow down the location of disclosure information within the document or documents. 

As one might imagine, this prescription has generated questions.  Such as, what is “quick?”  What is “easy?”  What is “lengthy?”  And a big one: “who will decide?”  There is legitimate concern that if a guide must have specificity down to the page number, or to the paragraph, it could be extremely costly for a CSP to create custom guides for the many plans it may serve.

Part of our due diligence is to objectively assess the impacts this guidance could have; not just on our compliance practices, our service agreements, or our own bottom line, but also on the costs that will have to be – and many would say should legitimately be – passed on to plans and their participants. 

It must be remembered that this guidance is a proposed amendment, but at the same time it does reflect EBSA thinking.  It is likely to be modified, or reasonably implemented, only if our legitimate objections – should we have them – are vigorously presented and argued.

Will EBSA’s desired ends justify the means?  How simple must we make it for fiduciaries to assess their service provider relationships?  As we judge the pluses and minuses of this proposed amendment, what is the proper balance between perfection and its price tag?  Good questions; so far without answers. 

Get the Facts Straight Before Dissing the Current Retirement System

We hear a lot these days about the supposed inadequacy of 401(k)s and other defined contribution plans for providing income for American workers in retirement.  Those who are most critical sometimes reveal a soft spot for the defined benefit (DB) pension plan, the “no worries” retirement plan designed to provide long-tenured workers with a guaranteed income after leaving the workforce.  Many overlook the fact that, even in the DB heyday, workforce mobility resulted in many, many workers never qualifying for that “large” pension check.   

The truth is, neither the 401(k) nor the DB plan was created to be only leg upon which a retiree would stand during retirement.  The classic model as many are aware is actually a “three-legged stool.”  In addition to an employer-sponsored retirement plan, the other two legs of this stool – by tradition – are Social Security, and additional personal savings and assets of the worker.  Together this three-legged stool would support a reasonably secure retirement. 

As much as we may be frustrated by some academics, think-tank specialists and lawmakers who feel we need a paternalistic, mandated government-run program that guarantees benefits to retirees, we don’t doubt they are sincere in their goal of helping people achieve a secure retirement.   But with the budget woes in which our country is mired, and the extremely divided political climate, a European-style universal defined benefit pension system is not realistic.  Even if that would be desirable.

But before wringing our hands and running for cover, accompanied by shouts of “the sky is falling,” let’s consider some data that suggests that things may not be as bleak as some profess.  The data is presented in an article recently appearing in the Wall Street Journal.  It was jointly written by Sylvester Scheiber, a former Chairman of the Social Security Advisory Board and now an independent pension consultant, and Andrew Biggs, former Deputy Commissioner of the Social Security Administration and currently Resident Scholar at the American Enterprise Institute. 

Scheiber and Biggs point out that the data most often cited to measure the magnitude of qualified plan and IRA payments to U.S. retirees is greatly understated.  How so?  Proposals to revamp the retirement saving system that originate in Congress, or in the halls of academia, routinely cite retirement income figures from the U.S. Census Bureau’s Current Population Survey, or CPS.  But Scheiber and Biggs note that CPS data counts only Social Security benefits and scheduled periodic payouts from retirement accounts – typically annuitized balances in IRAs and defined contribution plans – and DB plan payouts. 

The” as-needed” or irregular withdrawals are not counted, say Scheiber and Biggs, and are huge.  They should know, because they compared CPS retirement payment figures to Internal Revenue Service data on IRA and employer plan distributions, which are required to be reported annually – on pain of penalty – on IRS Form 1099-R, Distributions from Pensions, Annuities, Retirement or Profit Sharing Plans, IRAs, Insurance Contracts, etc.   

Examples of their findings include the following.  CPS data for 2008 reported $222 billion in “pension or annuity income.”  IRS retirement plan and IRA reporting forms showed $457 billion.  Given the fact that most large balances in employer-sponsored plans are destined to eventually be rolled over to IRAs, where they will probably not be annuitized, accurate IRA estimates are extremely important.  But CPS data is even more suspect here.  In 2008 the CPS reported $5.6 billion in IRA-derived income.  But, according to Scheiber and Biggs, retirees themselves reported $111 billion in IRA distribution income on their tax returns. 

The two former Social Security officials contend that the CPS not only misses at least 60 percent of the IRA and employer plan income being delivered to retirees, but greatly underestimates the share of the U.S. workforce that has an opportunity to participate in an employer plan.  CPS reports that roughly one-half of all U.S. workers have this opportunity, yet Scheiber and Biggs note that the Social security Administration’s analysis of Form W-2 data places the figure at over 70 percent.

Can the U.S. retirement system be made better?  Certainly.  We can retain and enhance incentives for employers to establish plans and encourage early participation, embrace automatic employee enrollment and automatic escalation of employee contributions.  Perhaps create an automatic IRA program for employers not yet ready for the deep end of the pool.  These are things that can make a good system even better.  Let’s consider these, while at the same time recognizing the true magnitude of benefits being delivered now, before we throw the baby out with the bath water. 

Some Good, Much Questionable in Camp’s Tax Reform Proposal

Much of the country may be oblivious to the tax reform proposal that House Ways and Means Committee Chairman David Camp released on February 27^th.  But for some in the financial, tax and retirement sectors, reading this legislative draft was like making contact with a cattle prod.  Despite advance warning of what Camp’s tax reform might look like, it was still a jolt to actually see in print the proposed dismantling of key elements of the retirement saving infrastructure as we know it.

Disappointing, too, that while billed as pursuing the noble aim of putting the nation’s budget house in order, at the same time making taxation simpler for us all, this tax reform proposal takes advantage of a too frequent congressional practice that offers “solutions” that look good in the short term but often come at the expense of budgetary solvency in the long run.

First, I might point out that the tax reform proposal offers a few positive things.  The SIMPLE 401(k) plan, which the tax reform proposes ending, has seen very little adoption from its beginning in 1997, offering greater complexity and less generous benefits than the  more popular SIMPLE  IRA plan.  Medical Savings Accounts, or MSAs, really serve no purpose now that we have Health Savings Accounts, and most would not mourn their disappearance, either.   Some simplification of options is a good thing.

Allowing an extended time period to roll over an outstanding plan loan that is offset when a participant retires would help preserve retirement assets; a win-win, from my perspective.  Permitting a plan participant to continue making elective deferrals after they have taken a hardship distribution is another positive.  The current law’s requirement to suspend deferrals for six months penalizes the participant who wants to save and eliminating this requirement is a step in the right direction. 

There are some reasonable arguments, pro and con, about limiting the length of retirement plan and IRA payouts to nonspouse beneficiaries, or whether to retain the early distribution penalty exceptions for first-time home buyers and for higher education expenses.  Retirement assets are, after all, for retirement, some might say, while others would say that the ability to access funds for these purposes encourages savings and that providing beneficiaries with extended payout options is a useful planning tool.  Reasonable minds may differ.

Other elements of Rep. Camp’s proposal are, I believe, neither positive  nor open to conjecture.  Eliminating Traditional IRA contributions, and forcing IRA, 401(k), 403(b) and 457(b) savers to make more Roth contributions, is a gimmick intended to capture more tax revenue in the short term, in order to pay for Rep. Camp’s other reforms within the 10-year period in which this proposal will be measured.  I’m not saying that Roth contributions are not a good thing, as they clearly are in the right circumstances.  Rather, I contend that eliminating tax deferrals and Traditional IRA contributions is not. 

Understandably omitted from this committee’s summary is the fact that guiding so many contributions into Roth IRAs and Roth accounts in employer plans will result in less tax revenue in the future.  For when these accounts later disgorge qualified distributions, all earnings will be tax-free.  The Roth features in IRAs and employer plans are valuable, but I doubt that the previous Congresses that created them contemplated that tax-free earnings would ever become the rule rather than the exception.  Pre-tax contributions do not result in lost revenue, but simply federal tax revenue collected at a later time, something that too many congressmen and senators either do not understand, or refuse to admit.  Chairman Camp’s tax reform proposal is leading us toward the possibility of revenue shortfalls in the future, leaving it to a later Congress to raise taxes, or cut other expenditures, to correct such shortfalls.

Apart from this Roth-centric proposal’s negative effects on future federal tax revenues, eliminating pre-tax IRA contributions and restricting employer plan pre-tax saving would be detrimental to many taxpayers, who would no longer be able to make reasonable tax planning decisions with the options available to them today.  Contrary to what Rep. Camp may believe, many people would save less, if at all, if they did not receive a current-year tax deduction or exclusion for those savings. 

Though there are numerous other questionable provisions I might cite, I will limit myself to one more.  Perhaps the most indefensible of Rep. Camp’s tax reform elements would lock down IRA and employer plan contribution and testing limits, without cost-of-living adjustments, for a full decade.  How, at a time when Americans are being told they are not saving enough for retirement, when we are seeing presidential orders issued to broaden retirement saving options even further, can we propose to hold contribution limits to present levels for 10 years?  How many workers would be willing to agree to no wage or salary increases for 10 years?  How many senators and congressmen?  Can we count on a 10-year period with no inflation?  It is another example of sleight-of-hand to make the federal budget appear balanced for that period of time.

I admire Rep. Camp for taking on the daunting task of tax reform and balancing the federal budget.  I also know that many Americans will have to make some sacrifices toward that end.  But I’m confident that there are special interests and more dubious tax expenditures – actual tax expenditures – that are more worthy of targeting than American workers trying to accumulate a nest egg for a reasonably secure retirement.