Exploring the Issues of Phased Retirement Programs

1. Phased Retirement Programs: Exploring the Issues Diane Goulder Cohen, Esq.

2. BACKGROUND

3. What is “Phased Retirement?” • There is no statutory or agreed upon legal definition of “Phased Retirement.” • Generally, Phased Retirement is a program that enables an employee at or near retirement to gradually work less than full-time. • The issues involved in Phased Retirement cross various areas of regulation and concern for employers: benefits, employment law, age discrimination, employer/employee needs. • Typically, an older employee may want to work less but cannot afford to lose his or her salary. Thus, creative ways to keep an older employee on salary while able to receive pension benefits is a goal.

4. What is “Phased Retirement?” • The issue affects employees who are not yet eligible for full retirement and may want to work part-time, as well as employees who have reached retirement age but would like to continue working, just not full-time. • Phased Retirement also includes rehiring retired employees. • Different issues apply to each of the categories described above from both employer and employee perspectives as well as from a regulatory viewpoint. • Let’s unpack the term and discuss different workplace options for each of these groups. But first…

5. Per a 2014 survey by the Transamerica Center for Retirement Study almost two-thirds of those surveyed would like a Phased Retirement work environment – less hours, less stress, and a different position of responsibility. • The same survey noted only 21% of employees worked for companies that allowed flexible hours generally.

6. June 29, 2012 – Congress passed legislation allowing Federal government employees to have Phased Retirement Programs. • Office of Personnel management (“OPM”) finalized rule on August 7, 2014. • OPM authorized eligible employees to apply starting November 6, 2014. • To date, agencies have not implemented due to vagueness in the OPM guidance and hesitancy by the agencies, despite the recognized need by federal agencies and their older employees.

7. Why Would an Employee Want Phased Retirement? • Per a recent AARP survey: • Health benefits • Income • To stay mentally active

8. Why Would an Employer Want Phased Retirement? • Significant population of Baby Boomers in the workplace – continuity • Cost Savings re: retention and training

9. What Laws Apply and Which Regulatory Agencies Have Overview? Internal Revenue Service (“IRS”) ERISA and the Code The Employee Retirement Income Security Act of 1974, as amended, (“ERISA”) and the Internal Revenue Code of 1986, as amended, (the “Code”) are applicable. Certain provisions, specifically regarding benefits, are in both ERISA and the Code. Thus, violations can be duly regulated by both the IRS and the DOL.

10. .What Laws Apply and Which Regulatory Agencies Have Overview? Pension Protection Act (“PPA”) • Prior to PPA, a defined benefit pension plan could not distribute pension benefits prior to the participant’s normal retirement age (“NRA”) or other termination of employment. Under PPA, distributions from these plans can be made when a participant reaches age 62 even if he or she has not yet terminated employment. • Defined contribution plans such as profit sharing and 401(k) plans are unaffected by this provision of PPA. Typically, profit sharing plans provide for in-service distributions and 401(k) plans allow for in-service distributions at age 59½.

11. What Laws Apply and Which Regulatory Agencies Have Overview? Nondiscrimination • Qualified plans such as pension, profit sharing, and 401(k) plans cannot provide benefits which disproportionately favor the highly compensated employees. • Running afoul of these rules can disqualify the plans and create adverse tax consequences.

12. What are the ramifications of a wrongful in-service distribution to a qualified plan? • Loss of tax deduction to the employer of contributions to the plan. • Earnings of the plan’s investments become taxable. • Potential tax on the individuals’ vested benefits - income and/or excise taxes.

13. What Laws Apply and Which Regulatory Agencies Have Overview? • The type of retirement plan matters vis-à-vis Phased Retirement issues. • Profit sharing • 401(k) • Defined benefit pension

14. What Laws Apply and Which Regulatory Agencies Have Overview? Employee vs. Independent Contractor • Misclassifying a worker as an independent contractor when he or she is an employee can have serious tax and benefits ramifications. • Unfortunately there are not clear guidelines concerning how much time constitutes a bona fide separation of service. • What functions will a “rehired” retiree perform? Different than pre-retirement? Different than another employee?

15. What Laws Apply and Which Regulatory Agencies Have Overview? Equal Employment Opportunity Commission (“EEOC”) • Is a “rehired” worker an employee? Department of Labor (“DOL”) • The DOL has overview of employment issues and is looked to for guidance in this area. The Age Discrimination in Employment Act (“ADEA”) is applicable.

16. What Laws Apply and Which Regulatory Agencies Have Overview? Social Security Administration (“SSA”) • Working past NRA can impact a retiree’s Social Security benefits. • If a retiree’s “provisional income” is more than $25,000 for a single or $32,000 joint, Social Security benefits (“SS”) become taxable. Provisional Income is adjusted income (wages, self-employment income, interest, dividends, and other taxable income excluding Social Security income) plus 50% of these benefits, and also includes tax-free municipal bond income. If Provisional Income exceeds certain limits, 50% - 85% of the Social Security benefits are taxable.

17. What Laws Apply and Which Regulatory Agencies Have Overview? (continued) • A Phased Retiree may earn a small enough income so not to become subject to certain SS limits. Employees who begin to receive Social Security benefits before their Social Security retirement age (65, 66, or 67) can earn up to ($15,720) per year without penalty. For every $1.00 in excess of $15,720 the SSA withholds $.50 in SS benefits which amounts are repaid monthly after actual retirement. Phased Retirees have a greater likelihood of earning less than $15,720 when planning their retirement income options, and thus, not running afoul of this SS limit. • State taxes may also apply.

18. Where Do We Stand Today And What Can We Expect? • Many if not most companies have informal programs but formal Phased Retirement Programs are just developing. • Various advisory committees and lobbying groups have been working to provide input to the DOL and other regulatory agencies concerning recommendations for guidance on the many outstanding Phased Retirement issues. The ERISA Advisory Council has been working with the DOL concerning many of the issues raised in this presentation.

19. Where Do We Stand Today And What Can We Expect? • Joint action by the DOL and IRS is necessary to provide agreed upon guidance to employers and employees regarding retirement and health and welfare plan benefits. • To remove impediments to Phased Retirement as a clear option, Congress would need to enact legislation allowing defined benefit pension plans to make in-service distributions at early retirement age as well as allowing profit sharing/401(k) plans to make in-service distributions beginning at early retirement age or age 55. • Clarity via legislation is needed to define a bona fide separation of service vis-à-vis these issues.

20. Ambiguities in Phased Retirement • Is the returning employee, or reduced hour employee, an employee or an independent contractor? • Complexities if in a defined benefit pension plan: • Computation of final benefit could be affected • Depending on his or her age, are in-service distributions allowed? • Is the benefit recalculated based on this service? • Will the returning employee be eligible for other qualified plans and fringe benefits?

21. Ambiguities in Phased Retirement Health care issues • If the returning employee is eligible for the employer’s health care plan, and also eligible for Medicare, the employee’s plan will be primary, Medicare secondary. • Will COBRA bridge any gap in coverage? • Will the returning employee work enough hours to be eligible for the employer’s health care plan?

22. PHASED RETIREMENT OPTIONS

23. What are Employer Choices for Creative Phased Retirement? • Special Projects • Short Term Assignments • Floaters • Consultant • On call/Part-time • Retirement pool

24. Special Projects • Client requested or employer initiated projects with specific goals and/or defined beginning and end dates. • Especially beneficial to employer who may not otherwise have Special Project staffing. • Need-based situations. • Health care workers during medical emergencies. • Long-term electrical workers during power outages or construction projects

25. Special Projects • Long-term or specific programs. • Research • Design

26. Short-Term Assignments • Flexibility • Often need-based • Training and seminars • Coverage for times of more work • Seasonal • Coverage during leaves

27. Floaters • Maximum flexibility • Typically less highly skilled • Coverage during leaves

28. Consultant • Typically not an employee • Sometimes provided through third parties

29. On call/Part-time • As needed • Other than in certain industries, typically less highly skilled • Similar to casual employees • Requires either a large pool or retired employees who have flexibility • Beneficial to employer to pay for employees only when needed based on work flow • Coverage during leaves

30. Retirement Pool • Flexibility • Company culture • Skill levels

31. What are Employee Choices? • Reduced work schedules • Job sharing • Work for the same employer • Work for a different employer

32. Reduced Work Schedules • Part-time • Phased • Company culture • Flexibility

33. Job Sharing • Economic savings • Challenges • Work product • Personal interactions • Company culture

34. Work for the Same Employer • Ambiguity in current guidance • Better transition for current employer • Model may include reemployment directly, through a leasing organization, or independent contractor

35. Work for a Different Employer • Removes ambiguity in current guidance • Less desirable to current employer/competition

36. Advantages to the Employer • Retention of skilled and experienced workers • Leadership development and mentoring • Training of newer and younger workers saving costs to the employer • Retention and continuation of corporate wisdom and culture • Smooth transition of Baby Boomer retirements, i.e. large outflow from workplace

37. Disadvantages to the Employer • Lack of clear guidance • Company culture • Perception of favoritism/morale

38. Advantages to the Employee • Smooths transition to retirement. • Can be tailored to the employee’s situation to some extent. • Social Security considerations.

39. Disadvantages to the Employee • May become ineligible for profit sharing plan contributions which often require 1,000 hours of service in a year. • Lower compensation since part-time means lower qualified plan contributions. • May be ineligible for extra plans like incentive pay programs. • Social Security benefits are based on an employee’s 35 highest income years. • Phased Retirement over several years could lower an employee’s 35 year average.

40. Disadvantages to the Employee • Pension plan formula may base retirement benefit on compensation and years of service with a higher weighting on final average pay, especially a consideration in governmental and many union plans. • May be better to terminate employment completely and return as a part-time employee. • May be better to terminate employment and work part-time for another employer.

41. Disadvantages to the Employee • May become ineligible for employer’s health care plan. • May not be a problem if Medicare eligible. • If eligible for employer provided health insurance and Medicare, coordination can be tricky.

42. Disadvantages to the Employee • Phased Retirement may affect the employee’s life insurance benefits. • Often the amount of death benefit is linked to current compensation which in Phased Retirement has decreased.

43. Type of Phased Retiree Matters • Some of the above issues change when comparing a Phased Retiree who terminates and is rehired when compared to a Phased Retiree who stays employed but works less hours, especially if the latter accesses qualified plan benefit payments while still employed. • Qualified Plan and other benefits eligibility issues. • Qualified Plan in-service distribution differences.

44. What Options Maximize Both Employer and Employee Benefits? • It depends on the Company culture. • The demographics of the Company will play a critical role in determining the best option. • The Company’s needs will drive the best solution. • The availability of the Phased Retirees and their number will impact the best choice.

45. RECOMMENDATIONS

46. Education – When to Start and What to Provide • Employers, especially Human Resource personnel, need training to understand the benefits of flexible work schedules before considering a Phased Retirement program – work on the company culture. • Employers should design Phased Retirement programs that maximize an employee’s Social Security benefits.

47. Education – When to Start and What to Provide • Human Resource personnel should familiarize themselves with the interplay of Phased Retirement with Social Security to make sure the employee understands the ramifications of working less than full-time for the employer. • Employers and Human Resource personnel need to understand eligibility requirements for employer provided retirement and health care plans, including death benefits, to carefully design Phased Retirement Programs and counsel potential Phased Retirees.

48. Demographics • Is the employer “top heavy” with older employees? • What costs of training are saved by having a Phased Retirement program? • What options make the most sense for the employer’s demographics – how to evaluate?

49. Getting Started – How to Implement • Educate management regarding the various options. • Analyze the Employer’s demographics. • What percentage of near retirees constitutes the workforce? • What are the needs of the Company in the areas currently handled by near or potential retirees? • Assess the Company’s current policies and procedures regarding flexible schedules.

50. Getting Started – How to Implement • Review resources available for companies like yours, both by industry type and geographically. • Network to stay current with developments in this changing landscape. • Obtain employee feedback. • Assess talent management needs.