403(b), 457 Compliance Made Simple

403(b), 457 Compliance Made Simple Presented by Kent Schutte, CFP, CLU, ChFC, LUTCF, CRS President, Educators Financial Services, Inc. (763) 689-9023 / (877) 403-2374 2007

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc Final 403(b) Regulations • What you need to do now… • Determine vendor list • Review Information Sharing Agreements (ISA) • Have Written Plan Document completed by January 1, 2009

School Districts Fiduciary Responsibility • ERISA Plans require plan sponsors have certain fiduciary duties • Governmental Plans are exempt from ERISA • Public Schools are exempt from ERISA • The IRS has no authority to create fiduciary responsibility • School Districts do not have fiduciary duties toward 403(b) Programs • Regs do not require employers track performance of investments *see “Law Offices of M. Kristi Cook” attachment

What Do the Final 403(b) Regulations Include? • Written Plan Document • Must maintain written plan documentation • IRS will publish a sample • New restrictions on tax-free transfers • Repeal of 90-24 transfers • Now called “exchanges” may move to other 403(b) plans within the employers vendor list • New requirements on the timing of remitting salary reduction contributions • Must be submitted by the 15th day of the month following deduction • Universal availability requiring annual notification For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc

Employer Written Plan design could create restrictions on: • Loans • Hardships • Transferability • Investment Options • Single vendor or limited vendor system For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Use of IRS Model Language • Expectation is that it will satisfy requirements for elective deferral plans only • If making employer contributions, would need to amend • Eventually, we expect to have a determination approval process for 403(b) plan documents

Transfer Account Restrictions • Exchanges to products within the employer’s written plan only • Information Sharing Agreement (ISA) between vendor and employer or employer designee (i.e. TPA) • Plan to plan transfers if participant changes 403(b) eligible employers • Accumulated benefit immediately after exchange must equal accumulated benefit prior to exchange • Distribution restrictions are not less stringent than those being exchanged For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Why Participants May Want to Move Money • Diversification of Investment Options • Everything is in a fixed vs. equity • New generation products • Service • Consolidation • Desire for a Better Return For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Limited Choices • Investment companies could promote single vendor benefits. • May reduce investment opportunities for members/employees • May also reduce personal service and professional investment advice • TPA may become popular For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Universal Eligibility Changes • Clarifies that meaningful notice of right to participate must be given • Written notice of rights to participate at least once per year • Enrollment must be provided no less than annually, and • The Written Plan must permit contributions of up to the maximum limit For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Employees Must be Eligible to Participate in the 403(b) Plan Unless… • They are eligible to participate in another plan • Are unwilling to contribute $200 per year • Work fewer than 20 hours per week for the employer • Employers may use 1000 hour per work year standard, however, once completed, Must be eligible For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc 403(b) & 457 Compliance Provider Options for Employers • Do it Yourself • TPA’s (Third Party Administrator) • Benefit Consultants • Legal Counsel • Other service providers

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc 5 Questions to Ask Compliance Providers of 403(b) & 457 Plans • Are there strings attached? • What is their reputation? • Do they know our business? • Is there a cultural fit? • Do they have sufficient resources to support our needs?

Simple Implementation Process • EFS/EBC will assist with plan • implementation as well as education and • enrollment. • EFS/EBC will provide compliance • guidelines for (bargaining units and school districts). • written plan and retirement incentive • EFS will accommodate a single-check remittance. For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc Public School IRS Audits IRS “Testing” the Compliance Waters • Public school districts in WA, MO and NJ are receiving letters & questionnaires • Expanding to all states under the auspices of the 403(b) Universal Availability Project* • This test focuses exclusively on universal availability • Even where permitted under statute *IR-2007-123 June 21, 2007 (see attached)

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc New Issues Under Audit • Constructive Receipt Problems • Especially with 5 year post employment contributions • Severance Benefits • ERI’s • Inadvertent Cafeteria Plans • Choice between benefits • Healthcare opt outs

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc Areas of Concern for 403(b) & 457(b) Compliance • 403(b) Loans • Annual maximums per employee with each employer • Hardship Withdrawals • If taking, must stop contributions for 6 consecutive months

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc Employers Should… • Look at existing employment contracts for potential constructive receipt problems • No choice or taxable options unless included in income • Make sure 5 year post employment contributions are treated as non-elective employer contributions • Do not process through payroll system • Treated like elective deferral

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc Hold Harmless Agreement(SPA & ISA) • Protects Employer from: • Multiple loans in excess of annual limitation • When informed of hardship withdrawal, employer can stop 403(b) deductions & remitting for the 6 month requirement

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc What Steps to Take Now? • New Hold Harmless Agreements (SPA & ISA) require vendors to consider all loans in all plans of the employer to avoid “over the limit loans” • Including 457(b) and (f) Plans • New Hold Harmless Agreements require that vendors notify employers of hardship withdrawals for “safe harbor” suspension of all deferrals for 6 months • Require that vendors agree to these terms

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc Features of 2006 Pension Protection Act (PPA) for Public Employees The following items were expected to sunset (revert back to 2001 rules effective 1-1-2011), PPA removed sunset date to Make the following rules permanent: • Higher Contribution Limits (see Contribution Limit Chart) • Roth 403(b) & 401(k)* • 403(b)(3), 5 year Post-Employment Contributions* • Separate limits for 403(b) & 457(b)* (see Contribution Limit Chart) • Low Income Savers Credit will not expire 12-31-2006 • Tax-free distributions from 529 Plans *These changes may help remove any hesitancy from employers to adopt these plans.

Traditional 403(b) vs.Roth 403(b) Traditional 403(b) Roth 403(b) Contribution Limits $15,500 with additional $5,000 for participants 50 and over, in 2007.1 Limits apply to all employee contributions combined, whether traditional, Roth or both. 25% Tax Bracket Equivalent $20,500 $27,333 Employer matching contributions Treated as traditional contributions. Employee contributions Before-tax dollars After-tax dollars Distributions Taxable ² Tax-free3 Required minimum distributions (RMD’s) RMD’s must begin at age 70 ½ or at retirement, whichever is later. Same as traditional. However, Roth accounts can be rolled into Roth 403(b) IRA’s, which are not subject to RMD’s. IRA rollover options Can be rolled into Traditional IRA’s. Can be rolled into Roth IRA’s. 1Employees of certain organizations that have 15 or more years of service may also be eligible to make additional contributions of up to $3,000 per year. ² Withdrawals made before age 59½ may be subject to a 10% early withdrawal penalty. 3Withdrawals from Roth accounts are tax-free if account owners are at least age 59 ½, or have died or are disabled; additionally, the Roth account must have been established at least five years prior. The portion of non qualified withdrawals attributable to earning are subject to income taxes and may be subject to a 10% early withdrawal penalty tax.

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc Roth Decision Factors • If current tax brackets are the same as retirement tax brackets, no difference • If current tax brackets are lower than retirement tax brackets, Roth is better • If current tax brackets are higher than retirement tax brackets, Traditional is better Always consult with a professional tax advisor to determine your potential tax consequences.

Options for Severance • Paid in Cash minus FICA, State and Federal • Income Taxes • Post-Employment 403(b) Contribution • Post-Employment Health Reimbursement Arrangement (HRA), (VEBA) • Implement 403(b) Match, phasing out severance over time For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Why Implement a Severance Post-Employment 403(b)(3) • Increase employee benefit by 7.65% (FICA savings) • Law allows for immediate access to money if over age 55 and separated • from service • *Note: Investment products may have restrictions! • Ability to shelter severance/early retirement for up to 5 years after • retirement • Employee controls the deferral of State and Federal income taxes • Virtually unlimited investment choice • District saves 7.65% (FICA savings) • *Clarify with Investment Advisor. (ESI Financial Services has investment options available • that are free of surrender charges.) For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

HRA Summary • Flexible Plan Design • Funds have to be used for eligible expenses • No cash payouts • Claims have to be adjudicated by TPA • No voluntary employee contributions • Funds are excluded from taxes • Funds can be rolled over from year to year • No use it or lose it feature For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Net Effect Of Tax-Deferred Account Jane/John Teacher $36,000 Annual Salary Age 36 - Married Monthly Net Effect _________ With TDA Without TDA Gross Income 3,000 3,000 TDA -300 -0 Taxable Income 2,700 3,000 Social Security 229 229 TRA 150 150 Federal Tax 311 359 State Tax 143 _ 160 Net Take Home Pay 1,867 2,102 Net Difference $235.00/Month A $235.00/Month Cost Produces A $300.00/Month Investment For Informational Purposes Only/Not for Distribution 2006 ©Educators Financial Services, Inc.

Sample Severance Severance Qualifications: 20 years of service to the School District and at least 55 years of age. Benefit: Accumulated sick days not to exceed 100 Total Benefit: 100 days Example 2006-2007 Salary Schedule Years of ServiceMA+30 20+ $50,000 Severance: $50,000/185 days = $270.27 $270.27 X 100 = $27,027 Severance = $27,027 For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Severance Cash Option Benefit Cost to District $27,027 $29,095 (includes FICA) Severance Benefit $27,027.00 FICA - $ 2,067.50 Federal Tax (based on 25%) - $ 6,756.75 State Tax (may vary by State) - $ 1,905.40 After tax benefit to employee $ 16,297.35 $16,297.35 Employee Net Benefit For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Severance Options • Cash Option $16,297.35 • 403(b)(3) Post-Employment moving to a federal 15% tax bracket $27,027.00 - 4,054.00 = $22,976.00* • HRA $27,027.00 • Qualifying medical expenses only • Un-assignable to non-dependants • 403(b) Match : $1,000/year for 27 years (in service funding) • at 7% $77,369.00 • at 10% $127,864.00 You may want to consider a combination of these options * Does not include State Income Tax These examples are hypothetical and are not indicative of the performance of any specific investment. Investments are subject to market loss and potential loss of principal and yields are not guaranteed. For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc Low-Income Saver’s Credit • Permits low-income employees to receive tax credit for up to $2,000 in contributions to 401(k), 403(b), 457(b), IRA, Roth IRA • Excellent idea to use Roth IRA or Roth 403(b)/401(k) program

New Incentive for Lower Income Savers continued…Adjusted Gross Income For Informational Purposes Only/Not for Distribution ©Educators Financial Services, Inc.

Thank You For information contact Educators Financial Services (763) 689-9023 or (877) 403-2374 Securities offered through Advanced Advisor Group, LLC. Member NASD & SIPC 440 Emerson St. N. Ste 4, Cambridge, MN 55008. 763-689-9023. AAG and ESI are not affiliated. * You should consider investment objectives, risks, and charges and expenses of investment options carefully before investing. You may obtain a prospectus that contains this and other information about investment options by calling our Service Center at 763.689.9023/877.403.2374. You should read the prospectus carefully before investing. Investing involves risk and there is no guarantee of investment results. Diversification does not assure against market loss. The information contained herein is not intended to be personalized investment advise. The information contained herein is based upon hypothetical investor’s time horizon for reaching a retirement goal and risk tolerance and assumes retirement at age 65. It does not take into account income level, account balance, or other financial resources. You should consider your other assets, income and investments in addition to your plan account. Please contact a professional financial advisor prior to adopting any investment plans. ©Educators Financial Services, Inc.

IRS Expands Project to Ensure Eligible Public School Employees Are Allowed to Participate in Retirement AnnuitiesIR-2007-123, June 21, 2007 WASHINGTON — The Internal Revenue Service is expanding an outreach effort to ensure that public schools throughout the United States are complying with the universal availability requirement for retirement annuities they may offer. Some schools and school districts may be overlooking offering employees the opportunity to participate in these retirement plans.To assess the level of compliance, the IRS’s Employee Plans Compliance Unit (EPCU), has started sending questionnaires to public school districts in all 50 states under the auspices of the 403(b) Universal Availability project.This expansion builds upon a pilot project that began in June 2006 with questionnaires that were sent to public schools and districts in New Jersey, Missouri and Washington. In the initial phase of the expansion, the IRS has begun contacting school districts in Alaska, Florida, Hawaii, Illinois, Nevada, Pennsylvania, Tennessee and Virginia. School districts in the remaining states will be contacted as part of the project through 2008. “Our pilot project in three states showed fairly widespread noncompliance by schools with the universal availability requirement for 403(b) plans,” said Joseph Grant, Director of the IRS Employee Plans division. “But we believe most of it was due to a lack of understanding about what the law requires, not a deliberate failure to comply.”Typical noncompliance involves excluding participation by certain classes of employees, such as substitute teachers, janitors, cafeteria workers and nurses. The law requires that all public school employees normally expected to work 20 hours per week must be offered the opportunity to participate in a 403(b) plan if the school or district sponsors one.Schools that receive the questionnaire should answer it completely and accurately. If a potential problem is identified, the IRS will correspond with the school or district to help it analyze its 403(b) plan to determine whether it is in noncompliance. If school officials find a problem, they should use one of the correction methods outlined in the IRS’s follow-up letter. If a school makes the necessary corrections timely, the IRS will not impose a sanction.“We know from our pilot project and from talking to representatives from schools and districts across the country that most of the problems stem from either misunderstanding the law or from confusion because of differing rules in various states,” said Grant. “The project will give schools the chance to identify problems with their plans and to correct them on their own.”A 403(b) plan is a retirement plan for certain employees of public schools, employees of certain tax-exempt organizations, and certain ministers.For more information on this and other EPCU projects, visit the EPCU Web page at www.irs.gov/ep.

403(b), 457 Compliance Made Simple