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Pensions

Pensions. By: Richard Hurst. Questions. What is a pension? What is the history of pensions? What options are available? How has the current economic crisis affected pensions? How much is needed for retirement?. Pensions.

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Pensions

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  1. Pensions By: Richard Hurst

  2. Questions • What is a pension? • What is the history of pensions? • What options are available? • How has the current economic crisis affected pensions? • How much is needed for retirement?

  3. Pensions • Pension: an arrangement to provide a person with an income when he/she is no longer earning a regular income through employment • Annuity: an investment on which one receives fixed payments for a lifetime or for a specific number of years

  4. History of Pensions • 1789: Federal government offered the first pensions to disabled veterans after the Revolutionary War • 1857: First municipal pension was established in New York City for police officers • 1875: First corporate pension offered by American Express • 1896: First statewide legislation for pensions established in New Jersey for teachers

  5. History of Pensions (cont’d) • 1963: Studebaker terminated its underfunded defined benefit pension, leaving roughly 11,000 employees without anything • 1974: In response to Studebaker fraud and default, Congress passed the Employee Retirement Income Security Act (ERISA)

  6. History of Pensions (cont’d) • Employee Retirement Income Security Act • Enacted to protect the interests of employee benefit plan participants • Regulates the operation of a pension plan once it has been established • Provides fiduciary responsibilities for those who manage and control plan assets • Established the Pension Benefit Guaranty Corporation to ensure benefits in terminated Defined Benefit plans

  7. History of Pensions (cont’d) • Pension Benefit Guaranty Corporation • Created by the Employee Retirement Income Security Act of 1974 • Ensures payment of Defined Benefit pension benefits only • Collects premiums from corporations to ensure funds • As of 2009, it ensures up to $4,500 per month for plans that terminated in 2008

  8. Types of Pension Plan • Defined Benefit Plans • Defined Contribution Plans • Hybrid Plans

  9. Defined Benefit Plans • Determines benefits upon retirement based on a set formula, using factors such as salary history, years of employment, and retirement age • Employer holds all of the risk • Easier to plan income upon retirement • Most administratively complex and costly type of plan

  10. Defined Benefit Plans (cont’d) • Vesting: • Cliff Vesting – You own 100% of your pension benefit after you’ve participated in the plan for 5 years • Graded Vesting – You own a certain percentage of your benefit plan, which increases each year. For example, after 3 years, you own 20%, and 20% more each year after that. This is the Federal minimum.

  11. Defined Benefit Plans (cont’d) • Cons: • Much of the value of the benefit is earned in the final years prior to retirement (focuses on staying with one employer your whole life) • Little to no control over the funds • No payout until retirement age is reached

  12. Defined Contribution Plans • Contribution is defined and set by the employer (or employee), and placed into an account • Employee holds all of the risk • Hard to plan retirement income • Examples: • Individual Retirement Accounts (IRA’s) • 401(k)’s

  13. Defined Contribution Plans (cont’d) • 401(k)’s • Must be sponsored by an employer • Tax is not paid on the money contributed to the plan • Employees choose a portion of their paycheck to be redirected to the plan • A number of investment options are available, including mutual funds • For 2009, the maximum contribution allowed is $16,500

  14. Defined Contribution Plans (cont’d) • Individual Retirement Accounts (IRAs): the largest component of total retirement assets; accounted for $3.7 trillion in 2008 • Traditional IRA – Contributions are tax deductible; upon withdrawal, the funds are taxed as ordinary income • Roth IRA – Contributions are made on an after tax basis, with earnings growing tax-free • SIMPLE IRA – Similar to a 401(k) plan, but easier to manage and not as expensive

  15. Hybrid Plans • Combines the benefits of Defined Benefit and Defined Contribution plans • Treated as Defined Benefit plan for tax purposes, and the risk is held by the employer • Plans are expressed in terms of an account balance, like a Defined Contribution plan • Example: • Cash Balance Plan

  16. Hybrid Plans (cont’d) • Cash Balance Plan • Promises an employee an employer contribution equal to a percent of each year's earnings and a rate of return on that contribution • Good for employees that switch jobs often – you can leave current assets in the plan, choose an annuity, or roll over the balance into their next employer’s plan or into an IRA

  17. Pensions in the News • Funding of Top 100 pension sponsors fell by $303 billion in 2008 • Because of downturn in stock market, companies are forced to contribute more money to keep them fully funded

  18. Pensions in the News (cont’d) • DB Plans can put a huge burden on companies • If a company goes bankrupt, PBGC takes over the plan • Seen as a way by investors to increase company value almost instantly

  19. Social Security • Setup by FDR as part of the New Deal • In 1945, the number of covered workers per beneficiary was 41.9, in 2007 it was 3.3 • Expected to exceed income from taxes in 2017, and the fund is expected to be exhausted by 2041 • Current monthly income from Social Security is $1,079 for single, $1,722 for a couple

  20. How much is enough?

  21. How much is enough?

  22. How much is enough? • Plan for roughly 10% of your income to go to a retirement plan with each paycheck • By age 50, the amount of money you have contributed should equal 10 times the amount you expect to withdraw each year in retirement • Things to consider for retirement: • What age will I retire? • How many years do I expect to live after retirement? • What lifestyle will I live during retirement? What will that cost?

  23. How much is enough? • AARP Retirement Calculator • Life Expectancy: 75 (Males), 80 (Females) • Current Annual Salary: Expected income upon graduation • Annual Inflation: 3.5% • Monthly Contributions: 10% of expected income • Investment Returns: 5% (Modest return) • Annual Social Security: $1,079

  24. Works Cited • 2008 RCS Fact Sheet: Saving for Retirement in America. 9 Apr. 2008. Employee Benefit Research Institute. 20 Mar. 2009 <http://www.ebri.org/files/RCS08_FS2_Saving.pdf>. • Block, Sandra, and Sue Kirchhoff. Largest U.S. pension plans' assets fall $217 billion short. 12 Mar. 2009. USA Today. 18 Mar. 2009 <http://www.usatoday.com/money/perfi/retirement/2009-03-11-pension-plan-assets-short_N.htm>. • Choosing A Retirement Plan. Internal Revenue Service. March 18, 2009 <http://www.irs.gov/retirement/article/0,,id=108950,00.html> • Clark, Robert L., and Ann A. McDermed. The Choice of Pension Plans in a Changing Regulatory Environment. Washington, DC: American Enterprise Institute, 1990. • How much should I invest? AARP. 20 Mar. 2009 <http://www.aarpfinancial.com/content/Learning/retPlanning_howMuchInvest.cfm>. • IRS. 21 Mar. 2009 <http://www.dol.gov/dol/topic/health-plans/erisa.htm>. • Lowenstein, Roger. "The End of Pensions." 30 Oct. 2005. New York Times. 18 Mar. 2009 <http://www.nytimes.com/2005/10/30/magazine/30pensions.html?scp=3&sq=pensions&st=cse>. • Modern Pensions and Social Security: A Timeline of Historic Events. 16 Oct. 2006. Society of Actuaries. 19 Mar. 2009 <http://www.soa.org/files/pdf/027bk_rev-annual06.pdf>. • "Pensions." Wikipedia. 10 Mar. 2009 <http://en.wikipedia.org/wiki/Pension#United_States>. • Pension Benefit Guaranty Corporation. Wikipedia. 20 Mar. 2009 <http://en.wikipedia.org/wiki/Pension_Benefit_Guaranty_Corporation>. • Retirement Confidence Surveys. 19 Mar. 2009. Employee Benefit Research Institute. 23 Mar. 2009 <http://www.ebri.org/publications/facts/index.cfm?fa=fastFacts>. • Roth IRA. Wikipedia. 13 Mar. 2009 <http://en.wikipedia.org/wiki/Roth_ira>. • The Basics of Social Security. Apr. 2008. Employee Benefit Research Institute. 18 Mar. 2009 <http://www.ebri.org/pdf/publications/facts/0408fact.pdf>. • Traditional IRA. Wikipedia. 13 Mar. 2009 <http://en.wikipedia.org/wiki/Traditional_IRA>. • Walsh, Mary W. Whoops! There Goes Another Pension Plan. 18 Sept. 2005. The New York Times. 12 Mar. 2009 <http://www.nytimes.com/2005/09/18/business/18pensions.html?_r=1&scp=1&sq=whoops%20there%20goes%20another%20pension%20plan&st=cse>. • What PBGC Guarantees. Pension Benefit Guaranty Corporation. 20 Mar. 2009 <http://www.pbgc.gov/workers-retirees/benefits-information/content/page13181.html>. • Wise, David A., ed. Pensions, Labor, and Individual Choice. Chicago: The University of Chicago P, 1985.

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