Defined Benefits Overview

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Contents
Introduction to DB Plans Introduction to DB Pans Types & Formulas

Introduction to Service & Eligibility

Introduction to Estimates Introduction To Compensation

Introduction to Protection of Benefits

Introduction to Benefit Payments Introduction to Payment Administration
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What is Defined Benefit (DB) Plan?

Defined Benefit Plan

Also coined as Pension Plan, is a retirement plan where the amount of the benefit is defined by a stated formula. Or,
In more simplified word, formula that defines the retirement benefits.
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Benefits of DB Plan
Company Offer DB Plans : to reward employees for their service, as an incentive,

to remain competitive in the marketplace.

Who benefits from Profits related to the Plan Companies invest their retirement contributions in one pension trust for all employees.

The trust fund can generate profit or incur losses.

Employers can use interest earnings to offset future contributions.

Note:-A participant's DB benefit is defined by a formula and is not

impacted by the pension trust investment performance.

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Intro to role of Actuary & Government in DB Plans

Role Of Actuary Is a professional, who estimates employer contributions to DB plans and cost to the company, and designs formulas to calculate pension amounts. In other words, who helps employers design formulas to meet the retirement needs of their employees.

Role of Government
The government ensures that DB plans have enough assets to meet future obligations, do not discriminate amongst participants, and communicate appropriately to participants.

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Defined Benefit Plan Guarantee

The government makes sure that all qualified DB plans can meet future benefit obligations and pay benefits as promised when their employees retire. Pension Benefit Guarantee Corporation (PBGC) is a federal agency that guarantees benefits from qualified DB plans. Employers pay an annual fee per participant for insurance under the PBGC. If a company is unable to pay benefits, the PBGC will pay monthly retirement benefits, up to a guaranteed maximum, to participants. In addition, employers are required by law to establish a pension trust or trust fund so that pension funds are protected and retirement benefits can still be paid in circumstances like bankruptcy.

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Introduction to DB Plan Types & Formulas

DB Plan Types Two broad categories of Defined Benefit Plans:1. Qualified Plan Plans that adhere to government rules in their design and administration 2. Non Qualified Plan Plans that do not have to adhere all the government rules that qualified plans do.

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DB Qualified Plan
For Employers For Participants

Employers are obligated to make sure they pay the promised amount to participants. Employers can deduct plan contributions from their federal taxes. Employers remain exempt from paying taxes on the interest their contributions earn.

Most participants belong to a qualified plan.

Participants are guaranteed to receive the promised retirement benefits and to have qualified plans explained to them in writing.
Participants receive tax advantages by paying taxes on the employer-provided benefits when they receive them, not during their employment. Participants also receive tax advantages by being in a lower tax bracket when they are retired versus when they are actively employed with a yearly salary. Participants would be covered by insurance (PBGC) if a company did not have the money to pay for retirement benefits.

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DB Non Qualified Plans

Advantages:
Do not have to adhere to government rules. Do not limit the maximum qualified or nonqualified benefit payable to each participant. Do have flexible ways of paying balances to employees. Are created to accumulate assets for select employees.

Disadvantages:
Do not enjoy the tax benefits of qualified plans. Are typically offered to select participants with large incomes. Do not cover a minimum number of employees. Do not guarantee their participants a right to benefits. Do not offer a tax deduction to employers. Do favor some employees over others. A small percentage of employees may participate.

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Defined Benefit Pension Plans

There are six common types of pension plans with all of them derived formulas based on an employees compensation & years of service to calculate the participant's benefit:-

1. Final Average Pay (FAP) 2. Career Average Pay (CAP) 3. Cash Balance Plan

4. Pension Equity Plan (PEP)

5. Dollar Time Service Plan (DTS) 6. Employee Contributory Plans (ECP)

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In detail about Pension Plans

1. Final Average Pay (FAP) --Employee contributory plans allow employees to make contributions, which are subject to special or complex government regulations.

2. Career Average Pay (CAP)

--Under the CAP plan, benefits accrue based on a percent of the employee's entire pay history. 3. Cash Balance Plan --In a cash balance plan, the contributions into a participant's account are usually defined, such as "the employer's annual contributions will equal 10 percent of pay and the contributions can earn interest equal to the 30-year Treasury rate." Employers calculate the accruing benefit monthly.

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contd

Pension Plans

4. Pension Equity Plan (PEP) --Under the pension equity plan, a participant's benefits are expressed as a lump sum value equal to a multiple of final average pay.
5. Dollar Time Service Plan (DTS)
--In the dollar times service plan, the participant receives a specified

dollar amount times the number of years of service. 6. Employee Contributory Plans (ECP) --Employee contributory plans allow employees to make contributions, which are subject to special or complex government regulations.

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Introduction to Service & Eligibility

Service
means a period of employment or simply time worked. Service is measured differently by different companies. Companies use the plan to describe how service is measured.

Types of Service in Defined Benefit Plan

Benefit Service Vesting Service Eligibility/Participation Service

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About Types of Service

Benefit Service
is the amount of time worked after the waiting period. It is also used in calculating the pension benefit. Generally, the more Benefit Service you have, the greater your pension.

Vesting Service
is the amount of time an employee must work to be entitled to receive all or a portion of the retirement benefit. IRC dictates the requirements for vesting & IRS dictates the requirements for granting automatic 100% vesting. Example:- 3 & 5 Year Cliff , 7 Year Graded Vesting Schedule

Eligibility/Participation Service
is the amount of time an employee must work to be able to enter or participate in the pension plan. This time is also known as the waiting period.
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Government Regulation -- ERISA

The Employee Retirement Income Security Act (ERISA) sets minimum standards for participation, vesting, benefit accrual, and funding. ERISA dictates that a plan may set the following minimum standard for participation:
Reach the age of 21, and Complete one year of service with the company

ERISA also specifies that once eligibility conditions are met, an employee must start participating in the plan no later than the earlier of:
The first day of the plan year beginning after the date that the employee satisfied the requirements. The date six months after the date that the employee satisfied statutory maximum age and service conditions, unless the employee is separated from service before the earlier of these dates.
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Methods of Counting Service

Types Of Method to Count Service
1. Hours Of Service:Counts actual hours worked & paid in a computation period. A method of counting service where each actual "hour of service" is credited to an employee in a computation period.

2. Hours Equivalency:Based on set number of hours for a specified period of time worked.

3. Elapsed Time Method:Counts the total period of time that lapses while the employee is employed, regardless of the actual number of hours of service completed.

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Merits & De-merits of Counting Service Method

Merits of Each Method
1. Hours of Service Hours are earned for actual time worked.

De-merits of Each Method

1. Hours of Service it is complex to count actual hours & is less generous than other methods. 2. Hours Equivalency Employee may earn more hours than actually worked, especially part-time workers.

2. Hours Equivalency
Do not have to count actual hours. 3. Elapsed Time Simplified method,& more favorable method of calculating service to employees.

3. Elapsed Time
Full service mar be credited during some periods of severance.

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Introduction to Estimate
Estimate
--is a projection of what a participant will receive from the Pension Plan at the Benefit Commencement Date.

Plan or Client determines who can request an estimate

1. EmployeeActive employees who are participants in the plan or terminated employees who are vested in the plan.

2. BeneficiariesThose designated by the participant to receive the pension benefits when the participant dies.

3. Alternate PayeesThose individuals recognized (through a Qualified Domestic Relations Order) as having a right to receive some or all of the participants under a qualified retirement plan.
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Government Regulations
Generally Four major Government Regulations laid down in Pension estimation-

1. Employee Retirement Income Security Act Regulation ERISA requires that a plan administrator provide a participant, beneficiary or alternate payee with a statement of total and vested accrued benefits once a year. 2. Internal Revenue Code

IRC imposes certain limits that cannot be calculated until the payments start. These limits restrict the benefit payable from the qualified plan. A portion of the estimated benefit may be payable from the company's nonqualified pension plan. One of the ways in which the IRC imposes limits is by limiting the amount of compensation (pay) that you can use to calculate a qualified pension benefit. The limit is referred to as the "pay cap" and may change every year.

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Contd
3. General Agreement on Tariffs and Trade Estimates and optional forms of payment use an interest rate for calculations. The GATT is a law that defines what the actual interest rates are for Optional Forms of Payment. For an estimate the current interest rate is used.

4. Qualified Domestic Relations Order QDRO refers to a court order that is made under a state's domestic relations law or community property law. It typically deals with property rights, alimony, or child support. A portion of the pension benefit may be assigned to an alternate payee due to a QDRO. The participant's estimate may or may not be adjusted to reflect the QDRO.

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Summing Up the Government Regulation

We can say that an estimate:
Only projects pay that is within the current pay limit.

Uses the current rate of interest.

May or may not be adjusted to reflect the QDRO.

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Introduction to Compensation
Compensation
Retirement pay, Pay considered, Pensionable pay - these terms refer to the compensation an employee receives that is used to determine and calculate retirement benefits for that individual. Definitions of pay may differ by plan or the same plan may use different definitions for different reasons.

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Determining Pay
Every plan that calculates retirement benefits for participants based on their compensation must specifically define what is included in the compensation. The client company must provide data that conforms to the plan's pay definition. Note that a client may tend to provide only what is readily available, which may differ from what is really needed. Some things to consider:
Time periods without recorded pay (leave of absence, military leave, jury duty, and so on). Trailing pay (pay received at a later date such as commissions and bonuses). Projecting pay (due to timing, recent pay figures may not be available to calculate benefits). Multiple pay definitions (client may use different pay definitions for life insurance, health & welfare benefits, and defined benefits; Hewitt must take care to verify and keep these multiple definitions separate when storing pay data on TBA).

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Types of Pay Components

Pay Components Considered for Benefits
Base Pay Incentive compensation Shift Pay Employee tax deferred contribution to 401(k) Overtime Performance Bonuses Performance achievement awards Part-time bonuses/variable pay

Pay Components not Considered for Benefits

Miscellaneous Pay Educational bonuses Referral bonuses Vacation pay(unused)

Overseas allowances
Hiring Bonuses Service anniversary bonuses Retention bonuses

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Commonly used Defined Benefit Plans

Reason of using different DB plans:-The
amount of compensation a participant receives is a major factor in determining the level of retirement benefits (usually based on compensation) that an individual can receive, and available data.

The following graph shows the dramatic increase of Cash Balance and Pension Equity plans and the decrease in Final Average Pay and Career Average Pay plans in use today.

Final Average Pay (FAP) - Still number 1, but losing popularity. Career Average Pay (CAP) - Also losing popularity, this is no longer number 2. Cash Balance Plan - Gaining in popularity, benefits are still based on compensation.

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Introduction to Protection Benefits

Plans are required to prevent certain benefits from decreasing. Many IRC rules and other legislation may be considered in a general sense to protect benefits. When benefit specialists refer to protection of benefits, however, they generally mean the following two rules

Anti-Cutback Rule
Accrued benefit cannot be decreased by a plan amendment.

Highest Early Rule

At normal retirement, the plan must pay the highest amount between what the participant could have received if he or she had retired earlier and his or her normal retirement benefit.

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Safeguards
The Situation
1. Employer and employees, if applicable, contribute to the pension trust. 2. Active employees accrue benefits. 3. Benefit formula measures service and compensation to determine benefits. 4. Retirees receive benefits.

The Safeguards
1. Plan Document:- The Defined Benefit Plan Document provides the rules for accruing
and receiving benefits. It provides the promise of retiree benefits. Plan amendments that may decrease accrued benefits come under protection of benefits.

2. Federal Legislation:- Qualified plans must be in compliance with federal regulations.

Federal guidelines are found in the Internal Revenue Code and other legislation. This module focuses on two rules that protect benefits: Anti-Cutback Rule

Highest Early Rule

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Source Of Changes
Company-driven plan design change Merger between two companies. Acquisition of another company. Government-driven legislative changes.
New legislation. Changes in annual indices. Change in the cash out limit. Social security & Covered Compensation Changes

Tightening of the corporate budget (plan funding and cost issues).

Need to influence some desired behavior (reward long service or attract new hires). Change in the workforce (switch to Cash Balance Plan to cater to younger employees).

Plan-driven changes.
Reduction Factor. Optional Forms. Interest Rate/Mortality. Start of retirement

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Protection of Benefits legislation

Anti-Cutback Rule:-

This rule ensures that Plan amendments do not reduce or eliminate accrued benefits that have been promised to participants. It protects benefits accrued before the effective date of the change.
Highest Early Rule:This rule protects a benefit from decreasing solely because a participant works to normal retirement age. Internal Revenue Code:Federal legislation that establishes rules for qualified plans, resulting in tax breaks to companies.

Normal Retirement Age:Normal retirement age is usually age 65. It is generally defined as the later of age 65 or the fifth anniversary of participation in the plan.

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Administration & Legal Requirement

Caution Compliance Procedures

Administrative Impact
Grandfathering is the term applied to the protection of benefits, rights, or features and the prevention of prohibited cutbacks for participants due to plan amendments. What was gained cannot be lost. The protected accrued benefit must be grandfathered as of the date of the plan amendment change. Types of Grandfathering Wear-Away Method, No Wear-Away Method & Extended Wear- Away Method Multiple Calculations

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Introduction to Benefit Payments

Benefit payments are monetary distributions from a pension plan.Rules and regulations for determining the benefit are defined in the Plan Document. Benefit payments are issued after the retirement or commencement process has completed.

They are usually an annuity consisting of monthly payments for life. If a vested employee dies before retirement, his or her survivors may be entitled to some benefits.
Common types of Benefits Payment Forms are:1. Normal Forms of Payment
is the required or automatic form of payment under a plan. It is the default or standard type payment a participant receives if he or she does not elect another form of payment.(Single Life Annuity & Joint & Survivor Annuity)

2. Optional Forms of Payment

Any form of benefit payment offered to participants other than the normal form is defined as an optional form
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Reason for Using Optional Forms

There are several reasons for opting Optional forms of Payment 1. Choicesenable a participant to select a form of payment that matches his or her lifestyle and retirement needs.

2. FundingThe greatest cost to a company is the funding of plans, not the way they are administered. In certain cases, it may make sense for companies to offer lump sums or other forms of payments rather than the normal form annuities.

3. Grandfathering
Due to mergers and acquisitions, a company may inherit Defined Benefit plans with optional forms. By law, the company must continue to offer the optional forms of payment to those that had been previously eligible for that option in the past. Protecting the option for a limited group (such as pre-merger participants) is called "grandfathering" the option.

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Types Of Optional Forms

The following types of optional forms 1. Joint & Contingent (non-spouse beneficiary):is a Joint &Survivor annuity selected by a single participant, who designates a beneficiary other than a spouse. 2. Payment Certain:Payment Certain provides a guaranteed number of monthly payments to the participant, starting on the Annuity Start Date(ASD) 3. Certain & Life Payment:is a combination of Payment Certain and a Life Annuity. It provides a monthly benefit for the life of the participant with a specified number of guaranteed payments. If the participant dies before receiving all guaranteed payments, the beneficiary receives payments until the guaranteed period ends. 4. Lump Sum:provides the entire benefit as a single payment to the participant. There is no beneficiary. If married, this option requires spouse consent.

5. Non-Elective Force Out:is a special case of a lump sum payout. A government rule allows a plan to force a participant to receive a one time, lump sum payout when the amount is less than or equal to $5,000.
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Contd
6. Level Income :an option for participants taking early retirement. It provides an increased amount of income to age 62 or 65 or whenever Social Security benefits start. 7. Joint and Survivor with Level Income :an option for a married participant who retires early. It combines features of the Joint and Survivor annuity and Level Income considerations.

8. The Joint and Survivor with Payment Certain :The Joint and Survivor with Payment Certain optional form provides a monthly benefit until the participant dies. 9. The Single Life Annuity with Full Cash Refund :an option that provides a monthly benefit until the participant dies. The beneficiary receives the remaining value of the annuity in a lump sum. 10. Pop-up or Reversionary Annuities:also called Joint & Restore benefits, payments made to cover two lives pop-up or revert to a Single Life Annuity if the beneficiary dies before the participant.

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Introduction to Payment Administration

Overview of Defined Benefit Administration
ParticipantThe administration of pension benefits begins and ends with the participant. The participant: Does the work and accrues the benefit. Initiates retirement process by calling the Benefit Center. Receives and reviews retirement paperwork. Elects form of payment and delivery options. Returns a signed authorization form. Receives check or other type of payment.

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Contd
Roles & Responsibility Client: Defines Plan benefits. Owns active data. Hewitt:Defines Plan benefits. Funds the plan. Manages trustee activity. Owns active data. Manages trustee activity. Funds the plan.

Trust: Manages pension assets. Checkwriter:1. Creates and processes retiree checks, stop payments, and refunds.

2. Administers direct deposits and sends annual 1099R forms for qualified plan payments or W2 Tax Forms for nonqualified payments.
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Three Basic Benefit Payment Process

Trigger Event
An event triggers the updating and verification of payment data. For example, the event could be:
1) Benefit commencement 2) Notification of death 3) Payment instruction changes

TBA
In some cases, the TBA system is the source or trigger for updating payment data. For example:
1) Period Certain ending 2) Future dated changes

3) YBR commencements
4) After tax contributions becoming taxable
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Contd
Electronic Transmission
Hewitt sends updated, verified pay data by electronic file transfer (EFT) to the trust/checkwriter according to a set schedule. File contents include:

1) Pension payment instructions

2) Payment withholding information 3) Payment delivery information (i.e., direct deposit)

The trust is responsible for managing fund assets. The client company or the trust may use a third party checkwriter to produce and distribute the payments. The checkwriter is responsible for processing and distributing pension checks or other types of payment. There is interaction between the checkwriter and Hewitt until all payments are reconciled and in balance.

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Know about Payment Processing

What is Payment?
A payment:

Is the actual check or direct deposit a participant receives. Contains its own delivery instructions on TBA, specifying where it is to be sent. Contains its own withholding instructions on TBA, specifying federal and state withholding taxes; this also includes non-resident alien taxes.

May have different frequency and pay dates for different types of payment

There are some rules for defining Payment in TBA

1. It consists of money from one plan. There can be multiple payments in a plan but a payment cannot cross plans.

2. It has one and only one frequency. It houses its own deliver instructions. You can split delivery within a payment to different addresses but the instructions are unique to the payment.
3. It houses its own withholding instructions. Withholding instructions cannot be shared by more than one payment. 4. A payment can consist of one to many optional forms of payment. The optional forms that make up a payment may change over time.
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Types of Payment Processing

Payment Process Gathers all new payment information, as well as changes to any existing payment amounts, indicative data (such as address information), government tax withholding, or payment delivery instructions. The current information is then sent to a third party trustee or checkwriter. Extract Process An automatic system process extracts information on payments ready to be paid from the TBA system. The Interface Calendar is a scheduling system that determines which payments should be made when.

File Review Process

The file review process is the last step performed at Hewitt before the file is sent to the third party checkwriter. An associate: Performs verification of the total amount to be paid. Checks for reasonability.
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Reviews any new payments or changed payments for accuracy.

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Contd & about various Payment Processing Jobs

Reconciliation Process Hewitt, together with the checkwriter conducts the reconciliation process using edit and statistical summary reports

Various Payment Processing Job that run in TBA are as follows:Payment History
The Payment History Cycle Batch Job runs the DB Payment History Pop activity. Running this batch job is the first step in creating the files to send to the checkwriter so it can cut checks for the participants in payment status.

Pre-Query File Checks

A query is run to review and correct any possible data issues upfront.

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Contd
Payment Extract
The following type of data is extracted from the TBA: 1) Person basic data 2. 3. 4. 2) Originating person basic data 3) Employment status 4) Payment amounts 5) Address, delivery, withholding,and deduction information

Extract Reformatter
The Extract Reformatter reformats the full file Annuity or Lump Sum Extract into the trust/checkwriter's format.

Annuity Changes Only

This job compares the current month's full file for annuities to the previous month's full file to generate an Annuity Changes-only file in the checkwriter's format. The comparison is done to determine exactly which payments are new, which are ending, and which are changing. This is only used if the checkwriter is set up to receive a Changes-only file.
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Contd.
Post File Quality Checks
Post file quality checks include the reviewing of edit, reconciliation, and statistical reports from the Reformatter job.

File Transmission
The lump sum and annuity files are sent to the checkwriter via Electronic File Transfer (EFT).

Edits and Rejects

The checkwriter has edits in place similar to TBA. They warn of data issues and prevent payments from processing in error.

Reconciliation
The checkwriter provides Hewitt with a back feed file. Hewitt then compares the back feed file to the reformatted full file from TBA. Both the back feed file and the reformatted full file contain all active payments for the check run.

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Different Events & their Payment Administration

Termination

Vested at Termination

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Contd.
Vested Employee Death
(active vested employee dies)

Active vested Employee Death:(active employee who is vested dies)

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Contd.
Retiree Death

Survivor Benefits

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Contd & About Payment Maintenance

Other two events are Start of Retirement & Employee Retires

What is Payment maintenance? Ongoing payment maintenance is the process that enables retirees and other participants who are receiving benefits to change government tax withholding or payment delivery instructions.

Types of Data Changes that effects Payment Maintenance 1) Address changes (permanent, alternate, home) 3) Direct deposit change 5) Social security number correction 7) Tax change (state, federal) & 2) Name change 4) Annuity amount change 6) Deduction change

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About Payment Delivery Instructions

Delivery instructions determine to which address a payment is sent. For pension, there are a few delivery choices: -- Rollover Address - used if the participant is rolling their payment over.
Direct Deposit Address - used if the participant wants their money sent directly to their bank account.
Mailing Address, such as permanent or alternate.

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About Plan Changes impacting Payment Maintenance

In addition to ongoing payment maintenance changes, there are certain types of pension plans that have built-in changes. The optional forms below have built-in changes and are described on the following pages. Pop-up

Level Income
Period/Payment Certain Plans with Cost of Living Adjustments (COLA)

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Any Questions ? ? ? ? ? ?

THANK YOU

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