Outlook for Pension Reforms in 2006

March 2006

Overview

Congress has begun to deal with unfinished legislative business from last year, including tax reconciliation and pension measures. Our eyes are on the different House and Senate pension bills that need to be combined into one comprehensive measure. The bills contain a number of reforms relevant to governmental plans; both defined benefit (DB) and defined contribution (DC)/deferred compensation plans. ICMA-RC is actively engaged in behind-the-scenes discussions with staff on the public sector defined contribution provisions. We anticipate that a pension bill will become law in the second quarter of this year and will work with you to determine if there are any changes to plan designs, administration, or overall retirement planning that will impact your plans.

Background

Deliberations on pension and tax bills will take place with an unsettled backdrop. The House has a new Majority Leader — Rep. John Boehner (R-OH) — as a result of the fallout from the scandal surrounding former Majority Leader Tom DeLay (R-TX). Lobbying reform and tax reconciliation legislation both must be dealt with prior to the pension bills. However, Boehner's ascension to Majority Leader is good news for the retirement community. He is committed to retirement security and understands pensions as a result of his leadership of the House Education and Workforce Committee, which has partial jurisdiction over DB laws. Boehner also will remain a leading member of the selected group of members that will determine the fate of pension provisions.

Key Defined Contribution Plan Provisions Contained in House- and Senate-passed Pension Bills

There are number of provisions in the House- and Senate-passed pension bills that are important to ICMA-RC plan sponsors and participants. The following provisions we have identified present both risks and opportunities for plan sponsors and participants.

• Makes permanent the EGTRRA provisions that relate to retirement plans and IRAs including increased contribution limits and catch-up provisions (House bill) that would otherwise expire after 2010. As a result, employers can count on existing limits and other provisions that became law in 2001 staying in place. Of all the provisions in the pension bills, plan sponsors and participants are likely to be most interested in EGTRRA permanency. [details…]
• Permits states and local government to maintain a 401(k) plan and provides for coordination of contribution limits with 457 plans. This could put pressure on employers to provide yet another optional retirement plan (ORP) to their employees. Setting up a 401(k) would mean learning new rules and establishing new system components to accommodate an additional offering. [details…]
• Expands portability for IRAs, including direct rollovers to a Roth IRA from 457 plans, and other qualified plans for after tax money and rollovers of benefits received by non-spouse beneficiaries. It is likely that the final bill will include expanded portability for IRAs because there is general agreement that the rules need to be simplified so that individuals can more easily roll over assets to IRAs. Based on our experience, we believe that the two-step process that is currently required for rollovers from a 457 plan to a Roth IRA acts as a deterrent for participants. [details…]
• Allows for auto-enrollment for ERISA plans but NOT for 457 plans. Public plans are not subject to ERISA, and would not benefit from ERISA preemption contained in the pension bill. ICMA-RC is working with public sector and industry groups to expand the provision to include 457 plans. The group is circulating a proposal that would include a provision that permits a states or local government to adopt an automatic enrollment arrangement unless a state's law specifically restricts or prohibits automatic enrollment arrangements. The provision would in this way preserve states' rights to control their own laws in all respects, and at the same time the provision would give states and local governments the option of adopting an automatic enrollment arrangement. [details…]
• Provides incentives and protections for employers who offer their employees financial/investment advice on their retirement plans. The House version of the pension bill would allow major mutual fund companies and retirement plan providers to provide advice directly to participants in sponsored retirement plans. The provision also passes on the fiduciary responsibility and liability from the employers to the plan provider. Even though 457 plan providers are not currently prohibited from offering 457 plan participants advice, ICMA-RC generally adheres to ERISA rules (for the private sector) that prohibits plan providers from offering advice. The provision is significant because the private sector plan providers have for years been urging Congress to allow them to offer direct advice so that they can better respond to participants' calls for advice. [details…]
• Allows public safety officers to make tax-free distributions for retiree health care (up to $5,000 annually) from their governmental retirement plan, such as 457 plans. The distributions are allowed for those officers who retire or become disabled and can only be used for qualified health care related expenses such as health or long-term care insurance premiums. [details…]
• Waives the 10 percent penalty for early withdrawal at age 50 (a change from 55) for distributions from defined benefit plans for public safety workers. This provision is intended to give tax relief to those public safety workers who retire after age 50 and receive an early retirement distribution and do not roll it over into a tax qualified retirement account. Since both the Senate and the House have the provision, and the revenue cost is minor, this relief is very likely to be in the final pension package. [details…]

There are other well-publicized provisions in the pension bills that do not apply to ICMA-RC plan sponsors and participants:

• New DB funding provisions — no change to current law exemption for states and local DB plans.
• Changes to 401(k) plans — such as the new requirement for a quarterly benefits statement — do not extend to 401(a) plans.

Outlook

ICMA-RC understands that representatives from the Senate and House committees involved in the pension bill are on track to begin their deliberations by mid-March and final pension legislation could become law in April. There has been disagreement over whether or not the so-called “de facto” April 15th deadline for companies to make their first pension payment of the year is, in reality, a hard deadline. Nonetheless, lawmakers are using the date as a deadline for finalizing the deliberations.

ICMA-RC is working with state and local groups to keep members and staff informed on the issues that are relevant to 457 and 401(a) plan sponsors and participants. We will continue to keep you informed on the legislative process for the pension bills and anything that will be important for you to pass on to plan sponsors. Please feel free to provide feedback on any of the issues outlined in this report.