Working Group on the Merits of Defined Contribution vs Defined Benefit Plans with an Emphasis on Small Business Concerns

November 13, 1997

Dedication

This Report is dedicated in memory of VIVIAN LEE HOBBS, with gratitude for her significant contributions to the ERISA Advisory Council. Vivian was an attorney at Arnold & Porter in Washington, D.C. and a member of the Council from November of 1995 until June of 1997. The quality of our experience as members of this Working Group has been greatly enriched by her insights and perspective, and we are the poorer for her absence.

EXECUTIVE SUMMARY

Findings:

• The total number of defined benefit plans increased from 103,000 in 1975 to 175,000 in 1983, and then declined precipitously to 83,600 in 1993. In contrast to the fall in defined benefit plans, the total number of private defined contribution plans rose steadily from 208,000 in 1975 to 618,500 in 1993.

• The decline in the number of defined benefit plans reflects a large number of small plan terminations (particular those with fewer than 100 participants). In 1980, the PBGC covered more than 1.5 million participants in small employer plans; by 1996 that number had declined to less than 800,000.

• The trend away from defined benefit plans is well underway and shows little or no evidence of abating. There is a sharp decline in the number of defined benefit plans of small employers. Among large employers, the most optimistic conclusion is that the number of defined benefit plans is relatively stable.

• While defined benefit plans remain an important part of the employer-based retirement system, especially among large employers, there is little or no evidence that employers are establishing new defined benefit plans in significant numbers.

• There appear to be a number of reasons for the movement away from defined benefit plans, but little consensus on the relative weight of each cause. Perhaps the most difficult issue to assess is the extent to which regulatory changes may be responsible for the movement away from defined benefit plans. The Working Group agrees with the conclusion of a number of witnesses who testified that regulatory trends have played a significant role.

• While Congress has made focused efforts to create simple defined contribution plans which promise to reduce costs to smaller employers, Congress has created no comparable simplified defined benefit plan.

Recommendations:

• The Working Group recommends that the Secretary of Labor support legislative and regulatory changes that will restore the viability of defined benefit plans. Defined benefit plans play a critical role in providing retirement benefits to American workers, including those employed by small businesses.

• Repeal the 150% of Current Liability Limit. Although the recent increase in the full funding limit from 150% to 170% is a step in the right direction, the Working Group believes that a current liability limitation on funding is inconsistent with sound retirement policy and should be repealed.

• Change the Limits on Benefits for Defined Benefit Plans. The Working Group recommends the following four changes: (1) the maximum dollar limit be increased at least to the 1982 levels as indexed; (2) double the $10,000 minimum annual benefit cap for lower paid employees to $20,000 and index it; (3) restore the $75,000 floor for actuarial reductions at age 55 and older; and (4) eliminate the requirement of actuarial reductions in benefits that commence between age 62 and the Social Security retirement age.

• Permit Pre-tax Contributions to a Defined Benefit Plan. Currently, employees can make elective deferrals to SEPS and 401(k) plans up to a maximum of $10,000 in 1998 indexed. Although mandatory and voluntary employee contributions may be made to private sector defined benefit plans, such contributions must be made on an after-tax basis. An opportunity to make pre- tax contributions to defined benefit plans should be established.

• Remove IRS Regulatory Delay and Uncertainty About Cash Balance Plans. A number of witnesses commented that the failure of the Treasury Department and the Internal Revenue Service to develop guidance for cash balance plans has had the practical effect of discouraging employers from establishing cash balance plans. Cash balance plans combine attractive features of both defined benefit and defined contribution plans. Resolution of these delays and uncertainties would encourage new plan formation of these hybrid plans. The IRS and Treasury should make resolution of these issues a high priority.

• Create a Simplified Defined Benefit Plan for Small Employers. Simply stated, there is a hole in the current retirement system. If defined benefit plans are to be a viable option for small employers, legislation needs to be enacted creating a simplified defined benefit plan. The Secure Assets for Employees Plan (SAFE) Act of 1997, H.R. 1656, as introduced by Representatives Earl Pomeroy (D-ND), Nancy Johnson (R-CT) and Harris Fawell (R—IL) in May, 1997, has many attractive features and provides an excellent starting point for further consideration of a simplified, small employer defined benefit plan.

• Increase the Maximum Compensation Limits for Defined Benefit Plans . Currently, the Internal Revenue Code requires that compensation in excess of $150,000, indexed to $160,000 in 1998, cannot be taken into account in determining benefits under both defined benefit and defined contribution plans. The compensation limit for defined benefit plans should be increased to at least $235,000, indexed, in order to encourage defined benefit plan formation.

• Further Study of In Service Distributions Is Needed. There is a growing use of pre- retirement distributions from defined contribution plans and IRAs. By contrast, the inability to provide in service distributions is a significant disadvantage for defined benefit plans from an employee perspective. Given the lack of information on what is a complex, but important issue, the Working Group recommends that the 1998 ERISA Advisory Council examine separately the issue of pre-retirement "leakage" from the retirement system.

• Mandatory Annual Disclosure of Benefits. Currently, a participant in a defined benefit plan may make a written request once a year and receive a statement of his or her accrued benefits and accruals. The Working Group recommends that ERISA be amended to require that defined benefit plan participants be provided once a year with a statement of their projected retirement benefit and their vested accrued benefit. Upon written request, a participant should also receive a worksheet explaining how the benefit amounts were calculated.

• PBGC Should Assume An Educational Role. The Pension Benefit Guaranty Corporation has a singular interest in promoting defined benefit plans, the advantages of which are not well understood by employers and less understood by employees. Unlike 401(k) plans and IRAs, which are constantly being promoted by financial intermediaries, there is little or no commercial promotion of defined benefit plans. Since the PBGC has shown little inclination to take on this vital role voluntarily, perhaps Congress should mandate it as part of the PBGC's mission.

TABLE OF CONTENTS

I. WORKING GROUP'S PURPOSE AND SCOPE

II. WORKING GROUP PROCEEDINGS

III. FINDINGS

IV. RECOMMENDATIONS

V. SUMMARY OF TESTIMONY

VI. EXHIBITS AND WRITTEN MATERIALS RECEIVED

VII. MEMBERS OF THE WORKING GROUP

The Working Group on the Merits on Defined Contribution vs. Defined Benefit Plans presents its report and recommendations to the 1997 ERISA Advisory Council. The Members of the Working Group urge that the report be adopted by the Advisory Council and submitted to the Secretary of Labor pursuant to Section 512(b) of the Employee Retirement Income Security Act of 1974.

I. WORKING GROUP'S PURPOSE AND SCOPE

Defined benefit plans and defined contribution plans have been widely available to provide retirement benefits to employees for the last fifty years or more. Since the Employee Retirement Income Security Act (ERISA) was enacted in 1974, however, the private pension plan universe has changed dramatically. Defined benefit plans dominated the 1974 pension plan universe. Without question, one of the most important of changes since the enactment of ERISA is the movement away from defined benefit pension plans to defined contribution plans and especially 401(k) plans. Recognizing the significance of the trend towards defined contribution plans, over the last several years, the ERISA Advisory Council has examined the implications of the growth in defined contribution plans and has recommended a number of changes in law and regulation relating to defined contribution plans.<1>

This year the ERISA Advisory Council turned its attention to the causes and effects of the movement away from defined benefit plans. The Working Group on the Merits on Defined Contribution Vs. Defined Benefit Plans heard from fourteen witnesses and received written testimony from a number of others on various aspects of this trend.<2> While those testifying represented divergent interests, there was a remarkable unanimity among the witnesses on the causes of this trend away from defined benefit pension plans and its effect on the private pension plan universe. Consistent with its charge from the full Council, the Working Group examined with particular interest the implications of this trend for employees of smaller employers.<3>

The most recent data on the pension plan universe is derived from 1993 Form 5500 Annual Reports. According to the Private Pension Plan Bulletin<4> , in 1993 approximately 83.9 million Americans participated in private pension plans.<5> The total assets in private pension plans reached $2,316 billion in that year.<6> Today, there are 85 million participants in private pension plans and the total assets in private pension plans exceed $3.5 trillion.<7>

The total number of private pension plans (both defined benefit and defined contribution plans) more than doubled between 1975, when the number was placed at 311,000, and 1987, when the number reached 733,000. In 1993, after declining slightly, the total number of pension plans stabilized at approximately 700,000.<8> The numbers for private defined benefit plans alone, however, are not as healthy. The total number of defined benefit plans increased from 103,000 in 1975 to 175,000 in 1983, and then declined precipitously to 83,596 in 1993. In contrast to the drop in defined benefit plans, the total number of private defined contribution plans rose steadily from 208,000 in 1975 to 618,500 in 1993. In 1975, defined contribution plans accounted for 67% of all private pension plans. By 1993, defined contribution plans made up 88% of all private pension plans.

Most collectively bargained plans are defined benefit plans. In 1993, 2% of all plans were collectively bargained (16,789) and most of those remain as defined benefit plans. Approximately 11% of all defined benefit plans (9,343 plans) are collectively bargained as compared to 1% of all defined contribution plans (7,445 plans). <9>

In 1993, total participation in private retirement plans was 83.9 million. Of those 64.7 million were active, 8.7 million were retired or separated participants receiving benefits and 10.4 million were separate participants with a vested right to a benefit.<10> There were fewer total participants in defined benefit plans (40.3 million) than in defined contribution plans (43.6 million). However, given the historic dominance of defined benefit plans, participants receiving benefits are overwhelmingly in defined benefit plans (8.2 million).<11> About 10 million participants were in multiemployer plans, of which 8 million were participants in defined benefit plans.<12>

Despite their declining numbers, defined benefit plans accounted for 54% of private pension plan assets, or $1,248 billion in 1993. <13> Among single employer plans, the total assets of which equaled $2,091 billion in 1993, defined benefit plans accounted for roughly one-half of all assets ($1,050 billion) and defined contribution plans accounted for the other half ($1,042 billion).<14> And although 43.6 million participated in defined contribution plans in 1993, compared to the 40.3 million who participated in defined benefit plans in that year, the vast majority of Americans receiving annuity benefits because of retirement or separation from employment were in defined benefit plans (8.2 million, or 94% of all such participants).<15>

Recent data from the Pension Benefit Guaranty Corporation (PBGC) concerning single employer plans insured by the PBGC provided some additional perspective.<16> From 1987 to 1990, over 10,000 mostly small employer defined benefit plans terminated each year without any claim on the PBGC. Since 1990 terminations have declined to fewer than 4,000 per year. Although the number of covered participants has increased by about 18% since 1980 to a total of 33 million participants in single employer defined benefit plans, the total number of plans has declined sharply from an all time high of 112,000 plans in 1985 to 47,000 plans in 1996. Large plans are responsible for the growth in the overall number of plan participants, while the decline in the number of plans reflects a large number of small plan terminations (particular those with fewer than 100 participants). In 1980, the PBGC covered more than 1.5 million participants in small employer plans; by 1996 that number had declined to less than 800,000. <17> However, because much of the decline was in plans with less than 25 participants, there has been little impact on the overall number of employees covered by defined benefit plans. Participants in single employer defined benefit plans has remained relatively unchanged by industry, with more than one-half working in manufacturing.

After reviewing recent trends concerning numbers and types of private pension plans, participation levels and assets, the Working Group focused on a number of key questions concerning defined benefit plan trends.

• Do defined benefit plans continue to serve an important role in the private pension plan system?

• Is the trend away from defined benefit plans indicative of an across-the-board decline in defined benefit plans or is it limited to certain types of employers or certain sized plans?

• What are the causes of this drift away from defined benefit plans?

• To what extent, if any, is pension or tax law responsible for this trend?

• Are changes in law and regulation relating to defined benefit plans desirable?

• If so, what changes are recommended?

In particular, the Working Group focused its attention on the situation of smaller employers. Until quite recently, only a very modest percentage of small employers (10 to 100 employees) have established private pension plans. And although there has been an increase in the number of defined contribution plans sponsored by small employers, the members of the Working Group share a concern with many in the employee benefits community that too few employees of small employers have the opportunity to participate in a private pension plan, particularly defined benefit plans.

II. WORKING GROUP PROCEEDINGS

To achieve its goals, the Working Group held seven public meetings at which it received oral and written testimony from a variety of individuals and organizations having knowledge about and an interest in the issues relating to defined benefit plans being studied by the Working Group.

On April 8, 1997, the Working Group reviewed and discussed an ABC News Nightline segment of March 7, 1997, "When You Retire" depicting issues surrounding the change from a defined benefit plan to a defined contribution plan by the Frontier Corporation which owns Rochester Telephone Company in New York. Also, on April 7, Dr. Paul Yakoboski, a Senior Research Associate at the Employee Benefit Research Institute, testified on current research on defined benefit plan sponsorship and participation trends.

A second public hearing was held on May 13, 1997 and the following persons testified: Richard Hinz, Chief Economist, Pension and Welfare Benefits Administration, Office of Policy & Research, U.S. Department of Labor (DOL), who also discussed defined benefit sponsorship and participation trends based upon the statistical database maintained by the Department of Labor derived from Form 5500 Annual Reports and periodic supplements to the current population survey. Also testifying was Patricia Scahill, a Consulting Actuary with Actuarial Sciences & Associates, Inc. and currently a Vice President of the Society of Actuaries. Ms. Scahill presented the Working Group with recommendations for a number of changes in law or regulation which she believed would encourage employers to establish and maintain defined benefit pension plans. Larry Sher, Principal and Chief Actuary, and Theresa Stuchiner, Special Consultant, of Kwasha Lipton Group of Coopers & Lybrand HRA (Human Resource Advisory) then testified about the development of a hybrid form of defined benefit plan, known as a cash balance plan, which combines attractive features of traditional defined benefit plans and defined contribution plans. Finally, Cynthia Moore, Washington Counsel to the National Council on Teachers Retirement testified on the features of public sector defined benefit plans, including portability features which are rarely found in private sector defined benefit plans.

A third public hearing was held on June 12, 1997 focusing on defined benefit plans of small employers. The first witness was Congressman Earl Pomeroy (D-ND) who spoke on legislation he has sponsored, the Secure Assets for Employees Act (SAFE) of 1997, which would create a simplified defined benefit plan for small employers. Congressman Pomeroy was assisted by James Delaplane, Legislative Counsel from the Congressman's office. Then, Congressman Pomeroy's testimony was supplemented by the testimony of George Taylor, president of National Retirement Plan Services and vice president of the executive committee of the American Society of Pension Actuaries (ASPA) and Brian H. Graff, ASPA's executive director, who discussed the need for a simplified defined benefit plan in the small plan arena and responded to technical questions on how the proposed SAFE plan would operate.

A fourth public hearing was held on July 17, 1997. The first witness was Congressman Sam Gejdenson (D-CT) who discussed legislation he sponsored, the Retirement Security Act of 1997, which would broadly reform pension law. Congressman Gejdenson focused his remarks on his proposal to repeal the 150% of current liability funding limit of Internal Revenue Code Section 412( c )(7) and his proposal to provide small employers with a $500 start up tax credit in the year they first establish a qualified retirement plan. Congressman Gejdenson was assisted by Francis Creighton, Legislative Assistant from the Congressman's office. Following, a panel spoke on defined benefit plans from the perspective of organized labor. The first panelist was Shaun O'Brien, Benefits Analyst, AFL-CIO Public Policy Department, who testified on the concerns of organized labor on the shift towards 401(k) plans among smaller employers. The second panelist was David Hirschland, Assistant Director of the Social Security Department of the United Auto Workers (UAW), who testified on the economic efficiencies of defined benefit plans. The third panelist was Judy Mazo, the Segal Company on behalf of the National Coordinating Committee for Multiemployer Plans, who testified on the success of multiemployer defined benefit plans in providing retirement benefits to employees of smaller employers.

A fifth public hearing was held on September 16, 1997. The sole witness was Edward Friend, President and Chief Executive Officer of EFI Actuaries. Mr. Friend spoke of the risks that defined contribution plans will not provide adequate retirement benefits for today's retirees because of pre-retirement distributions and other factors.

The sixth and seventh public hearings were held on October 7 and November 12, 1997. The Working Group reviewed the oral and written testimony which had been submitted, discussed tentative recommendations to be included in its report and reviewed drafts of its report.

III. FINDINGS

Many issues concerning the movement away from defined benefit plans are the subject of debate. What is not open to serious question is that the trend from defined benefit plans is well underway and shows little or no evidence of abating. There is a sharp decline in the number of defined benefit plans of small employers. Among large employers, the most optimistic conclusion is that the number of defined benefit plans is relatively stable.<18> However, a number of witnesses at the Working Group's hearings acknowledge that the available data fail to take into account so- called "frozen" plans. Frozen plans are plans that have not been terminated, but have ceased accruing benefits and are no longer accepting new participants. The Working Group believes, based on anecdotal information, that there are a significant and growing number of frozen defined benefit plans. There is some evidence that many employers which terminate or freeze defined benefit plans are replacing them with defined contribution plans.<19>

While defined benefit plans remain an important part of the employer-based retirement system, especially among large employers, there is little or no evidence that employers are establishing new defined benefit plans in significant numbers. The emerging large employers of today, for example high technology companies, are establishing defined contribution plans, not defined benefit plans. Although they are still relatively rare, a number of witnesses focused the Working Group's attention on hybrid plans, and especially cash balance plans, which combine the features of defined benefit and defined contribution plans.<20> To date, however, the number of hybrid plans seems relatively small. Cash balance plans have been concentrated in the financial services sector and have been adopted as a replacement for traditional defined benefit plans. The attractiveness of these hybrid plans is that they combine desirable features of both defined benefit and defined contribution plans. A number of witnesses commented that the failure of the Treasury Department and Internal Revenue Service (IRS) to develop guidance for cash balance plans, as well as several years of delay in processing determination letter submissions to the IRS, has had the practical effect of discouraging employers from establishing cash balance plans.

There appear to be a number of reasons for the movement away from defined benefit plans, but little consensus on the relative weight of each cause. Among the reasons cited by witnesses were:

• a change in employer attitudes toward employees;

• a shift in jobs from the manufacturing sector, where defined benefit plans are common, to the service sector, where defined benefit plans are uncommon;

• a higher level of job mobility which encourages defined contribution plans with their perceived portability and discourages traditional defined benefit plans which reward long service employees;

• the simplicity and transparency of a defined contribution plan where benefits are expressed in lump sum balances vs. the perceived complexity of defined benefit plans where accrued benefits are more difficult to understand and appreciate, particularly by younger workers;

• the attractiveness to employees of keeping investment gains in a rising stock market vs. the perceived value of a guaranteed monthly income at retirement;

• the option for an active employee to withdraw or borrow funds prior to retirement, which is permitted in a defined contribution plan, but is not in a defined benefit plan<21>;

• the more predictable annual employer costs in a defined contribution plan;

• the obligation to pay PBGC insurance premiums for defined benefit plan but not for defined contribution plans;

• the opportunity for employees to make contributions to defined contribution plans before taxes (i.e., 401(k) plans), but not to defined benefit plans;

• the higher costs of administering a defined benefit plan which, in recent years, has increased dramatically due to additional regulation;

• a desire by employers to provide a retirement plan at a reduced overall cost, which tends to favor a defined contribution plan which, not only have greater cost certainty, but also do not have open-ended long term liabilities; and

• a lack of understanding by employees of the relative advantages and disadvantages of different types of plans and plan features.

Perhaps the most difficult issue to assess is the extent to which regulatory changes may be responsible for the movement away from defined benefit plans. The Working Group agrees with the conclusion of a number of witnesses who testified that regulatory trends since 1982 have played a significant role. Frequent changes in the law have made the administration of all qualified plans more complex and administratively expensive, but those changes have had a disproportionate impact on defined benefit plans. Moreover, given the annual character of the defined contribution pension promise vs. the long term defined benefit pension guarantee, changes in law are, by their nature, more easily accommodated in a defined contribution plan.

Witnesses cited a number of changes in the law that may have exacerbated the movement away from defined benefit plans. First, changes in the law beginning in 1987 have reduced the funding flexibility of defined benefit plans. The Omnibus Budget Reconciliation Act of 1987 placed a limit of 150% of current liabilities on the amount of deductible contributions which an employer may make to a defined benefit plan. Under the recently enacted Taxpayer Relief Act of 1997, the current liability limit is increased to 155% in 1999 and then gradually increased to 170% in 2005. According to one 1995 study, 59% of 218 plans surveyed had reached the 150% limitation, up from 42% in 1994.<22> Current liability is based on the plan's obligations using current experience which can vary widely from year to year and lead to unpredictable contribution patterns. The limit was imposed primarily to raise tax revenue. The limit, together with a 10% penalty excise tax on non-deductible contributions, has acted to prevent employers from pre- funding plan benefits in one year when they are financially able to do so, while in a later year they may be forced to make larger contributions than they budgeted for. The uncertainty, and the potential to be whipsawed, is one reason frequently cited by witnesses for employers unwillingness to establish defined benefit plans. Witnesses called for the outright repeal of the 150% limit, not for a relaxation of it.<23> The Working Group was unable to determine to what extent the relaxation of the limit may solve the problem, although initial reactions to the recent revision have been positive.<24>

Some witnesses attributed the decline in small employer defined benefit plans to legal and regulatory changes, particularly the Tax Equity and Fiscal Responsibility Act of 1982 which imposed penalties on small employer plans which are characterized as top heavy, and the Tax Reform Act of 1986, which lowered marginal income tax rates, imposed faster vesting standards, changed the rules for plans integrated with Social Security, authorized complex new discrimination standards later promulgated by the Treasury Department and included a minimum participation rule (a plan must have the lesser of 50 employees or 40% of employees). Some witnesses characterized the plans which terminated as a result of these changes as being tax shelters. However, other witnesses testified that these regulatory changes were overly broad and too complex, and that legitimate plans were terminated along with questionable ones. They noted that once key employees no longer have a significant self-interest in a defined benefit plan, they can turn to other means of providing for their own retirement benefits. Among the other options are non-qualified deferred compensation programs which have grown dramatically in recent years.<25>

While Congress has made focused efforts to create simple defined contribution plans which promise to reduce costs to smaller employers, Congress has created no comparable simplified defined benefit plan. Since 1974, Congress has created payroll deduction IRAs, simplified employee pension plans or SEP, a salary reduction simplified employee pension plan or SARSEP, and a Savings Incentive Match Plan for Employees of Small Employers or SIMPLE, which was enacted last year as part of the Small Business Job Protection Act of 1996. And while defined contribution administrative costs have risen slightly for defined contribution plans, they have risen dramatically for defined benefit plans. According to one study, annual administrative expenses for defined benefit plans with fifteen or fewer employees have risen from 0.32% of payroll in 1981 to 1.66% of payroll in 1996.<26> While Congress is to be applauded for creating simplified defined contribution plans for small employers, the failure to create a defined benefit counterpart has, perhaps unconsciously, tilted the small employer plan universe further in the direction of defined contribution plans.

Since defined contribution plans are not insured by the PBGC, rising costs of PBGC premiums only serve to make defined benefit plans less attractive relative to the employer cost of maintaining a defined contribution plan. Although the single employer insurance program premium was $1 per participant when the program was established in 1974, the cost has grown dramatically in recent years. Since 1991, the PBGC has collected a variable premium of $9 per $1,000 of underfunding in addition to the fixed premium of $19 per participant. The Retirement Protection Act of 1994 phased out a cap on variable premiums of $53 per participant. As a result of these changes the PBGC single employer insurance program reported a surplus in 1996 for the first time in its history. While the solvency of the PBGC is an important and necessary step in assuring the retirement security of defined benefit plan participants, the rapid growth in PBGC premiums has been an additional disincentive to establishing or maintaining defined benefit plans.

IV. RECOMMENDATIONS

The Working Group recommends that the Secretary of Labor support legislative and regulatory changes that will restore the viability of defined benefit plans. Defined benefit plans play a critical role in providing retirement benefits to American workers, including those employed by small businesses.

Repeal the 150% of Current Liability Limit. Although the recent increase in the full funding limit from 150% to 170% is a step in the right direction, the Working Group believes that a current liability limitation on funding is inconsistent with sound retirement policy. Employers should be encouraged to pre-fund their plans. The 150% limit discouraged level funding, which is a reasonable way for employers to fulfill their benefit obligations. Instead, the 150% limit required employers to make smaller contributions than they desired in one year only to be required to make much larger payments in later years. The Working Group was unable to determine whether the change in the law in August 1997, raising the limit to 170% over a period of years, is sufficient to eliminate this problem.

Change the Limits on Benefits for Defined Benefit Plans. In the case of defined benefit plans, the highest annual benefit payable under a plan must not exceed the lesser of 100% of a participant's highest three year average compensation or $130,000 in 1998<27> adjusted for inflation. The dollar limit was set at $75,000 indexed in 1974 and had grown to $136,425 in 1982, when it was cut back to $90,000 indexed. Downward adjustments in the limit must be made for retirement prior to the Social Security normal retirement age, which is 65 for participants born before 1938 and 66 or 67 for younger participants. Previously, downward adjustments did not need to be made for benefits that commence after age 62 and there was a $75,000 floor for actuarial reductions at age 55 and older. There is a $10,000 minimum annual benefit limit established in 1974 which is not indexed.

The current limits on defined benefit plan benefits eliminate the ability of a highly compensated employee to accrue a significant qualified benefit under a defined benefit plan. This, in turn, has reduced the attractiveness of qualified plans for executives who become less inclined to support and maintain qualified defined benefit plans for a broad cross section of employees. In addition, increasing numbers of employees, including rank and file employees, who retire early or on disability cannot receive their intended benefit under the plan because they exceed the actuarially reduced benefit limit.

In order to make defined benefit plans more attractive, especially for employees of small employers, the Working Group recommends the following four changes: (1) the maximum dollar limit be increased at least to the 1982 levels as indexed; (2) double the minimum annual benefit $10,000 minimum benefit<28> to $20,000 and index it; (3) restore the $75,000 floor for actuarial reductions at age 55 and older; and (4) eliminate the requirement of actuarial reductions in benefits that commence between age 62 and the Social Security retirement age.

Permit Pre-tax Contributions to a Defined Benefit Plan. Currently, employees can make elective deferrals to SEPS and 401(k) plans up to a maximum of $10,000 in 1998, indexed.<29> Although mandatory and voluntary employee contributions may be made to private sector defined benefit plans, such contributions must be made on an after-tax basis.<30> There appears to be basis for this inequity which confers on defined contribution plans a tax advantage that is denied to private sector defined benefit plans. A comparable opportunity to make pre-tax contributions should be established for defined benefit plans.

Remove IRS Regulatory Delay and Uncertainty About Cash Balance Plans. A number of witnesses commented that the failure of the Treasury Department and the Internal Revenue Service to develop guidance for cash balance plans, as well as several years of delay in processing determination letter submissions to the IRS, have had the practical effect of discouraging employers from establishing cash balance plans. Cash balance and other hybrid plans combine attractive features of both defined benefit and defined contribution plans. Resolution of these delays and uncertainties would encourage new plan formation of these hybrid plans. The IRS and Treasury should make resolution of these issues a high priority.

Create a Simplified Defined Benefit Plan for Small Employers. Simply stated, there is a hole in the current retirement system. If defined benefit plans are to be a viable option, legislation needs to be enacted creating a simplified defined benefit plan. The most serious decline in defined benefit plans is among small employers; the most rapid increases in overall administrative costs are also among small employer defined benefit plans. Furthermore, defined benefit plans are made less attractive for small employers relative to defined contribution plans due to the availability of a variety of simplified defined contribution options.

The Secure Assets for Employees Plan (SAFE) Act of 1997, H.R. 1656, as introduced by Representatives Earl Pomeroy (D-ND), Nancy Johnson (R-CT) and Harris Fawell (R—IL) in May, 1997, has many attractive features and provides an excellent starting point for further consideration of a simplified, small employer defined benefit plan. The legislation would allow an employer with 100 or fewer employees, and without any qualified retirement plan, to establish a SAFE plan. In general, SAFE plans would have to be fully funded at all times and, as a result, would not have to pay PBGC premiums. The SAFE plan provides a fully funded "floor" benefit, with a higher benefit if the plan's experience is more favorable than conservative assumptions. The minimum benefit is a unit benefit equal to 1%, 2% or 3% of compensation for each year of service. Benefits would be fully vested at all times and they will be funded either through an individual retirement annuity or through registered securities invested in a trust. The SAFE plan would have simplified reporting, including a simplified actuarial evaluation. It would not be subject to non-discrimination or top heavy rules or plan limitations (including limits on contributions and benefits, full funding and deductible contributions), other than the $160,000 limit on includible compensation. The Working Group recommends, however, that the legislation be modified to require third party trustees and third party administration of SAFE plans which would reduce concerns about the absence of PBGC coverage, without a significant increase in costs.

Increase the Maximum Compensation Limits for Defined Benefit Plans . Currently, the Internal Revenue Code requires that compensation in excess of $150,000, indexed to $160,000 in 1998<31>, cannot be taken into account in determining benefits under both defined benefit and defined contribution plans. Like the dollar limits on contributions and benefits, the compensation limit has been reduced since it was first established, primarily to raise tax revenue. Beginning in 1989, the original limit was $200,000 indexed. By 1993, the indexed amount had increased to $235,840 until the Budget Reconciliation Act of 1993 reduced it to $150,000. The impact of this change has been to promote non-qualified "top-hat" plans for key executives. However, defined benefit coverage for middle managers has also been lost, without being replaced. The Working Group proposes that the compensation limit for defined benefit plans be increased to at least $235,000, indexed, in order to encourage defined benefit plan formation.

Further Study of In Service Distributions Is Needed. There is a growing use of pre-retirement distributions from defined contribution plans and IRAs. By contrast, the inability to provide in service distributions is a significant disadvantage for defined benefit plans from an employee point of view. There was disagreement among Working Group members as to whether defined contribution plan in service distribution rules should be tightened. However, the members of the Working Group share a concern about recent changes in the IRA rules, supported by both the Administration and the Republican majority in Congress, to remove penalties on distributions from IRAs for first time home purchases or to pay college expenses. While these are socially desirable goals, they convert IRAs from retirement vehicles into savings and capital accumulation vehicles, with the risk that funds needed for retirement will be diverted instead to current consumption. Given the lack of information on what is a complex, but important issue, the Working Group recommends that the 1998 ERISA Advisory Council examine separately the issue of pre-retirement "leakage" from the retirement system.

Mandatory Annual Disclosure of Benefits. Currently, a participant in a defined benefit plan may make a written request once a year and receive a statement of his or her accrued benefits and accruals.<32> Although the same rule applies to defined contribution plans, many defined contribution plans automatically provide benefits statements at least annually.<33> Few defined benefit plans do. Not surprisingly, few participants understand their defined benefit plan benefits and accordingly have little appreciation for their value. The Working Group recommends that ERISA be amended to require that defined benefit plan participants be provided once a year with a statement of their projected retirement benefit and their vested accrued benefit. Upon written request, a participant should also receive a worksheet explaining how the benefit amounts were calculated.

PBGC Should Assume An Educational Role. The PBGC has a singular interest in the promotion of defined benefit plans. By law it is an institution whose sole business is providing insurance guarantees to one class of customers—defined benefit plan participants. The Working Group believes that the PBGC should be concerned that few, if any, new defined benefit plans are being created, and faced with a declining book of business, the PBGC has had no choice but to raise its single employer insurance premiums dramatically. Most insurers, facing a similar dilemma, would promote their products in order to find new customers. Such an effort would help to keep the "risk pool" healthy and help avoid the need for further increases in premiums that, in turn, drive existing customers away. We believe the PBGC has a financial interest in promoting defined benefit plans, the advantages of which are not well understood by employers and less understood by employees. Unlike 401(k) plans and IRAs, which are constantly being promoted by financial intermediaries, there is little or no commercial promotion of defined benefit plans. Since the PBGC has shown little inclination to take on this vital role voluntarily, perhaps Congress should mandate it as part of the PBGC's mission.

V. SUMMARY OF TESTIMONY

Meeting of April 8, 1997

Testimony of Dr. Paul Yakoboski,
Research Analyst,
The Employee Benefit Research Institute

Dr. Yakoboski began by explaining that in terms of raw numbers, the popularity of defined benefit plans in the United States appeared to peak in the early 1980's, and then suffer a significant decline during the past decade. Citing Department of Labor statistics, Dr. Yakoboski reported that approximately 175,000 defined benefit plans existed in the early 1980's, and less than half that number (approximately 84,000) existed as of March 1993. While noting that the rapid growth in the number of defined contribution plans occurred simultaneously with the decrease in defined benefit plans, Dr. Yakoboski disagreed with the popular perception that defined benefit plans are being replaced by defined contribution plans and are thus on their way to extinction. On the contrary, he concluded that defined benefit plans, despite the aggregate trends, remain an important part of the employment-based retirement income system.

When asked specifically whether defined benefit plans were being terminated and replaced by defined contribution plans, Dr. Yakoboski stated that while that certainly does happen, because the growth in defined contribution plans greatly outweighs the net decrease in the number of defined benefit plans, replacement cannot fully explain the current trend. He attributed a lot of the growth in defined contribution plans to the fact that small employers, who in the past had not been able to offer employees any plan at all, have recently offered pension plans for the first time by establishing defined contribution plans. Additionally, he believed that a number of these smaller defined benefit plans operated more as tax shelters than as true pension plans, and were terminated when the tax laws changed and plugged the loophole. In his opinion, the rest of the growth trend in defined contribution plans can be accounted for by employers using defined contribution plans not to replace current defined benefit plans, but to supplement them. This is true despite the fact that many younger employees actually see the 401(k) as their primary plan with the defined benefit acting as the supplement!

Dr. Yakoboski noted that the vast majority of defined benefit plans which have vanished are very small plans, often with less than 10 active participants. During the question and answer period, he guessed that this was partly a function of the failure rate of small businesses in general within this period. Dr. Yakoboski also pointed out that the number of large defined benefit plans (1,000 to 5,000 participants) has actually remained stable—while the very large plans (10,000 participants and more) even experienced a small increase in number over this same time period. In response to a question after his presentation was finished, however, Dr. Yakoboski admitted that his numbers with regard to defined benefit plans included plans which may have been "frozen." Frozen plans still show up as active plans, but no new participants may enter. A member of the Working Group pointed out that many recent mergers and acquisitions have resulted in frozen plans.

Dr. Yakoboski acknowledged that most new large employers were not establishing defined benefit plans. "[E]merging large employers of today—the Microsoft et al of the world—indeed, they are going defined contribution, they are not going defined benefit." He also noted that employers were creating hybrid plans such as cash balance plans.

Addressing the subject of hybrid plans, Dr. Yakoboski cited BLS data from 1993 showing that only 3% of defined benefit participants in medium and large private companies had cash balance type plans. Although Dr. Yakoboski characterized cash balance plans as currently mere "blips on the radar screen," emerging mostly in the finance and service sectors, he predicted that they would become a significant force in the coming years. Specifically, he foresaw "the evolution among a fair fraction of defined benefit sponsors into hybrid arrangements." Cash balance plans are hybrid plans which combine some of the most desirable features of defined benefit plans and defined contribution plans, and, according to Dr. Yakoboski, are very attractive to both employers and employees. Hybrids are funded on an actuarial basis with PBGC backing like defined benefit plans, but they allow "portable" lump sum distributions when employees change jobs, like defined contribution plans. Employers like these new plans because they are less expensive to set up and maintain, and are less regulated and complex than defined benefit plans. Cash balance plans offer greater flexibility for employers to match plan design with their business purposes, as well as an increased ability to control or manage their costs.

Another reason for the popularity of cash balance plans is that employees seem to appreciate the hybrid plans more. Even though they are not as generous as traditional defined benefit plans, employees find it easier to understand their benefits under these arrangements. Each year, employees receive a "mythical" account balance showing the growth of their investments. Hybrids are especially well received by younger workers and short-term workers, who either have trouble visualizing the abstract benefits of a pension maturing after 20 years of service or just don't plan to stay with any one employer for that long.

Dr. Yakoboski disagreed with the popular perception that current workforce trends show a dramatic increase in job mobility and a corresponding decrease in job security. He reads the tables tracking job tenure published by the Bureau of Labor Statistics up until 1991 as showing job tenure comparing favorably with job tenure during the last four decades, and even improving for some groups, such as women. The recent drop-off in job tenure since 1991 has occurred primarily among older males. He believes that the "good old days" of rock solid security never really existed, and that the market has always seen a great deal of job churning.

Finally, Dr. Yakoboski stated that it was his belief that the recent popularity of 401(k) plans as primary and supplemental retirement income vehicles, the rethinking of defined benefit plans, and the recent emergence of hybrid arrangements, were not necessarily bad things. In his opinion, traditional defined benefit plans were actually ill-equipped to serve the vast majority of workers twenty years ago. He argued that the job experience of workers has actually remained more or less the same—and that the pension system is finally changing to match that reality.

During the discussion following his testimony, Dr. Yakoboski agreed that lower income workers were less likely to participate in defined contribution plans than higher income workers. Just as coverage and participation rates drop with income level, coverage in general was much lower among workers in smaller entities than in larger entities.

In response to a comment from a member of the group, Dr. Yakoboski pointed out that a good number of the new defined contribution plans were in the form of 457 (public sector) plans as well as 401(k) plans. According to Dr. Yakoboski, the "federal government is leading the way with what is de facto the world's largest 401(k) plan, otherwise known as the federal thrift savings plan." He claimed that the federal government was sending out the message that acceptable retirement plan practices include joining 401(k) plans with defined benefit plans.

Dr. Yakoboski also commented that the American Society of Pension Actuaries ("ASPA") has been working to develop legislation that would simplify defined benefit plans much in the same way that defined contribution plans were simplified in 1996 by SIMPLE. He noted that Congressman Earl Pomeroy was extremely interested in promoting defined benefit expansion among smaller employers, and was keeping close tabs on ASPA's work. "[Congressman Pomeroy] shares the view that, in some sense, the government has been biased against defined benefit plans and biased in favor of [401](k) plans. In particular … burdens are placed on small employers."

While he could not make any concrete recommendations as to how the DOL could motivate small business owners to create pension plans for their employees, he did make a few general suggestions. First, he cautioned the group that any goal to increase the number of plans among small employers needed to be realistic. Speaking generally about small employers, he noted that the combination of small profit margins—providing little extra money to invest in pension plans on behalf of employees, and a younger workforce with a high turnover rate that is not particularly concerned with preparing for retirement—have created an environment in which small employers do not perceive the need to offer pension plans.

Second, Dr. Yakoboski insisted that any course of action taken by the DOL should be long-term. He predicted that any real change in the pension-creating practices of small employers would come as a result of employee demand: getting younger workers interested in long-term savings and retirement plans. The need to educate employers and employees to recognize and appreciate the value of pension plans can be achieved partly through the efforts of the Department of Labor's educational campaign, and through private efforts by groups such as the American Savings Education Council.

Meeting of May 13, 1997

Testimony of Richard Hinz,
Chief Economist,
Employee Benefits Security Administration
Office of Policy and Research

Mr. Hinz began by confirming that EBRI's data (the factual basis for Dr. Yakoboski's testimony) was derived from the Department of Labor's (DOL) own database. The DOL's data is compiled by analyzing the 5500 series reports filed annually with the DOL and the periodic supplements to the current population survey sponsored by the Social Security Administration, the DOL and EBRI. During the question and answer period, Mr. Hinz clarified a number of points with respect to the DOL's database. He noted that his information regarding defined benefit plans did include plans which might be frozen. In response to a question regarding the number of non-qualified plans in existence, Mr. Hinz commented that people answering surveys do not differentiate between qualified and non-qualified plans when they report participation — "they are essentially invisible in that survey data." However, he didn't think that a lot of people were participating in non-qualified pension plans. A few of the other members of the Working Group agreed, however, that the DOL's data with respect to the number of filings may not a good basis for judging the proliferation or non-proliferation of non-qualified plans, since the select group of management and highly compensated employees which participates in these plans often mistakenly believe they are exempt from registration requirements.

According to Mr. Hinz, there has been a relatively constant level of participation in private pension plans in the last 20 years, staying within a few percentage points of 50% of the total number of individuals participating in the full-time private sector workforce. He characterized the "underlying shift toward defined contribution plans" as a displacement rather than a replacement, explaining that almost all of the new growth in the private pension plan system has been in defined contribution plans.

In 1975, 87% of primary pension plan participants were enrolled in a primary defined benefit plan and the remaining 13% participated in a primary defined contribution plan. By 1993, the numbers had changed dramatically, with 56% of the workforce enrolled in defined benefit plans and 44% enrolled in a primary defined contribution plan. Although the number of defined benefit plans has dropped, virtually all of the loss is in the smaller plans with under 100-participant plans. Mr. Hinz also pointed out that the declining number of defined benefit plans does not necessarily indicate a reduction in defined benefit plan participants. In fact, the number of defined benefit plan participants decreased only slightly, dropping from 42 to 39 million. During that same period, however, there was an enormous increase in the number of defined contribution plan participants. Twenty years ago, there were approximately 200,000 defined contribution plans—today there are more than 600,000. The corresponding growth in asset base, from $76 billion twenty years ago to $1.5 trillion today, is still growing thanks to the performance of the stock market. Mr. Hinz believed that these numbers simply reflected a growth in coverage as the workforce has absorbed the entry of 30 million private sector workers. Mr. Hinz reiterated that "the additional coverage, which has been roughly half of those new workers added, has been in the defined contribution area."

According to Mr. Hinz, "the single most remarkable development that we have observed across this 20 year period is the [increasing] proportion of the workforce that is covered by both a defined benefit and defined contribution plan." In 1980, only a quarter of the workforce was enrolled in both plans. Today, approximately one-third of the workforce participate in both defined benefit plans and defined contribution plans. He believed that it was a common misconception that small firms were phasing out defined benefit plans and replacing them with defined contribution plans. In reality, the numbers are the result of new coverage being added "in the defined contribution universe." Among participants in plans established since 1983, 20 million workers are in defined contribution plans (mostly in 401(k) type plans) compared to 3.6 million in defined benefit plans.

Mr. Hinz pointed out that large firms were supplementing their existing defined benefit plans — which continue to remain very popular — with defined contribution plans, creating a dual role for the defined contribution plan. Later on, he characterized those defined contribution plans which operated in conjunction with a defined benefit plan as "the gravy on the retirement income train." Mr. Hinz noted that although the number of large defined benefit plans — those which cover 1,000 or more workers — has decreased by 3% from 1984 to 1993, the number of plans covering 10,000 or more workers — the largest of the large — has actually increased during this period.<34> After Mr. Hinz' presentation, a member of the Working Group noted that currently, laws and regulations dealing with retirement policy do not distinguish between situations where defined contribution plans are being used as primary plans and those where defined contribution plans are acting as supplements. The member suggested that it might be profitable for the DOL to incorporate the notion of primary and secondary plans into its analysis, since this may lead to different conclusions about how public policy should be changed.<35>

Mr. Hinz presented two theories to help explain the recent popularity of defined contribution plans. First, he noted that industry had undergone a general structural change from large unionized manufacturing to smaller, non-collectively bargained firms. Traditionally, unionized manufacturing firms provided coverage through defined benefit plans. Small non- collectively bargained firms usually offer defined contribution plans. Second, he cited the growing preference of both employers and employees for defined contribution plans. Mr. Hinz emphasized the "supply and demand" dimension to employers' decisions to offer defined contribution plans. He also took notice of the relationship between younger workers' preference for defined contribution plans and factors such as income level, tenure and age in the structure of the workforce. Mr. Hinz argued that [the analysis] should not ignore the impact that the unprecedented growth in equities in the stock market has had on the popularity of defined contribution plans. In response to a question, he commented that earlier testimony before the group (Dr. Yakoboski), which attributed the decline in defined benefit plans among small employers to changes in the laws that eliminated their use as tax shelters, was probably an incomplete explanation of the trend.

Mr. Hinz warned against drawing overly-simple conclusions from the EBSA's data. Specifically, he pointed out that while the median account balance for a defined contribution plan is estimated at below $10,000, the average is much larger ($30-40,000 per account). The differential between median and average is due to the fact that a small number of participants have very large account balances compared to the majority of participants.

Mr. Hinz also commented on the disparity that existed between the savings of male and female retirees. In 1994, close to half of retirees over the age of 55 reported pension benefits. However, 57% of that number were male, compared to the 38% that were women. According to Mr. Hinz, this disparity exists even though "we're seeing close to parity in the earnings of benefits" between men and women. More disturbing evidence shows that there is also a disparity in the payment methods at retirement, with women more likely to receive lump sum benefits than men. In 1989, 7.5 million retirees and workers aged 40 and over were receiving lifetime annuities, while 6 million received lump sum payments from pension plans. By 1994, the number of annuity recipients had decreased 4% to 7.2 million, even though there were significantly more retirees. On the other hand, the number of retirees receiving lump sum distributions increased by 50% to 9.1 million. Of those 1994 numbers, 30% of women received an annuity form of pension benefit and 63% received only a lump sum. Compare this to the numbers for men: 44% received an annuity benefit and 44% received a lump sum. 7% of women and 12% of men reported receiving both an annuity and a lump sum. Even the size of the lump sum payments reflects the gender disparity: in 1994, women received an average of $5,000 in benefits, while men received an average of $11,000.

Mr. Hinz concluded by focusing on the investment patterns and asset allocation among defined contribution plans. He noted that there was not really an enormous difference in the proportion of equities in the investment portfolios of defined benefit plans and defined contribution plans—both invest about 30% to 40% in equities, including a high percentage of employer securities. In fact, some information indicates that 35%-42% of assets in the various types of defined contribution plans are in employer securities. However, the DOL's own information sets that number at a somewhat lower 18%--even lower (15%) if you exclude ESOPs from the equation. Many of the other underlying differences in investment patterns can be accounted for by the fact that the DOL includes ESOPs in the category of defined contribution plans.

During the question and answer period, a member of the Working Group asked Mr. Hinz whether the administrative costs associated with creating and maintaining the plans was a factor in the relative unpopularity of defined benefit plans. Specifically, the member wondered whether that and the changes in the tax laws were responsible for making defined benefit plans less popular among certain small employers. Mr. Hinz found it difficult to answer the question regarding administrative burdens for two reasons. First, the private consulting firms which collect data on administrative costs usually represent larger companies. These companies are generally unwilling to disclose such information to the DOL and risk having their client's find out what their costs are. Also, data is not usually available from smaller companies. Second, administrative costs are often paid out of the general assets of the sponsor rather than the trust and therefore not reported.

Mr. Hinz also noted that no one would dispute the argument that small business owners would be more likely to sponsor a plan if they could accrue greater benefits for themselves as compared to the other participants. The real problem with that solution is the public policy cost—distributing a tax preference to a higher income group in order to bring lower income workers along is a controversial idea.

Meeting of May 13, 1997

Testimony of Patricia Scahill,
Consulting Actuary,
Actuarial Sciences Associates, Inc.

Ms. Scahill presented the Working Group with a number of recommendations that she believed would encourage plan sponsors to maintain or create new defined benefit plans. First, in the area of plan design, she recommended that the tax treatment of employee contributions be handled in the same way for both defined benefit plans and defined contribution plans. This would include allowing employees to make a pre-tax contribution to their defined benefit plans up to the 402(g) limit that currently is applied to the 401(k) plan. Ms. Scahill anticipated that the proposed (equally) favorable tax treatment for employee contributions to defined benefit plans would apply to mandatory as well as voluntary contributions.

Ms. Scahill also recommended raising the limits on includable compensation. This she said could be easily achieved by repealing the 401(a)(17) compensation limit, except as it applies to top-heavy plans. In the question and answer period of her presentation, she addressed the concern that the caveat for top-heavy plans might shift even more benefits over to the most highly paid workers. Ms. Scahill is simply interested in seeing "the executives get their benefits from the same vehicle" as rank and file employees. In her opinion, if highly paid employees received meaningful benefits from a defined benefit plan — that means allowing executives to receive more money from a qualified plan than other employees — they will be more likely to view the qualified plan as a worthwhile financial vehicle. Allowing current tax policy to drive these limits down (in order to save short-term revenues) will give executives an incentive to search for different pension vehicles, and unfortunately, to create nonqualified plans for themselves and defined contribution plans for the rank and file workers. She emphasized that allowing pre-tax employee contributions for defined benefit plans and repealing the limits under the 401(a)(17) rule were two of the most critical issues for backers of small business defined benefit plans.

Second, Ms. Scahill recommended reversing the current trend towards more restrictive Internal Revenue Code Section 415 compensation limits, restoring the $75,000 floor on actuarial reductions at age 55 and above, and eliminating the reduction completely for persons between 62 and the current Social Security Retirement age. This issue was also very critical from the perspective of trying to encourage small employers to create and/or maintain defined benefit plans. According to Ms. Scahill, her first two recommendations are essentially asking for a "rollback of the rules . . . put[ting] them back to where they were."

Third, Ms. Scahill recommended that a safe harbor be added for Social Security offset plans which are similar to what was in effect prior to tax reform. She warned that not only were the nondiscrimination rules complicated and very expensive for plans to negotiate, they were also ineffective from a public policy perspective by failing to prevent unfair discrimination in qualified plans since a large number of PIA offset plans very easily pass these rules. In her opinion, the rules created yet another administrative burden without really correcting the evil they sought to redress.

Ms. Scahill acknowledged that although allowing a 401(k) match through a defined benefit plan is controversial, she believed it would encourage employers to contribute to employee savings in some form. She suggested allowing the match to be done through the vehicle of a cash balance plan.

Fourth, Ms. Scahill recommended treating the minor mistakes made by employers while complying with the regulations for defined benefit plans less severely. Egregious errors should surely be punished, but punishing small errors by disqualifying plans does not serve plan participants well. She believed that one factor influencing the shift from defined benefit to defined contribution plans was the perception that defined benefit plans were complicated and subjected employers to harsh penalties for even small mistakes. While the penalties for non-compliance for both plans were similar, she sensed that with defined benefit plans, "every new regulatory or administrative complexity" was "one more nail in the coffin." Also, because sponsors feel defined benefit plans were more complex, they probably felt that there was more chance of making a costly mistake. In response to a question regarding the progress of the IRS in getting sponsors to participate in its voluntary compliance programs, Ms. Scahill commented that the IRS has not gone far enough in terms of reducing the size of its penalties.

Fifth, Ms. Scahill recommended encouraging "meaningfully advanced funding" for defined benefit plans. Not only does the PBGC benefit from a well-funded pension system, but many plan sponsors like to see their plans well-funded. Plan sponsors don't perceive the new full funding limit as a favor — supposedly helping them keep costs down by making the plan cheaper. Instead, they see the funding limit as another burden. The rules with respect to definitions of current liabilities are very complex. In fact, Ms. Scahill believed that the three measures of current liability necessary to complete funding calculations made compliance administratively complex and raised actuarial fees.

Ms. Scahill also addressed a side-issue on the subject of the PBGC. She believed that plan sponsors, the sponsors of large plans in particular, were fed up with what she termed the PBGC's participation "in what might be viewed as fairly routine business decisions."

Finally, Ms. Scahill's own personal recommendation (not made on the behalf of her company) was to reduce the opportunity of participants to get early access to their defined contribution money — this would even the playing field [between defined benefit plans and defined contribution plans]. She believe that since defined contribution plans are retirement vehicles, they should act as retirement vehicles. Also, if defined contribution plan participants couldn't get into their account balance "cookie jars," they might be more receptive to having their benefits provided through defined benefit plans. During the question and answer period, Ms. Scahill and a member of the Working Group discussed the ineffectiveness of the current 10% premature distribution tax in preventing leakage from defined contribution plans. Ms. Scahill believed that the 10% tax was ineffective mostly because young people were focused on their present day needs and were willing to liquidate their retirement accounts to meet those needs. She recommended a flat prohibition on liquidation, though she would still allow loans from retirement plans.

Ms. Scahill also commented briefly on the recent development of hybrid plans which have characteristics of both defined benefit and defined contribution plans. She specifically mentioned the cash balance plan, which is popular because it can be explained to employees as a kind of a personal bank account. She pointed out that the appearance of these new hybrids is so recent that the relevant statutes and regulations have not responded to or changed to accommodate them.

Finally, Ms. Scahill drew the group's attention to the 417(e) problem. Section 417(e)'s requirement was intended to prevent defined benefit plans from providing an unfairly small lump sum to participants. However, 417(e) has resulted in the problem of sponsors with cash balance plans or pension equity hybrid plans providing unreasonably small annuities. Specifically, the plan sponsor must provide an unreasonably small annuity, because if they provide a big annuity they have problems complying with the lump sum rule. As a result, the sponsor can provide only a small annuity because larger annuities run into difficulties under the lump-sum rule.

Meeting of May 13, 1997

Testimony of Lawrence Sher,
Principal and Chief Actuary for the
Kwasha Lipton Group of Coopers and Lybrand, LLP

Mr. Sher began by explaining, in general terms, how cash benefit plans operated, and comparing them to traditional defined benefit and defined contribution plans. According to Mr. Sher, cash benefit plans are hybrids. On the surface, they appear very much like defined contribution plans. Cash balance retain the "account balance" and portability features of typical defined contribution plans. However, cash balance plans tend to maintain the protection and stability of defined benefit plans. Cash balance plans operate like defined contribution plans by expressing benefits in terms of a lump sum. This lump sum grows in a defined manner, unlike defined benefit plans where the benefits are expressed in terms of a deferred annuity. Although benefits under cash balance plans are generally paid in terms of lump sum, there is no reason that the benefits could not be distributed in the form of an annuity.

Later on, however, Mr. Sher explained that there was some disincentive to subsidize annuities given the current regulatory environment. Specifically, "you could end up getting whipsawed where you have the possibility of having to pay a lump sum which exceeds the account balance."

Mr. Sher noted that another difference between cash balance plans and traditional plans is that cash balance plans don't usually offer early retirement subsidies. Also, social security subsidies, used to "bridge" the time between retirement and when social security first becomes available, are not usually offered under cash balance plans. "In fact, many companies [which] have heavily subsidized early retirement benefits in their traditional plan [and] that convert over to a cash balance plan . . . gradually get away from the subsidies . . . ." Cash balance plans offer, to a limited extent, a degree of inflation protection by using indices anticipated to exceed inflation. Mr. Sher believed there were ways in which social security supplements or subsidized early retirement benefits could be introduced into cash balance plans.

The lump sum benefit earned in a cash balance plan is defined in much the same way as it is in a defined contribution plan. There is a capital accumulation, shown through a "hypothetical account." Benefit credits, which are usually based on a percentage of compensation (i.e. 5%), and interest credits are both added to this account. The benefit credits can be age- or service- weighted, or integrated with social security on an excess-type basis. Mr. Sher explained by giving the example of a benefit credit which equaled 5% of pay up to the current social security wage base, plus 8% of pay over the wage base. Interest credits do not relate to the actual investment earnings under the plan—they are usually tied instead to some outside index such as a treasury index. Some plans use flat (%) indices rather than variable indices.

Mr. Sher noted that, as with defined benefit plans, employees seldom made contributions to their cash balance plans. He agreed with the previous witness (Ms. Scahill) that this was due to the fact that defined contribution plans received much better tax treatment and were less cumbersome to administer. He believed that if the rules were changed to allow employees to make pre-tax contributions into defined benefit plans, and into cash balance plans in particular, these types of plans would become more popular.

Mr. Sher then commented on the types of employers who have adopted cash balance plans, and what their motivations might be. He observed that, in general, the majority of companies that have adopted cash balance equity plans are medium and large (1,000 plus employees) telecommunications and banking companies. He believed that these firms were motivated to choose cash balance plans for a number of reasons. First, the nature of the employment relationship was less paternalistic than usual. Employees at these firms tend to be more self-reliant in their approach to employee benefits. Second, cash balance plans provide better returns for individuals with higher rates of job mobility. Cash balance plans, unlike other plans, tend to provide a more uniform distribution of benefits to people not staying with the same firm until retirement (unless the plan is heavily age-weighted).

Mr. Sher explained: if someone is jumping from job to job, under the final average pay plan, by the time they retire they will have a much lower benefit than an individual who earned the same wage in an identical plan but who stayed with one employer. He attributed this to the fact that the average pay plan benefit is based upon the employee's final average pay at the time she or he leaves a particular employer, not the employee's final average pay at retirement with respect to all earlier employers. The advantage of a cash balance plan is that, like defined contribution plans, it does not make any distinction between averages earned from different employers and average pay earned from one employer (cash balance plans calculate the average as if an employee had worked for a single employer, as long as the employee participated in identical plans sponsored by each of his or her employers).

Another advantage of cash balance plans is that they operate better in an environment of "diverse retirement practices and patterns." Final average pay plans may have worked well in the past, but they don't work as well where people are retiring at different ages or partially retiring and/or changing careers often.

Finally, Mr. Sher observed that some employers were motivated by financial factors when they decided to adopt cash balance plans. Sometimes, the cost of administration decreases when switching from defined benefit plans to cash balance plans. In other cases, companies terminate defined benefit plans to avoid various taxes on excess assets.

Mr. Sher noted that most of the companies offering cash balance plans also offer defined contribution plans, but not defined benefit plans. The cash balance and defined contribution plans are operated as a single retirement program, "communicated in parallel," with the contributions showing up in the defined contribution plan and the benefit credits appearing in the cash balance plan Unlike defined benefit plans, defined contribution plans coordinate well with cash balance plans.

Mr. Sher concluded by comparing and contrasting cash balance plans, defined contribution plans and defined benefit plans. He began by comparing cash balance plans and defined benefit plans. He believed that one of the reasons that employers prefer cash balance plans is because they facilitate corporate acquisitions. Defined benefit plans are so difficult to integrate into other types of plans, it is hard for the buyer to assimilate the new company's workers into its benefit program. The ability to "monetize" the value of a cash balance simplifies the problems that occur in mergers. In addition, cash balance plans—which invariably pay out the full value of the account to beneficiaries at death—provide more valuable death benefits than defined benefit plans. Like defined benefit plans, however, cash balance plans do not allow elections during employment—no withdrawals from cash balances until normal retirement age—which effectively deals with the problem of leakage. Although technically, loans can be offered through defined benefit plans, it is awkward and rare.

Next, Mr. Sher compared cash balance and defined contribution plans. He emphasized that cash balance plans had certain advantages over defined contribution plans. Most significantly, an employer offering a cash balance plan bears the risk of poor investments. The employer offering a cash balance plan is under the same fiduciary requirements as with a defined benefit plan, so if the investments do poorly, the employer must make up for it through supplemental contributions to the plan. On the other hand, if the plans do well, the cost to the employer is lower than that of a defined contribution plan. Another advantage cash balance plans have over defined contribution plans, at least from the employee's perspective, is that cash balance plans provide base benefits independent of employee contributions. Most defined contribution plans tend to be matching plans where the employee does not get anything from the employer unless they personally contribute. Furthermore, unlike the benefits under a defined contribution plan, cash balance plan benefits can be improved retroactively. The flexible distribution feature of cash balance plans gives employers offers more options than defined contribution plans. And cash balance benefits can be distributed through a true annuity, an option rarely available through defined contribution plans. Finally, cash balance plans are more likely to be well-funded than defined contribution or defined benefit plans.

Meeting of May 13, 1997

Testimony of Theresa Stuchiner,
Special Consultant for the
Kwasha Lipton Group of Coopers and Lybrand, LLP

Ms. Stuchiner spoke about the current regulatory environment—specifically the difficulty sponsors had in developing cash balance plans which could fit into a regulatory framework designed for the traditional defined benefit. She described the IRS and Treasury Department's response to the problem as "fairly decent," but analogized it to "fitting square pegs into round holes." In fact, the reason that cash balance plans are classified as defined benefit plans is because they do not meet the statutory definition of a defined contribution plan.

In 1991, while in the process of implementing the nondiscrimination regulations put out to address the 1986 tax changes, the IRS and Treasury Department came up with an approach called the "safe harbor cash balance plan." This approach created what Mr. Sher had earlier referred to as the "whipsaw aspect": the problem with minimum lump sum distributions [exceeding account balances as a result of regulations]. According to Ms. Stuchiner, while the whipsaw problem was greatly alleviated by the amendments to Internal Revenue Code § 417(e), which changed the calculation for minimum lump sums, problems still remain.

Next, Ms. Stuchiner addressed the problem of encouraging small business owners to create defined benefit plans. For a number of reasons, she didn't feel much could be done with the defined benefit plans in the small employer environment, with the exception of small businesses that were owner-dominated. Although there is still considerable interest among successful professional with small numbers of employees to adopt defined benefit plans, this will not provide meaningful coverage (in terms of numbers).

According to Ms. Stuchiner, the administrative burdens—the complexity, difficulty and costs—associated with defined benefit plans deter interest in these plans. She suggested building interest in defined benefit plans among annuity providers by allowing them to design very simple cash balance plans for small employers and getting the PBGC to underwrite the annuities. The small employer would get the upside of investment risks, would bear the downside of investment risks, but would escape the problem of providing the annuity. In her opinion, the main problem with defined contribution plans is that annuities are not available, and people don't realize how difficult it is to manage money throughout their retirement years.

Meeting of May 13, 1997

Testimony of Cynthia L. Moore,
Washington Counsel to the
National Council on Teacher Retirement

According to Ms. Moore, who specializes in issues affecting state and local government retirement plans, defined benefit plans have been relatively successful in providing retirement benefits for state and local government employees. The National Council on Teacher Retirement ("NCTR") is made up of 71 state and local government retirement systems that serve over 11 million teachers and other public employees. Virtually all of these retirement systems provide defined benefit plans that are similar to those in the private sector. These retirement systems are regulated by state, not federal, laws which are analogous to ERISA. Many of the systems are subject to the same pension qualification requirements found in § 401(a) of the Internal Revenue Code. Citing Department of Labor figures, Ms. Moore informed the group that 91 percent of full-time local and state employees were covered by a defined benefit plan. In addition to these plans, many employees also have voluntary savings plans (403(b)'s) known as tax-sheltered or tax-deferred annuities.

Ms. Moore agreed with previous testimony (Richard Hinz and others) by observing that the majority (75%) of terminated defined benefit plans were very small plans which served under 10 participants, and that the number of very large plans has remained relatively stable, even experiencing slight growth. NCTR plans are generally extremely large plans. She also agreed with prior witnesses that "far more defined contribution [plans are] being newly created than there are defined benefit plans being terminated." Finally, Ms. Moore corroborated earlier testimony (Dr. Yakoboski) by stating that — with the exception of 16 to 24 year olds — Americans are not as mobile as conventional wisdom suggests.

Ms. Moore then introduced the topic of the various portability initiatives which have been approved by state legislatures. In 1995, South Dakota initiated legislation called the "Portable Retirement Option" or "PRO," which allows short-term service employees who belong to the state retirement system to take all or part of their employer contributions with them when they leave their jobs. Washington State has responded to the demand for portability by creating a hybrid plan called "Plan 3." The employer portion of the plan is a defined benefit plan where the contribution of the employer equals one-percent of the employee's final average compensation multiplied by the years the employee was in service. It provides a cost of living adjustment ("COLA") of three percent a year. The employee funded portion of the plan is a defined contribution plan which requires the employees who are plan participants to contribute between 5 and 8.5 percent of their salaries to the plan, the exact number depending on their age and choice of options.

In addition, Virginia and Missouri are trying to initiate "Retirement Reciprocity." Under "Reciprocity", funds are transferred between the school retirement systems of different states when a teacher moves. She noted that a number of retirement systems felt uncomfortable with this idea because it was unclear what effect such activity would have on their tax-exempt status. Ms. Moore found the testimony of Lawrence Sher and Theresa Stuchiner (on cash balance plan—hybrids) very interesting in the context of Colorado's initiative. Colorado was very concerned about short-term employees and the fact that they lost their benefits completely when they moved. She felt that cash balance plans are the answer to this type of problem.

Most states have solved the portability problem by allowing teachers to purchase "service credits" for the years in which they worked outside of the state in which they will retire, as well as for periods of absence from employment. Teachers tend to be mobile professionals; also, considering the fact that 70% of the teachers in the United States are women (who take maternity leaves), the purchase of service credit provisions are very helpful. In addition, the process of purchasing the credits is straightforward: the teacher need only contact the retirement system to find out if he/she is eligible, get proof of previous employment within former retirement system, and purchase the credit through check or payroll deduction.

There is one problem with the voluntary purchase of "credits" by teachers, however. There is a conflict between what the states have been telling teachers—that they can buy credits to make up for any and all lost time—and what the IRS, under Internal Revenue Code § 415's defined contributions limits, tells teachers. According to the IRS, teachers may only be able to purchase a portion of the value of lost contributions (maximum = $30,000 or 25% of compensation). Ms. Moore noted that the NCTR has a current proposal to resolve this conflict before Congress. Aside from this problem, the service credit plan is easy to administer, there are a variety of service credit options available.

Meeting of June 12, 1997

Testimony of Congressman Earl Pomeroy

Congressman Earl Pomeroy (D-ND), chief sponsor of the Secure Assets for Employees (SAFE) Act of 1997<36>, appeared before the Working Group to speak about the SAFE bill and suggest possible solutions to current problems related to defined benefit plans. The SAFE bill would create a simplified defined benefit plan for smaller employers.

Congressman Pomeroy began by recognizing that the Working Group was addressing some of the central policy issues in the area of retirement, especially with respect to the relative merits of defined contribution plans and defined benefit plans in the context of small employer sponsorship. He suggested that it would be worthwhile for government in general, and the Working Group in particular, to explore the reasons why the number of employer sponsored defined benefit plans has "collapsed." In his opinion, other research by the Advisory Council on the influence of soft dollars and on the consequences of steering plan assets towards particular investment advisors is extremely important and could lead to better disclosure to employees in the context of 401(k) plans. He also mentioned as an important development, the current interest in the new SEC profile prospectus which attempts to "put fees into context, but … in a more standardized abbreviated form than the prospectus."

Congressman Pomeroy first discussed the impetus for his introduction of the SAFE Act. He felt that both the lack of defined benefit coverage and limited savings opportunities for the employees of small employers were a significant problem and should be a priority. According to Congressman Pomeroy, small employers employ, on the average, fewer than 20 people, and such workers have very little opportunity to participate in a defined benefit plan (less than 6% nationally). Employers — especially small employers — fear taking on the greater risks associated with defined benefit plans. Small employers would prefer to shift this risk to their employees. Another motive for switching from defined benefit plans to defined contribution plans is to escape the numerous and complex regulations and expenses associated with maintaining defined benefit plans. Congressman Pomeroy pointed out that the number of defined benefit plans has declined from approximately 176,000 between the years of 1982 to 80,000 in 1993. Although the market, influenced by factors such as job mobility and employer reticence, seems to have moved away from defined benefit plans, his appraisal of the nation's overall retirement savings goals leaves him reluctant to "throw in the towel on [the] defined benefit structure."

Congressman Pomeroy feared that defined contribution plans had not been adequately evaluated, especially their tendency to more easily allow leakage than defined benefit plans allow. He noted that in rollover situations, two-thirds of defined contribution plan rollovers were not fully reinvested. Such problems made defined contribution plans an unlikely vehicle to help us reach our national retirement goals. For this reason, he urged that efforts to make defined benefit plans compatible with the work force and the concerns of the small employer not be abandoned.

Congressman Pomeroy believed that reversing the current trend away from defined benefit plans would require both regulatory reform (analogous to the SIMPLE legislation for defined contribution plans) and changes in plan design; specifically, including a significant safe harbor component. He also noted that defined benefit plans would benefit in general from regulatory relief from Capitol Hill. He supported the Democrats' omnibus pension reform bill which included a provision repealing the full funding limitation — he didn't believe the current funding limitations made sense.<37> According to Congressman Pomeroy, a bipartisan effort to find an omnibus pension bill that could be passed by this Congress is currently underway.

Congressman Pomeroy proceeded to discuss the proposed SAFE Act in detail. . According to Congressman Pomeroy, the SAFE Act attempts to "meld these two priority areas; small employers and defined benefit reform." He was pleased with the ASPA's "technical work- up" of the bill because the SAFE format they came up with would keep defined benefit plans in the small employer marketplace. Congressman Pomeroy's co-sponsors, Nancy Johnson of the House Ways and Means Committee and Harris Fawell, chairman of the Subcommittee of the Employer-Employee Relations of the House Education and the Workforce Committee, have played prominent roles in the majority caucus of the committees of House with jurisdiction over retirement plans

Congressman Pomeroy described some of the key features of the SAFE Act which would make them attractive to employers. SAFE plans would provide a secure retirement at a fixed benefit level, while retaining the most desirable features of defined contribution plans, including portability and the opportunity for a higher level of benefits if returns on investments are higher than anticipated. "Unlike the existing model of defined benefit plans, the SAFE plan would provide those additional features that engage workers more actively in the ongoing status of their retirement savings progress." The use of a benefit formula which provides for a minimum defined benefit plus the added potential for further benefits (depending on investment performance) is probably the more significant of the two features.

The minimum defined benefit level of SAFE plans, which would be contributed by employers to each employee's plan annually, would be equal to 1-3% of compensation for each year of service. In addition, SAFE plans would be required to use a conservative 5% return on investment assumption to ensure that contributions would be sufficient to provide the promised benefits. The plan structure would be funded through either individual retirement annuities or through trusts, and the employee's SAFE benefits would be vested (and therefore portable) at all times. Also, SAFE plans would be subject to simplified reporting and testing requirements, unencumbered by complicated, nondiscrimination rules. SAFE plan sponsors will not have to pay PBGC insurance premiums. Small employers would be able to "contract out" to third party insurance companies the risks associated with maintaining defined benefit plans — "you don't … saddle either the employer or the employee with the risks." Finally, Congressman Pomeroy noted that the plans would not be subject to the current full funding limitations, and that small employers will be able to maintain financial flexibility by adjusting the size of their contributions to the plan depending on the yearly performance of their businesses.

Congressman Pomeroy insisted that he was only interested in offering a plan with relevance to the market, not just passing legislation for legislation's sake. To achieve this, he encouraged the Group to refine the SAFE plan, which was still in a somewhat theoretical state, with a critical "evaluation and sharp questions." Congressman Pomeroy believed that the bill had a very good chance of passing. In response to a question from a Working Group member, Congressman Pomeroy indicated that Congress' response to SAFE has been "very positive." Members of Congress viewed SAFE as a "natural complement to the SIMPLE legislation passed last year." He also attributed Congress' favorable response, in part, to the fact that the nation, in general, has been sensitized to the retirement issue because the baby boomers are beginning to turn 50.

During the question and answer period, a Working Group member responded approvingly to SAFE's lack of upper funding limit. The member felt that if the amount of money that small business owners could pocket could be increased, the idea of sponsoring a defined benefit plans would become more attractive to them. In his opinion, "the locomotive that drives a business owner to implement the plan" is personal savings on a tax advantaged basis. Congressman Pomeroy agreed that increasing the amount of money that small business owners could put away for themselves would make defined benefit plans more popular, and he pointed out that this concept was already part of the SAFE bill. In his opinion, lifting the Internal Revenue Code § 415's limitations on benefits will "drive the sale of the SAFE product in the marketplace." He emphasized that encouraging the formation of defined benefit plans—in essence, getting people to save now so that the government can avoid supporting them later—is a budget priority that warrants the necessary tax expenditures. This was not a time for Congress to be penny wise and pound foolish.

At the conclusion of the discussion period, Congressman Pomeroy warned that the consequences of doing nothing—of failing to enact legislation that does for defined benefit plans what SIMPLE did for defined contribution plans—is the continued collapse of existing defined benefit plans with either no replacement plan or replacement plans without pension opportunities or adequate retirement savings opportunities. And in an environment where plans are sponsored on a voluntary basis only, the government may need to take a more aggressive approach in terms of inducing employers to sponsor plans. He finished by soliciting member feedback on his bill, insisting that SAFE was still a "work in progress" and that any thoughtful criticisms would be appreciated.

Meeting of June 12, 1997

Testimony of Brian Graff, Executive Director of the
The American Society of Pension Actuaries, and
George Taylor, President of
The National Retirement Plans Services

According to George Taylor, everyone recognizes "the absolute desperate need for a defined benefit plan in the small business arena." He also shared his personal experience of the drop in the number of defined benefit plans. Ten years ago, his firm administered 1,200 qualified retirement plans, and exactly half were defined benefit plans. Today, his firm administers 1,000 plans, and only 76 are active defined benefit plans. He attributed this drop broadly to the full funding limits, PBGC premiums, minimum top heavy benefits and "all of the other negative pieces of legislation that obviously have been biased to the small business owner." Brian Graff noted that a bipartisan package of pension proposals, including the SAFE plan, was to be introduced by Senators Graham, Hatch and Grassley today. Mr. Taylor then opened the meeting up for general discussion.

Mr. Taylor began the discussion by responding to a question previously directed to Congressman Pomeroy. A Working Group member had wondered whether the SAFE plan was "too rich," that is, whether removing the Internal Revenue Code § 415 limits would create a plan which favors the most highly compensated professionals. Mr. Taylor pointed out that under the SAFE plan, an employee would need to work at least 20 years to accumulate 100% of pay. Even an employee with "very exceptional earnings" would need at least 18 years to achieve the level of compensation which, in the "current qualified plan arena," could be achieved within a ten year period.

While the SAFE plan utilizes a funding structure designed to produce a minimum benefit, there is no guarantee that it will always achieve this goal. In particular, the SAFE plan does not create any post-separation obligation on employers to provide a specific level of benefit. He explained that the underlying investments in a SAFE plan would be in an annuity contract with a guaranteed minimum retirement benefit. However, there is no 100% guarantee: should the balance in a participant's account not be sufficient to purchase a SAFE annuity with the full minimum benefit, the employer would instead purchase an annuity with the highest value possible. Mr. Taylor pointed out that it would be unlikely for an employee to find himself in that position.

In ASPA's view, there is no role for the PBGC in SAFE plans because the funding method used—the unit credit funding method—requires that the employer contribution equal whatever is necessary to buy the benefit using the five percent interest rate. In any year in which plan reserves fell below the value of the benefit, the employer would be required to make an additional contribution. According to Mr. Taylor, the SAFE plan must parallel SIMPLE and provide small employers with a no-risk plan with a known commitment on an annual basis. A large part of the risk is borne by the guarantor who, at least under the SAFE annuity, is the insurance company. In response to a number of questions with respect to the minimum contributions requirement, Mr. Taylor noted that the major life insurance industry trade association, the American Council of Life Insurance, had endorsed the element of a guaranteed minimum rate of return, and that in terms of "teeth," the minimum funding of standard accounts rules still apply.

Mr. Taylor would not recommend the SAFE plan to the business owner-professional whose main objective is to maximize investment yield for themselves. He viewed the SAFE plan as ideal for the older business owner (45+ years of age), who is looking for a way to construct a retirement program that will provide a reasonable level of benefits for him and his employees to retire on, but not necessarily to maximize his deductions. Mr. Taylor also remarked that the percentage of large companies which froze existing pension plans when they created defined contribution plans was very high. In his opinion, the cause of this drop was the current rules and regulations: the full funding limits, PBGC premiums, minimum top heavy benefits and other legislation have been inordinately difficult for small employers to deal with.

Another concern raised about the SAFE proposal was the adequacy of employee protection, in the absence of PBGC insurance, against employers stealing pension trust assets or paying plan assets out to someone other than the rightful beneficiary. Mr. Taylor admitted that although all assets were required to be invested in marketable securities, there was still a risk of benefit misallocation, although he reminded the Work Group that the vast majority of small business owners were not subject to the PBGC currently<38>. One Working Group member suggested independent third party management for the SAFE trust. Mr. Taylor agreed that independent third party management should be considered, but remarked that this would add another level of (undesirable) administrative expense to sponsoring the plan. Another member of the Group noted that a former Working Group had taken the position that professional third party management should be required, and commented that this would diffuse criticisms regarding PBGC guarantees.

Answering a question regarding the amount of actual good removing PBGC protection would do for small business owners, Mr. Taylor remarked that since the PBGC doesn't pay liabilities and only covers the difference if the company goes bankrupt, the benefit of PBGC protection just doesn't justify the cost per participant. He later admitted that setting up a third party trustee would prevent employers from essentially setting up a plan as "one more pot to steal from."

Responding to a request for analysis regarding the kind of incentive needed for employers to expand defined benefit plan coverage, Mr. Taylor replied that the Academy of Actuaries has offered some statistics on that topic. He noted that plans were more often terminated due to the uncertainty of contributions rather than cost. He also commented that if that is true, he could see no solution to theory that defined benefit plans were targeted during mergers as dispensable.

SAFE plans would not be available to employers with more than 100 employees primarily in order to parallel the SIMPLE legislation.

A member of the Working Group concluded by bringing up the issue of leakage. Congressman Pomeroy had pointed out that defined benefit plans would become popular only if they had "marketplace appeal." Unfortunately, some marketplace appeal came from the ease of using some funds (money from 401(k)s, for example) to satisfy current needs. The Working Group member was pleased to see that the SAFE proposal raised the premature distribution penalty from 10% to 20%. In addition, he suggested prohibiting pre-retirement distributions before the employee reached the age of 55.

Meeting of July 17, 1997

Testimony of Shaun O'Brien
Benefits Analyst for the AFL-CIO
Public Policy Department

Mr. O'Brien presented the views of the AFL-CIO Public Policy Department. Mr. O'Brien noted the shift in the character of pension coverage from employer-paid defined benefit plans to voluntary savings programs, including 401(k) and SIMPLE plans and its serious implications for retirement policy. According to Mr. O'Brien the primary criterion for evaluating private pension policy should be whether changes to the retirement system contribute to the distribution of retirement benefits across the elder population. Organized labor is concerned about the shift towards 401(k) type retirement plans because of their failure to deliver retirement security to average workers. Since 401(k) plans are primarily contributory savings plans, "you have to pay to play, and study after study indicates that low wage workers are considerably less likely to do so." Moreover, efforts to expand coverage with 401(k) type plans are likely to fall short of expectations.

Mr. O'Brien expressed concern that participants in 401(k) plans are overly conservative and make sub-optimal investment choices. He also expressed concern about easy access to defined contribution plan retirement savings through plan loans, hardship withdrawals and post separation distributions which dilutes defined contribution plans value as retirement vehicles. He noted that with improvements in mortality, there is greater risk that participants will outlive their defined contrition plan accumulations.

Mr. O'Brien recommended several efforts for the Advisory Council to undertake. First, more careful analysis of From 55000 data is needed to understand trends, particularly among large employer defined benefit plans. He stated that there is anecdotal evidence of a subtle shift as companies enhance defined contribution plans and de-emphasize defined benefit plans that has not been adequately analyzed. Second, he noted that more needs to be understood about how employers are funding defined benefit plans. Third, jointly-trusteed multiemployer plans should be studied as a model for a simplified defined benefit plan for small employers because they pool risks and provide economies of scale that result in lower per participant costs and eliminate complexity by providing completely outsourcing of administration.

Meeting of July 17, 1997

Testimony of David Hirschland
Assistant Director of the United Auto Workers
Social Security Department

Mr. Hirschland noted that the United Auto Workers (UAW) had a long standing interest in defined benefit plans. He said that the UAW negotiated the first defined benefit plan in the auto industry in 1949 and since that time has always favored defined benefit plans as the best way to provide retirement income to supplement Social Security. However, Mr. Hirschland noted that UAW members are covered by both defined benefit and defined contribution plans, solely and in combination with each other.

Mr., Hirschland noted that defined benefit plans are insurance vehicles, while defined contribution plans are not. While there may be some group purchasing efficiencies in defined contribution plans, there is no risk transfer or pooling to assure the adequacy of retirement income over a retirees lifetime.

Defined benefit plans are more economically efficient than are defined contribution plans, according to Mr. Hirschland. First, investment expenses are higher in 401(k) programs because individuals are making investment decisions so transaction costs are higher. Second, aggregate returns are lower in defined contribution plans because older defined contribution participants are less able to tolerate risk and, with less risk, there is a commensurate lower return. Third, investment decisions are made by participants rather than by investment experts. Fourth, defined contribution plans cannot provide subsidized benefits, including subsidized joint and survivor benefits and early retirement benefits as well as full benefits in the event of disability benefits or a plant closing.

Mr. Hirschland said that a major concern expressed about defined benefit plans is that they do not work well for individuals who change jobs often or who begin work late in life. However, cash balance plans provide a solution to premature termination of employment by providing an accrual greater than a traditional final pay defined benefit plan during the earliest years of participation. Cash balance accruals are more equal year to year. Mr. Hirschland also recommended multiemployer plans as a model to be emulated because they address the issues of risk and portability, because employees can carry their pension entitlement from employer to employer as they change jobs, and because multiple participating employers collectively assume the risks of offering a defined benefit plan. Mr. Hirschland suggested that multiemployer type plans should be promoted, perhaps through government incentives.

Mr. Hirschland concluded by suggesting that consideration be given to a system which combines a multiemployer structure with a cash balance type benefit formula which indexes benefits.. He emphasized that our national retirement policy should not only recognize that pension coverage is important, but should also recognize that, all other things being equal, defined benefit plans are to be preferred to defined contribution plans.

Meeting of July 17, 1997

Testimony of Judith F. Mazo
The Segal Company, for The National
Coordinating Committee for Multiemployer Plans

Ms. Mazo, appearing on behalf of the National Coordinating Committee for Multiemployer Plans began by endorsing the importance of Mr. Hirschland's comments on the need for portability to be defined as a seamless retirement income program accrued through a succession of jobs. She noted that cash balance plans promote portability, but their growth had been hindered by the inability of the Internal Revenue Service to work their way through technical issues and provide reasonable guidance. She also endorsed Mr. Hirschland's theme of the importance of promoting defined benefit plans.

Ms. Mazo said that a strength of defined benefit plans, that is, its savings are "hidden", is also one of its weaknesses. Their advantage is that since they are "hidden," the savings are there when the employees need them at retirement and they cannot be tapped into prior to that time. Since they are hidden, however, employees often fail to appreciate their value. Communication is at the heart of this issue. Employers too often view pensions as a human resources management tool to recruit employees. Viewed in this light, perhaps defined benefit plans appear to be paternalistic. However, Ms. Mazo argued that if paternalism means an employer-sponsored, employer-funded retirement plan, that was a good thing for employees, for employers and for society at large. Employers who provide defined benefit plans are good corporate citizens and ought to be recognized as such, perhaps through tax code incentives.

Focusing on the lack of plan formation among small employers, Ms. Mazo commented on the desirability of key employees having a stake in the plan. The fact that owner-run companies can provide benefits for owners through pension plans does not make them bad so long as there are appropriate rules in place to balance the benefits paid to the owner with the benefits paid to other employees.

Important models of successful defined benefit plans are: Taft-Hartley multiemployer plans, Social Security and state and local government plans—all of which align the interests of a board cross section of employees in the plan, have significant economies of scale and have expert administrators.

According to Ms. Mazo, the advantages of defined benefit plans have been eroded in recent years by regulatory changes. Design flexibility has been hampered by: overly detailed non- discrimination and coverage rules, lower limits on benefits, the cap on includible compensation, the minimum participation rule, separate line of business rules and other controls, rigid anti-cutback rules that prevent plan streamlining, technicalities on early retirement, actuarial equivalence, incidental death benefit rules and related subsidiary standards, court interventions and overzealous funding constraints. Deterrents to conservative funding--including the excise tax on nondeductible contributions and the current liability minimum funding cap--undermine the usefulness of pension plans as long-term retirement programs. The problem is not only the regulations themselves, but the constantly changing rules.

Ms. Mazo did not favor a simplified defined benefit plan solution for small employers because it eliminates flexibility. This model seems to solve the complexity problem by giving the plan sponsor just one answer. A better solution would be to retain flexibly in order to give employers the chance to shape their plan to meet employment objectives.

Ms. Mazo also said that the minimum funding rules should better distinguish between plans that are underfunded because an employer has been dragging its feet and a plan that is underfunded because it is new.

Ms. Mazo recommended that the Advisory Council look to multiemployer plans as a model, although she acknowledged that some of the key features are not replicable in a non-union context. First, multiemployer plans are typically more egalitarian and less complex than the integrated, pay based formulae of single employer plans. As a result they are easier to communicate and understand and employees have a higher level of appreciation for the plans. Second, there is pooling of assets by employers, which is enforced by the union. This permits sufficient financial stability to permit attractive features, like subsidized early retirement and spousal benefits, early retirement windows and specially designed payment forms that otherwise only large employers could afford. Third, there is more latitude in plan design because regulators feel that a union is an equal partner with the employer in making decisions and because union members are, by in large, not highly compensated. Also, when a plan is large, it is less likely that there will be highly targeted tax and design manipulation that is characteristic of some small employer plans.. Fourth, the hallmark of multiemployer plans is their portability. They provide full benefit portability for employers as they move from job to job within the sponsoring unions jurisdiction. Moreover, many multiemployer plans have reciprocal arrangements with other plans affiliated with the same international union to provide complete portability for work under union contract anywhere in the country. Fifth, there is more legal flexibility in setting funding policy for the plan as a whole because employer contribution rates are set in collective bargaining. As a result employers get absolute predictability of costs during the term of a collective bargaining agreement. Sixth, the plan rather than employers have the investment risk and the opportunity to benefit, on behalf of participants, from investment gains. Seventh, although overregulation is a problem for multiemployer plans, but employers do not have a compliance obligation other than to make required contributions. In effect, plan administration has been outsourced. Eighth, because the benefits are negotiated as part of the collective bargaining process, the plan is communicated and better appreciated by employees.

Meeting of July 17, 1997

Testimony of Congressman Sam Gejdenson

Mr. Feen introduced Congressman Sam Gejdenson (D-CT) who co-chairs the House Democratic Caucus Task Force on Retirement Security. Congressman Gejdenson recently introduced the H.R. 1130, The Retirement Security Act of 1997, in order to expand pension coverage, increase portability, make retirement plans more secure and achieve pension equity for women.

Congressman Gejdenson noted some of the reasons for the current Congressional interest in pension reform: 51 million workers lack pension coverage, there is a gender gap in retirement benefits, people are living longer, family structures have changed and employees are switching employers more frequently. Congressman Gedjenson's legislation, which has 84 Democratic cosponsors, addresses each of these issues. However, as requested, he focused his comments on elements of his bill which would help promote defined benefit plans, particularly among small businesses. They included giving employers a $500 tax credit to cover the costs of starting a small plan, repealing the 150% of current liability full funding limit, repealing the limited scope audit , and doubling the size of the maximum PBGC insured benefit.

Congressman Gejdenson asked the Advisory Council to make a clear statement of achievable goals in its Report. He suggested that Council members call on the chairs of Congressional committees with jurisdiction over retirement policy to discuss the Council's recommendations.

Mr. Francis Creighton, Congressman Gejdenson's Legislative Assistant, responded to questions posed by the Working Group on H.R. 1130, including the provision requiring consent of a spouse for distributions from defined contribution plans and elimination of the permitted disparity (Social Security integration) rules. Mr. Creighton suggested that Congressman Gejdenson was open to further discussions with the business community of any concerns they might harbor about these proposals.

Meeting of September 17, 1997

Testimony of Edward Friend
President and Chief Executive Officer of EFI Actuaries

Mr. Friend compared a defined contribution system of retirement benefits to Joe Camel tobacco advertising to enlist teenager smokers. Large defined contribution account balances are "cool," just like Joe Camel. According to Mr. Friend, employers are reluctant sponsors, "tobacco harvesters", of a product promoted by brokers and mutual funds, the "tobacco manufacturers"; whereas defined benefit plans "have no outspoken advocates...no constituents...other than yesterday's leaders who are characterized as old fashioned and paternalistic."

Mr. Friend emphasized that defined contribution plans provide either too much or too little and said that there was no retirement planning, no objective and no retirement policy embodied in a defined contribution plan based system. For a defined contribution plan to provide a retirement benefit of 60% of final average pay, accumulations must equal 600% of final pay, which, according to Mr. Friend, requires setting aside 10% to 15% of pay each year for 30 years and not withdrawing funds for pre-retirement purposes along the way. Few advocates of defined contribution plans appreciate this point, according to Mr. Friend. Again, according to Mr. Friend, while employees are driving this change to defined contribution plans, they do not realize the problems created when moving away from a defined benefit plan based system.

Mr. Friend contended that the most dangerous component of defined contribution plans is the pre-retirement distribution opportunity, which he characterized as "leakage" from the "house of retirement." He recommended that defined contribution plans be discouraged and their most "injurious component", pre-retirement lump sums, be eliminated by discontinuing tax preferences for any employee contribution to a plan which permits the distribution of lump sums prior to retirement. In addition, Mr. Friend recommended the creation of two types of rollover IRAs, one of which allows rollovers from plans which permit pre-tax employee contributions and from which distributions are not available prior to age 591/2 without penalty and the other which has no such restriction.

Mr. Friend also recommended that pre-tax employee contributions be permitted for private sector defined benefit plans in order to "level the playing field."

In order to discourage leakage of small sums out of defined benefit plans, Mr. Friend recommended that the PBGC be prohibited form collecting premiums on small sums which could otherwise be distributed to terminated employees with vested deferred benefits prior to retirement. If employers do not wish to maintain small accrued benefits, employers should be permitted to transfer these amounts to a Social Security administered program.

Mr. Friend noted that employers say they do not want the investment risk associated with a defined benefit plan, but assuming the investment risk is advantageous because it could produce experience gains and reduce employer costs. Mr. Friend stressed that employers can weather out the investment volatility in a defined benefit plan while older participants in a defined contribution plan cannot. He also noted that there are other ways to reduce costs including: increasing retirement ages, changing from a final pay to a career average benefit or installing a maximum on service credits.

Small employers, in particular, avoid defined benefit plans because of the requirement that they contribute annually, without skipping. According to Mr. Friend, the solution for small employers is to create a simplified program defined benefit plan for small employers, administered through the Social Security Administration and paid for by additional wage withholding. <39>

Mr. Friend concluded by calling for a review of our national retirement policy now. He warned that defined benefit plans are being frozen or allowed to recede, while defined contribution plans are being added, supplemented and improved. The longer we wait to change the rules, he concluded, the more difficult it will be to craft satisfactory solutions.

Disclaimer: *Official Transcripts/Executive Summaries of the Advisory Council on Employee Welfare and Pension Benefit Plans are available for a fee from the DOL- contracted official court reporter, Bayley Court Reporting, for the April through October, 1997 meetings. Bayley's number in Washington is 202-234-7787 and the contact is Mike Shuman. As of the November meeting, the DOL's official court reporting contract changed and that contractor is Executive Court Reporting at 301-565-0064.

Any item in the index **(double starred) is available from the private source, e.g. association, company, etc., as it is proprietorial in nature. It is not in the purview of the department to distribute private organizations' sales and marketing materials.

The final report of the Working Group will be available via hard copy from the Public Disclosure Office of the Pension and Welfare Benefits Administration at 202-219-8771, or via the Department of Labor's Internet Address: http://dol.gov/dol/pwba around the first week in December, 1997. Questions regarding the Council charter, membership, nominations process, study issues and other related matters may be addressed to

Sharon Morrissey, Council Executive Secretary at 202-219-8921 or 202-219-8753 or via fax at 202-219-5362.

VI. EXHIBITS AND WRITTEN MATERIALS RECEIVED

The following written, videotape and other material was submitted to the Working Group and was considered by it in its deliberations. The listed material is part of the public record and is available for review at the Department of Labor.

April 8, 1997: Working Group on Merits of Defined Contribution and Defined Benefit Plans With an Emphasis on Small Business Concerns

a) Agenda

b) *Official Transcript

c) *Executive Summary of Transcript

d) Washington Post Sunday Magazine Feature on Hilton Hotel Workers, written by Peter Perl, April 6, 1997 (introduced as topic by Michael Fanning)

e) **Information from the Employee Benefits Research Institute, provided as a follow-up to testimony presented by Dr. Paul Yakoboski, research analyst on April 8.

1. 1996 Data on the Mobility of American Workers

2. Various Tables from the EBRI Special Report and Issue Brief, September 1994.

3. EBRI Education and Research Fund Newsletter of October 1996 on

"Growth in State and Local 457 Plan Popularity Continues Through 1995."

4. More EBRI tables on Private Pension Plans and Participants including:

5.1 - Summary of Private-Sector Qualified Defined Benefit Plans and Participants, Selected Years 1975-1993;

6.1 - Summary of Private Sector Qualified Defined Benefit and Defined Contribution Plan Trends, Selected Years 1975-1993;

5.4 - Summary of Private-Sector Qualified 401(k) Cash or Deferred Arrangement Trends, 1984-1993;

6.2 - Private Sector Qualified 401(k) Cash or Deferred Arrangement Financial Trends.

5. Statement before the House Ways and Means Committee by Dr. Yakoboski, on March 10, 1997, re savings and investment provisions in the Administration's fiscal year 1998 Budget Proposal.

6. Questions and Select Charts from EBRI's 1996 Retirement Confidence Survey conducted by Mathew Greenwald & Associates.

7. Hybrid Retirement Plans, the Retirement System Continues to Evolve, EBRI Special Report SR-32/Issue Brief Number 171, March 1996.

8. "Changes in DB and DC Plans Occurring Mainly Among Small Plans", excerpted from EBRI's monthly newsletter March 1994.

f) **EBRI in Focus from EBRI Notes, March 1997, provided by Kenneth Cohen. g) Pre-packet of EBRI statistics prepared by Ken Cohen as well as cartoon "The Employees have to assume a share of the blame for allowing the pension fund to become so big and tempting."

h) **ABC-TV Nightline Segment on "Pension Plans vs. 401(k) Plans" from March 7,1997 (master copy in archive file), provided Kenneth Cohen.

i) Packet provided to all members of the Council on the Health Insurance Portability and Accountability Act (HIPAA), prepared by EBSA's Public Affairs Division.

j) Series of articles provided by Neil Grossman, Council member and representative of the Association of Private Pension and Welfare Plans including: 1. "Alternative Retirement Programs" by Scott J. Macey and George F. O'Donnell for Pension & Benefits Week, January 16, 1996.

2. "Hybrid Pension Plans: A Solution for Some Employers" by Arlene Munson and Frederick W. Rumack, Journal of Compensation and Benefits, October, 1995.

3. "A Pension Plan for Today" by Gerald I. Angowitz and Eric P. Lofgren, Financial Executive, January/February 1995.

4. "What's New in Pensions: Defined Lump Sum Plans" by Beverly G. Landstrom and Thomas B. Bainbridge, for Compensation & Benefits Review, no date listed.

May 13, 1997: Working Group on Merits of Defined Contribution and Defined Benefit Plans With An Emphasis on Small Business Concerns

a) Agenda

b) *Official Transcript

c) *Executive Summary of Transcript

d) **"Defined Benefit Plans Combined with Voluntary Savings Plans Continue to Work Well for State and Local Government Employees" by Cynthia L. Moore, Washington Counsel, National Council on Teacher Retirement, in testimony before the ERISA Advisory Council, plus two additional handouts from Ms. Moore including, "Section 415 of the Internal Revenue Code Impairs the Pension Portability of State and Local Government Employees" and "Types of Service Credit that Members of the Ohio State Teachers' Retirement System May Purchase".

e) Outline of Testimony by Patricia Scahill, Actuarial Sciences Associates

f) Presentation to W.G. on Cash Balance Plans by Lawrence J. Sher and Theresa B. Stuchiner, Kwasha Lipton Group of Coopers & Lybrand

g) **Transcript of the ABC News Program Nightline of March 7, 1997, on "When You Retire, How much are you willing to gamble?" (Limited copies of actual program also are available.)

h) American Society of Pension Actuaries (ASPA) Proposes the Secure Assets for Employees (SAFE) Plan for Small Business provided by Brian Graff, American Society of Pension Actuaries, who is set to speak in June.

June 12, 1997: Working Group on Merits of Defined Contribution and Defined Benefits Plans With An Emphasis on Small Business Concerns

a) Agenda

b) *Official Transcript

c) *Executive Summary of the Meeting

d) Congressional Record Entry on "Secure Assets for Employees (SAFE) Plan Act of 1997, page E964, provided for Congressman Earl Pomeroy (D.N.D.) Appearing before the committee

e) Written Testimony of George Taylor, President of National Retirement System Plan Services, and Vice President of the American Society of Pension Actuaries (ASPA) on the SAFE Act.

July 17, 1997: Defined Contribution vs. Defined Benefit Plans With an Emphasis on Small Business Concerns

a) Agenda

b) *Official Transcript

c) *Executive Summary of Transcript

d) Prepared Testimony of Shaun C. O'Brien, Public Policy Department, AFL-CIO and "Pension Coverage Initiatives: Why Don't Workers Participate?" by Richard P. Hinz and John A. Turner, both of EBSA, dated March 1996, and cited by O'Brien during his testimony

e) Pros and Cons of Defined Benefit Plans for Small Employers: Lessons From the Multiemployer Plan Experience by Judy F. Mazo, the Segal Company on behalf of the National Coordinating Committee for Multiemployer Plans (NCCMP)

f) Prepared Testimony of David Hirschland, Assistant Director of the Social Security Department of the International Union of United Automobile, Aerospace and Agricultural Implement Workers of America, United Auto Workers (UAW)

g) Text Supplement, BNA, Joint Committee on Taxation Staff Comparison (JCS-11-97) of Revenue Provisions in Tax Reconciliation Bill (HR2014) as Passed by House and Senate, Issued July 11, 1997.

September 16, 1997: Defined Contribution vs. Defined Benefit Plans With an Emphasis on Small Business Concerns

a) Agenda

b) *Official Transcript

c) *Executive Summary of Transcript

d) Discussion Group Outline and Rough Draft of Group's Final Report done by Mr. Cohen (Not available to the public)to get a head start on the Working Group's charter

e) Written Testimony of Edward H. Friend, ERI Actuaries, Inc. including the following attachments:

1. "2030" "A Cautionary Tale" from the McGinn Forum, June 1996.

2. Benefit Payable at Age 65 Chart in DB v. DC Systems

3. Provisions of Possible Supplemental Defined Benefit Pension Plan,

Administered by Social Security Administration prepared by Robert J. Meyers, and

4. "Tax Policy versus Pensions: Cease-Fire in Sight?" by Ron Gebhardtsbauer, appearing in the February 1997 edition of the American Academy of Actuaries publication.

f) **"Towards an Understanding of the Defined Contribution Trend" a draft by Jack L. Vanderhei, PhD., and Kelly A. Olsen, M.S.W. Employee Benefit Research Institute, provided to W.G.

g) Defined Benefit Plans Versus Defined Contribution Plans: A Reassessment by Donald S. Grubbs, provided to W.G. by Zenaida Samaneigo

h) Written Testimony from Gregory Conko, Policy Analyst, Competitive Enterprise Institute

October 7, 1997: Defined Contribution vs. Defined Benefit Plans With an Emphasis on Small Business Concerns

a) Agenda

b) *Official Transcript

c) *Executive Summary of Transcript

d) Guest Column: Fine-Tuning 401(k) Plans, by Donald Oderman, from September 29. 1997 Defined Contribution News, provided by member Thomas Mackell, Jr.

e) Spreadsheet describing various proposals concerning defined benefit plans made in connection with the Taxpayer Relief Act, provided by member Kenneth S. Cohen

f) First draft of the Working Group's Reported, dated August, 1997 (not available to public)

g) "Small Businesses Lack Retirement Plans, Fidelity Poll Says," from Dow Jones Newswire, September 30, 1997

h) Pension Insurance Data Book, 1996 by the Pension Benefits Guaranty Corporation

November 12, 1997:Defined Contribution vs. Defined Benefit Plans With an Emphasis on Small Business Concerns

a) Agenda

b) *Official Transcript

c) *Executive Summary of Transcript

d) I.A.M. National Pension Fund brochure, Defined Benefit Pension Plans vs. Defined Contribution Savings Plans (Rev. 4/91) provided by member Joyce A. Mader

e) I.A.M. Defined Benefit Plan videotape, provided by member Joyce A. Mader

f) Final draft of the Working Group's Report, dated November 13, 1997

(Anticipated to be available the first part of December, 1997, in hard copy from the EBSA Public Disclosure Room at 202-219-8771 or via the Internet)

VII. MEMBERS OF THE WORKING GROUP

KENNETH S. COHEN
Chair of the Working Group
Massachusetts Mutual Life Insurance Company

MICHAEL R. FANNING
Central Pension Fund International Union
of Operating Engineers & Participating Employers

CARL S. FEEN
Vice Chair of the Advisory Council
CIGNA Financial Advisors

NEIL M. GROSSMAN
Association of Private Pension & Welfare Plans

MARILEE P. LAU
KPMG Peat Marwick

RICHARD McGAHEY
Neece, Cator, McGahey & Associates, Inc.

THOMAS J. MACKELL, JR.
Vice Chair of the Working Group
Simms Capital Management, Inc.

JOYCE A. MADER, ESQ.
Chair of the Advisory Council
O'Donoghue & O'Donoghue

VICTORIA QUESADA, ESQ.

ZENAIDA M. SAMANIEGO
Equitable Life Assurance Society, U.S.

BARBARA ANN UBERTI
Wilmington Trust Company

JAMES O. WOOD, ESQ.
Louisiana State Employee's Retirement System

Footnotes

<1> In recent years the ERISA Advisory Council has prepared the following reports on defined contribution plans: Report of the Working Group on Defined Contribution Adequacy (November 5, 1995); Report of the Working Group on Defined Contribution Plans With an Emphasis on 401(k) Plans (November 10, 1994); and Report of Interim Findings and Preliminary Conclusions of the Defined Contribution Plan Working Group (November 9, 1993). Copies of these and other reports of the ERISA Advisory Council may be obtained by written request to Ms. Sharon Morrissey, Executive Secretary of the ERISA Advisory Council, U.S. Department of Labor, Employee Benefits Security Administration, Washington, D.C. 20210.

<2> A summary of the testimony received is set forth in Part V below. A list of written and other testimony reviewed by the Working Group is set forth in Part VI below.

<3> The Working Group would like to express its appreciation to Ms. Karen F. Kanjian, a third year law student at Temple University School of Law and a Summer Associate at Mass Mutual's Law Division, who helped prepare the earliest drafts of the Working Group Report.

<4> U.S. Department of Labor, Private Pension Plan Bulletin, Abstract of 1993 Form 5500 Annual Reports (hereinafter 1993 Abstract) , Number 6, Winter 1997 (Final 1993)

<5> 1993 Abstract, Table A1., p. 4.

<6> Id. $1.25 trillion was invested in defined benefit plans vs. approximately $1.07 trillion invested in DC plans.

<7> Figure from the U.S. Department of Labor, as of July 1997.

<8> In 1993, the U. S. Department of Labor reported a total of 702,097 pension plans. 1993 Abstract, Table A1., p. 4. Today, the U.S. Department of Labor estimates 690,000 plans exist. (July 1997)

<9> 1993 Abstract, Table A6., p. 9.

<10> 1993 Abstract, Table A2., p. 5.

<11> Id. The Form 5500 number for participants receiving benefits does not include those former defined contribution participants who received lump sum distributions of their benefits in prior years. Most recipients of lump sum payments are defined contribution participants.

<12> Id.

<13> 1993 Abstract, Table A1., p. 4.

<14> 1993 Abstract, Table A5., p. 8.

<15> 1993 Abstract, Tables A1 and A2., p. 4-5.

<16> Pension Insurance Data Book 1996, PBGC Single-Employer Program, Number 1, Summer 1997, PBGC Corporate Policy and Research Department.

<17> Id. Table A-13, PBGC-Covered Participants (1980-1996).

<18> Celia Silberman, "Changes in DB and DC Plans Occurring Mainly Among Small Plans", EBRI Notes, Vol. 15, No. 3, March 1994.

<19> Kelly Olsen and Jack VanDerhei, " Defined Contribution Plan Dominance Grows…", EBRI Special Report SR- 33 and EBRI Issue Brief No. 190 at p.20-21 (October, 1997).

<20> Testimony of Dr. Paul Yakoboski, Patricia Scahill, Lawrence Sher, Terry Stuchiner, David Hirschland and Judith M. Mazo. See EBRI Special Report, Hybrid Retirement Plans: The Retirement Income System Continues to Evolve, SR-32/ Issue Brief No. 171, March 1996.

<21> While defined benefit plans are prohibited from making in service distributions prior to retirement, they can make pre-retirement distributions upon termination of employment at any age. See Internal Revenue Code Section 411(a)(7) which permits distributions of the present value of the vested accrued benefit of up to $5,000 without the participant's consent and for amounts greater than $5,000 with the participant's consent.

<22> Study by Buck Consultants, cited in V. O'Connell, "Old Style ?Defined Benefit' Pensions May Stage Big Revival With Tax Law", Wall St. J. (August 14, 1997)

<23> If the current liability limit were repealed, defined benefit plans would still be subject to the full funding limitation of Internal Revenue Code Section 412(c)(7), which is an amount equal to the accrued liability, including normal costs, under the entry age normal funding method.

<24> Id.

<25> Christopher Drew and David Cay Johnson, "Special tax Breaks Enrich Savings of Many in the Ranks of Management," New York Times, Section 1, Page 1, Column 1 (October 13, 1996). Also see Diana B. Henriques and David Cay Johnson, "Managers Stay Dry as Corporations Sink," New York Times, Section A, Page 1, Column 1 (October 14, 1996).

<26> Edward C. Hustead, "Trends in Retirement Income Plan Administration Expenses," PRC Working Paper 96- 13(University of Pennsylvania, 1996) cited in Olsen and VanDerhei, supra, at p. 13-14.

<27> Internal Revenue Service Notice 97-58, 1997-45 I.R.B. 7 (November 10, 1997).

<28> Internal Revenue code Section 415(b)(4).

<29> Id.

<30> Governmental defined benefit plans may allow participants to contribute on a before-tax basis. See Internal Revenue Code Section 414(h).

<31> Internal Revenue Service Notice 97-58, 1997-45 I.R.B. 7 (November 10, 1997).

<32> ERISA Section 105.

<33> The ERISA Advisory Council recommended in 1996 that defined contribution plans be required to provide automatically vested account balance statements annually or more frequently. See ERISA Advisory Council, "Report of the Working Group on Third Party Trustees" (November 13, 1996).

<34> This confirmed Dr. Yakoboski's earlier testimony—not surprisingly considering they used the same database for their information.

<35> Mr. Hinz subsequently noted that the Department of Labor developed the analysis which makes the distinction between primary and secondary plans and has published data demonstrating those trends for a number of years.

<36> H.R. 1656, introduced on May 16, 1997 and co-sponsored with Representatives Nancy L. Johnson (R-CT) and Harris Fawell (R-IL).

<37> See the July 17, 1997 testimony of Congressman Sam Gejdenson summarized below for a discussion of this legislation.

<38> ERISA Section 4021(b)(13) exempts plans sponsored by professional service employers with 25 or fewer employees from PBGC coverage.

<39> Mr. Friend distributed a July 22, 1997 summary prepared by Robert J. Meyers, former Chief Actuary of Social Security, describing such a program.

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