J -.n -E r-nrolled Actuaries ReportVolume 9, Number 2 American Academy of Actuaries April 1984

The 1984 Enrolled Actuanes Meeting drew arecord 1,217 attendees. This issue of the EnrolledActuaries Report is devoted entirely to sum-maries o f selected meeting events.

Les Shapiro explains disciplinary procedures .

The Joint Board'sDisciplinary Policyby Richard G. Schreitmueller

This session was an off-the-record discus-sion of disciplinary case handling by theJoint Board for the Enrollment of Actuar-ies. Moderator Howard Fluhr introducedLes Shapiro, executive director of the JointBoard, to the standing-room-only crowd .After describing how the disciplinary pro-cedures work, Shapiro led a lively openexchange of views on how the joint Boardshould deal with several cases .The Joint Board's disciplinary proce-

dures were described in detail a year ago(see EAR, April I983), but this sessionbrought out a few points :

• Most cases are referred by the InternalRevenue Service (IRS) and involveSchedule B, often stemming from achange of actuary. Possible grounds fordisciplinary action arc incompetence,failure to exercise due diligence, and (themost serious) willful error .

(continued on page 6)

Pension Products Highlighted at ExhibitionThe ninth annual Enrolled Actuaries Meet-ing featured an experiment : fifteen specialexhibits were shown of products gearedtowards the pension actuary . Most of theproducts were computer-based programsassisting the actuary in pension plan designand implementation by processing such fac-tors as client data, employee input, propos-als, valuations, defined benefit and definedcontribution, actuarial gains and losses,funding methods, profit sharing, 401(k)plans, and money purchases, among others .

Interest in these first exhibits was strong .Comments from actuaries attending theexhibitions ranged from "educational,""fascinating," and "I like this kind of thing,"to "let's see more" and "I hope the exhibitsare expanded next year."The response from exhibitors themselves

was equally pleasing . Michael Goldberg ofFinancial Data Planning Corporation saidthe reaction to the exhibits was very good .The interest in his company's products cen-tered on programs for individual small plansof less than twenty-five people. "Actuarieslook mainly for simplicity and effective costsin programs," he said . "We're designingmany of our products for smaller consult-ing firms ."

Systems Strategy representative RichardBenetar said he spent as much as an hourand a half with interested actuaries and

described the experience as "very benefi-cial ." Of prime concern to actuaries, he said,in learning about the employee benefit planvaluation system offered by Systems Strat-egy was whether it could accommodate thediversity of plans used by actuaries .Josiah Lynch of Lynchval Systems said

response was "heartwarming. We foundmany actuaries were interested in 401(k)systems and defined benefit and definedcontribution systems ."The success of the exhibitions has

prompted plans for an enlarged exhibitionin 1985, when it is hoped the number ofexhibitors will increase substantially . Fol-lowing is a list of the companies that appearedin this year's exhibition :PENT AB SJames J. Bagshaw and CompanyQualified Annuity Services and the NewYork GIC Exchange

ACTuarial COMPutations, Inc .Benefit Concepts newsletterSystems Strategy, Inc.Financial Data Planning CorporationDatair Systems CorporationE,G.B . and AssociatesIntac/Smart Pension Software SystemsLynchval SystemsActuarial Computer Technology, Inc .Spencer OrganizationSBC Systems Company, Inc . A

American Academyof ActuariesPRESIDENTA. Norman Crowder

PRESIDENT-ELECTM. Stanley Hughey

VICE PRESIDENTS

John A. FihigerCommittees on Financial Reportingand Standards of Practice

David G. HartmanPublic Service Committees-Insurance

David M. ReadePublic Service Committees-Pensions and Social Insurance

Walter S. RuglandCommittees on Accreditation,Qualification and Communication

SECRETARYCarl R. Ohman

TREASURERBurton D. JayEXECUTIVE DIRECTORStephen G . Kellison

EXECUTIVE OFFICE1835 K Street, N .W. #515Washington, D .C. 20006(202) 223-8196

ADMINISTRATIVE OFFICE500 Park BoulevardItasca, Illinois 60143(312) 773-4204

Enrolled ActuariesReportCHAIRMANCOMMITTEE ON PUBLICATIONSMavis A. Walters

EDITORH.J. Brownlee

ASSOCIATE EDITORSAnthony C. DeutschThomas M . MalloyRichard G . Schreitmueller

MANAGING EDITORErich ParkerPRODUCTION MANAGERM. Kathleen Dearing

CONTRIBUTING EDITORChris Pankow

American Academy of Actuaries1835 K Street, N.W. #515Washington, D .C. 20006Statements of fact and opinion in this publication, including edi-torials and Letters to the Editor, are made on the responsibility orthe authors alone and do not imply or represent the position ofthe American Academy of Actuaries, the Editor, or the membersof the Academy.

FASB Preliminary Viewson Employer's Accountingfor Pensionsby Thomas M. Malloy

Final accounting standards for pensions willnot contain all that is presented in the Pre-liminary Views of the Financial AccountingStandards Board (FASB ) . Neither will newstandards preserve present practice asencompassed by APB No . 8 . So said Tim-othy B . Lucas , FASB staff member, duringthe opening general session . Lucas madethis observation while summarizing thegeneral tenor of the more than five hundredwritten comments received by the Board inresponse to Preliminary Views and therelated Discussion Memorandum , as well asthe close to sixty presentations at recent FASBpublic hearings.In sharing his impressions of the

responses , Lucas observed that there wasclose to a consensus that more useful inlbr-mation about pensions is needed in finan-cial reports . There is not a consensus as towhat that additional information is, or howand where it should he reported .

• There appears to be general support forthe concept of recognizing pensionexpense over the working lifetime of theaffected participants. How this concept isapplied has generated controversy .

• Lucas finds some agreement amongcommentators that the present range ofchoice in cost methods should he nar-rowed . How this is to be done is a sourceof great controversy .

• There appears to be some support forsome form of formal liability recognition,but what liability and the degree it is tiedto expense is extremely controversial .

A pattern of support for concepts andcontroversy as to the how and where ofimplementation is present in virtually everyaspect of the current proposals . The widespectrum of reactions to the Board's pro-posals was evident in the presentation ofLarry B. Wiltse and James . F . A. Biggs.

Wiltse characterized Preliminary Viewsas a good first step , but it doesn ' t go farenough, he believes . He suggested that theproper presentation of pension informa-tion should have considered participants asa special class of secured creditors .

He believes balance sheet recognition ismost appropriate , but would prefer sepa-rate entries for liabilities and assets over thepresently proposed single net pension obli-gations. The income statement should con-tain an expense based on the net change inliability, as well as a revenue item based on

the change in assets adjusted for contribu-tions . Wiltse agreed with the Board thatservice rendered is the significant past eventthat defines the liability, but he rejected theinclusion of probable future earnings in theliability . The intangible asset and measure-ment valuation allowance are unnecessary .Smoothing devices have no place in finan-cial reports. Both the pension obligation andplan assets should be measured on a currentfair market basis.

Biggs' presentation challenged a premisethat is fundamental both to PreliminaryViews and Wiltse's presentation . Hedescribed the pension exchange as oneinvolving the award of future benefits inexchange for future service . He focused onthe rendering of the future service as thecritical event, and said present practicesunder APB No. 8 produces an expenserelated to that service as it occurs .

In further critism of Preliminary Views,Biggs felt the inherent uncertainty of theactuary's calculations disqualified them as abasis for items to be recognized in the bal-ance sheet. The intangible asset, measure-ment valuation allowance, and the pro-posed method of amortization all fail toaccomplish their apparent purpose, accord-ing to Biggs, He further indicated that thepursuit of comparability between reports ofdifferent companies has overwhelmed theneed for one company's reports to be rele-vant and consistent to those of its own pastperiods. The magnitude of pension balancesheet entries could dominate the balancesheet of some firms and detract from thepresentation of the financial results achievedfrom managing the basic enterprise .

In his summary, Lucas indicated that cur-rent plans could have an exposure draft ofnew standards published by the end of thisyear. A comment period, probably anotherround of hearings, and the consequentanalysis could lead to final standards beingpublished in late 1985 .

Thomas M . Malloy is assistant vice president andactuary at Connecticut General Life InsuranceCompany. A

Transcripts and Cassettes

Transcripts of the learning sessionsand workshops will be available in Juneat no cost to attendees and $20 .00 toothers . Cassette tapes of the generaland concurrent sessions are availablefor $8.00 each. Please contact theAcademy office for further infor-mation .

Enrolled Actuaries Report, .April, 1984 2

Stuart Varney, CNN anchor, entertains and informs his luncheon audience with a description of the recent increase in business nevus coverage ontelevision .

The Explosion ofFinancial NewsStuart Varney, senior financial correspon-dent for Cable News Network (CNN) andanchorman for CNN's morning news pro-gram Daybreak, entertained and informedat this year's meeting during a luncheonaddress. He titled his remarks "The Econ-omy : Manipulation by the Media ."

I'm not talking about how the economyis manipulated in smoke-filled rooms bymedia types chomping on cigars . Thereis rio attempt to my knowledge in themedia to manipulate the economy, or aparticular stock, for example, in thatfashion, That doesn't happen . Nor am Italking about a very subtle manipulation[involving] media types [who] try to makethe economy move in a certain direction,or to produce economic and financial newsfor television and radio, which in someway affects the political process, which insome way backs up Mr . Reagan's positionor Mr. Mondale's position . I'm talkingabout what I call the explosion of finan-cial and business news coverage on tele-vision and what that's done to the econ-omy and financial markets .

Varney explained how, in October 1973,the media gave little coverage to the stock

ismarket which, on the 26th of the month,closed at close to an all-time high of 987 .06points. By December 5, the Dow JonesIndustrial had fallen a remarkable 198points . There was little media coverage of

this sharp decline ; none on any of the majornetworks' evening news programs .

However, ten years later, on August 13,1982, the stock market began a rally whichcontinues to this day . In one week, the mar-ket increased by a massive 81 points, butthis time the media not only covered theclimb, but blanketed it. "For the first time,"said Varney, "financial news was suddenlyright up there as a headline . The economyand business were suddenly news, big news .They were the first items on network news ."

What caused the change? "Vietnam wasover. Watergate was over . Beginning inOctober 1973, the economy began to holdcenter stage . The inflation rate graduallycrept up, interest rates gradually movedhigher throughout the latter part of the1970s . That affected mortgage rates, therates you receive on your savings certifi-cates, and so on . Suddenly, the dramaticshifts in the economy started to affect yourmoney and the way you handled yourmoney," said Varney. Other factors, hebelieves, include the advent of cable televi-sion at that time, which allowed for broad-casting of narrower focus, and new tech-nology in visual broadcasting, which allowedfor dramatic presentation of statistics : theycould he flipped over, shrunken, enlarged,changed in color; they could move aboutand would not be lifeless as they had been .

The networks now have specialized eco-nomics reporters because of the increasedinterest in business . Remarked Varney,"Television has altered who speaks for busi-ness. They are media men trained in busi-

ness, and they are not wafflers or peoplewho are riot available to speak on a topic ;businessmen often aren't ."

The popularity of financial news broad-casting has provided anyone who's inter-ested with the means for immediate infor-mation and thus immediate action . Trends,said Varney, happen quickly, can be readquickly, and don't require the services of aninsider, such as a stockbroker . In addition,where people place their dollars for invest-ment has been affected by the media . "IRAs-Individual Retirement Accounts-receivedtremendous media coverage . Investors weretold what they were, where to get them,what they could expect from them, and con-sequently, a lot of money flowed into oneparticular type of investment,"

Varney closed his speech with a questionand answer period, many of the questionscentering on the media's possible biases inreporting which could potentially influenceeconomic factors . One FA queried, "If thecurrent annual rate of inflation is 7% andlast year's rate was 10%, how do you decideto report that the rate of inflation hasdropped or that prices have risen?" Varneyreplied, "I would say, `A downside move inthe rate of inflation was just reported by theLabor Department in Washington : the cur-rent annual inflation rate stands at 7%-that's compared to 10% as last year's level .Prices nevertheless continue to rise at amoderate rate. The outlook is uncertain,' "

A

3 Enrolled Actuaries Report, Apiil, 1984

Recent Revenue Rulingsby Jeffrey A. Levy

Revenue Ruling 83-52 allows for return ofexcess assets due to actuarial error once thepresent value of accrued benefits has beenprovided to plan participants . That was oneof many major issues addressed by theInternal Revenue Service in 1983 : it wasreviewed by attorney Fred Konta in thissession, Recent Revenue Rulings. Also par-ticipating were Ken Yednock, chief of theProjects Branch of the Technical and Actu-arial Division of the IRS and myself.

Ruling 83-52, confirming previous rul-ings, was somewhat overshadowed for cer-tain plans when an IRS directive was releasedin 1983 stating that review would be nec-essary at the national office for plans with asurplus in excess of $1 million . Althoughbilled as a part of a study by Congress ofplan terminations, Konta emphasized thatthis review indicated a definite concern ofthe government on the number and type ofterminations occurring with substantialreversions .

A situation presently under scrutinyinvolves the splitting of a defined benefitplan into two plans ; one covering only activeemployees and one covering retirees . Assetsequaling the present value of accrued ben-efits are allocated to the active employeeplan with all remaining assets allocated tothe plan covering retirees . The retiree planis then terminated with annuities put-chased, and potentially large surplusesreturned to the employer . Whether this sce-nario constitutes a true plan termination isan issue currently under review by the IRS,said Yednock .

What constitutes reasonable actuarialassumptions upon termination was also dis-cussed during this portion of the session .Yednock said that Pension Benefit Guar-anty Corporation (PBCC) assumptions,insurance company rates (where annuitiesare being purchased), valuation assump-tions, and a combination of a reasonablemortality assumption and PBGC interestrates were all considered reasonable .

Final 5717 regulations having some bear-ing on plan termination were released dur-ing 1983. These requirements, which mayrestrict the amount of lump sum distribu-tion to each of the twenty-five highest paidparticipants under a plan, were finalizedwith an important change in the level ofunrestricted benefits . Previously, the regu-lations yielded a maximum unrestricted dis-tribution of $10,000 for each year the planor amendment was in effect . Under the finalregulations, non-restricted benefits for non-

substantial owners are limited to the PBGCbenefit guarantee in a particular year, a muchlarger level than previously allowed .

The effect of elective 401(k) contribu-tions on various discrimination tests andother plan benefits was discussed by Kontain conjunction with Revenue Ruling 83-89 .In particular, this compensation can be usedin testing for discrimination under 401(a),in comparability tests, cross-section tests, andin determining benefits under other plans .This compensation cannot be used, how-ever, in testing for maximum contributionsallowable under Section 404 and in deter-mining maximum benefits under Section415 .

IRS News Release 83-114 was reviewedat the session . The release discussed the$1,000 penalty against employers for failingto file a Schedule B and Revenue Ruling83-110 providing for the coordination ofdefined contribution plans with Old Age,Survivors, and Disability Insurance (OASDI) .Of note was a comment by Yednock indi-cating that the 5 .4% (5 .7%) integration level

in effect will not necessarily be raised asSocial Security contribution levels increase .

The Tax Equity and Fiscal ResponsibilityAct of 1982 (TEFRA) amendment dates, a*described in IRS Notice 83-4, were dis-cussed and are required by the end of thefirst plan year beginning after 1983 . Otheramendments which must also be adoptedwithin this period were noted by Kontaincluding those related to actuarial equiva-lence, suspension of benefits, full vesting atnormal retirement age, and compliance withfinal 415 regulations .

Other private letter rulings were dis-cussed in this session, those dealing with a(unique) situation of funding benefits in asingle taxable year, counting participationunder a terminating defined benefit planfor ten year averaging purposes in a newsavings plan, and a summary of various dis-tribution methods and their tax conse-quences under a defined contribution plan .

Jeffrey A . Levy is an actuary at C .G. Thacher &Associates, Inc. A

Recent Revenue Rulings panel discusses regulations and interpretations that affect enrolled actu-aries .

Valuation Techniquesby Eugene Schloss

for Small Plans

Stanley B. Rossman of Coast Consultants inSan Diego and Robert Schramm of Retire-ment Systems Management Corporation ofSalt Lake City were the panelists for thissession. I served as moderator .

The session generated a discussion ofSection 415 limitations and included severalideas that would enable closely held corpo-rations to increase deductible contributions .Schramm cautioned that small plans willnow be subject to the full funding limitationas a result of the lower dollar maximum .

He said those plans with excess fundingmight consider rolling those amounts intoa defined contribution plan . As a result ofthe $200, 000 limitation on compensation,benefit formulas could be cut back to reducecontribution requirements for rank and fileemployees . Older employees previouslyworked out of a defined benefit plan willcause a substantial expense as a result ofincluding them for the defined benefit planminimum ; Schramm suggested designing adefined contribution plan for those employ-ees .

(continued on page 9)

Enrolled Actuaries Report,April, 1984 4

Top-Heavy Rulesand Regulationsby Dennis J . Graf

Two major points came out of this session :(1) Top-heavy rules represent new policy indealing with discrimination in pension plans ;(2) In drafting regulations, the internalRevenue Service (IRS) needs to carry outthe policies of both the Tax Equity and Fis-cal Responsibility Act of 1982 (TEFRA) andEmployment Retirement Income SecurityAct of 1974 (ERISA) . The panel includedIra Cohen, director of the IRS ActuarialDivision, and William T . Knox, attorney withSchaff, Motiuk, Hornby, Gladstone & Knoxin Flenrington, New Jersey .

Cohen discussed some of the more con-troversial parts of the proposed regulationson top-heavy plans . Questions M-4 and M-8 define those employees for whom mini-mum accruals must be made . Objectionswere primarily in two areas . First, the reg-ulations require the accrual of minimumbenefits (or minimum contributions in con-tributory plans) even for employees whoelected not to make mandatory contribu-tions . Using an example, Cohen showed howsuch a plan could be highly discriminatoryand inconsistent with TEFRA policy, eventhough it satisfied ERISA policy, As a cor-ollary, withdrawal of employee contribu-tions cannot result in a permitted forfeiturein a top-heavy plan .Another area of objection under M-4 has

been the requirement that 1,000 hours con-stitutes a year of accrual service in a top-heavy defined benefit plan. ERISA merelyrequired proration based on a "full year" ;however, setting the "full year" number ofhours high enough could seriously waterdown the minimum accrual requirements .The top-heavy minimum is an absoluteminimum, and the IRS has taken the posi-tion that it is to be based on 1,000 hours . Incontrast, there is a different area of concernin question M-8 : the absence of a 1,000 hourrule. Contributions must be made for a par-ticipant regardless of how few hours heworked. There is a tradeoff-contributionsneed not be made for persons not employedat year end. The latter concept is in linewith established practice and to rule other-wise would be unduly burdensome . Cohensaid that the lack of a 1,000 hour rule fordefined contribution plans is consistent withRevenue Ruling 76-250 and with legislativehistory .Many objections have been raised in

response to questions M-2 and M-6, whichrequire that "compensation" be defined as

(eontrnued on page 8)

General Session audience.

Executive Benefit Plansby Daniel M. Arnold

Rodger R. Patrick of Hewitt Associates and Louis R . Richey of Meidinger, Inc. were panelistsat this session which covered certain non-qualified benefits commonly provided to execu-tives . Howard J . Golden of Towers, Perrin, Forster & Crosby served as moderator .

First, the legal and design issues were explored . Principally, why the interest in executivebenefits was followed by (1) pension plan issues, (2) welfare plan issues, (3) consequencesof Title I plan status, and (4) cafeteria constructive receipt and tax issues . The permitteddiscriminatory plans were listed, with a brief commentary from the panelists .

Second, the various plan types were considered : ERISA excess plans, supplementalexecutive retirement plans, executive medical plans, supplemental group term life insur-ance, and supplemental long-term disability benefits . Each plan was commented on withregard to such considerations as federal income tax, Social Security earnings test, disclosuresto stockholders, ERISA requirements, and financing considerations .

Finally, the mechanics and advantages of alternative methods of funding (self-fundingand insured funding) were discussed . A financial analysis showed the evaluation consider-ations and a case study example under both a self-funded and insured approach . A

Ira Cohen (r) responds to questions on the top-heavy provisions of Section 416 of the code .

5 Enrolled Ar tuariee Report, April, 1984

Implicit vs. Explicit Assumptions : Old Questions , New Argumentsby Thomas K. Custis

While the issue of the use of implicit vs .explicit actuarial assumptions in valuationsfor pension plans was not settled at theEnrolled Actuaries Meeting , there was a gooddiscussion of the various pros and cons .About forty people, mostly in the mediumto large-sized corporate plan area , listenedto and participated in a lively discussionpresented by Dianne Weitzenkauip of Das-kais & Walls , and Barbara Eversberg ofCoopers & Lybrand , and me .

JOINT BOARD(continued.from 1)• In a takeover, the new enrolled actuary

is not explicitly required to review priorworksheets, but must be comfortable basedon the facts and circumstances, includingknowledge of the plan and the prior actu-ary. The new EA must either straightenout any errors or become a party to them .In a transition the prior enrolled actuarysometimes is persuaded to refile Sched-ule B .

• Any suspensions of enrolled actuaries arereported in the Internal Revenue Bulle-tin, giving the name and period of sus-pension. To date, about ten EAs havebeen suspended . Federal privacy law isvery strict and prevents giving out anyother personal information .

The first case discussed involved an EA

I led off with a brief discussion of thebackground and issues related to this ques-tion, pointing out that the issue is not reallyblack and white, but involves a matter ofdegree and perception. Of key importancein assessing the appropriateness of a set ofassumptions is the role that those assump-tions are designed to play ; for example, toprovide for the reasonable allocation of theincidence of plan costs . A desirable set ofactuarial assumptions will result in stableand predictable ongoing costs, as well asrational and explainable changes in costs

who failed to file a tax return and was sus-pended briefly .

In the second, someone signed a Sched-ule B with a change in funding methodwithout having permission from the IRS .His excuse was that his boss had threatenedto fire him otherwise . The consensus wasthat he should have found a wav to finessethis within the rules . Suspended, next case .

In the third situation the actuary, work-ing with a third party administrator, had noclient contact . This is a problem area gen-erally, and the lack of knowledge causedtwo errors. The fourth case involved anactuary who made a substantial compu-tional error and tried to cover it up thefollowing year using a partial correction .These last two cases apparently are stillamong the thirty-five open cases the jointBoard has in process. A

when certain circumstances or benefits arechanged. Assumptions should be under-standable, standable, relevant, simple, and preferablystable over a period of time .

I also emphasized the real world natureof practice as enrolled actuaries . The theo-retical choice may not be viable in the com-munity in which enrolled actuaries operate,particularly in light of the various legal andpractical restrictions otherwise placed onactuarial selection of assumptions. TheEmployee Retirement Income Security Actof 1981 (ERISA) requires actuaries to usetheir best estimates, and to act on behalf ofplan participants .Dianne Weitzenkamp took the podium

for discussion of the arguments in favor ofthe use of explicit actuarial assumptions .Weitzenkamp began by defining what sheunderstands is the concept of implicitassumptions. Implicit means that the biasof one assumption will offset an oppositeeffect of another assumption ; explicit meansthat each assumption is a best estimate onits own. She emphasized that the differencebetween implicit and explicit should not beconfused with the concepts of conservativevs . liberal .Weitzenkamp pointed out some disad-

vantages of implicit assumptions . by use of Ian example, she showed that implicitassumptions may appear to be conservative,but could, in fact, he liberal . The use ofimplicit assumptions may produce correctcurrent costs, but may not be able to pro-duce appropriate costs of plan changes. Theuse of implicit assumptions might be diffi-cult to explain to clients ; for example, theuse of a 5c7c interest rate may not appearreasonable to anyone familiar with currentmarket conditions. Since the goal is to pro-duce results that are comparable to thoseproduced by explicit assumptions, they mustbe appropriately tested, thereby creatingmore instead of less work .

Weitzenkamp believes the use of implicitassumptions in order to achieve larger con-tributions than would be produced by explicitassumptions is not appropriate because theresults would not represent the best esti-mate of the actuary. Using implicit assump-tions to get around the 413 limits is simplya way to contravene the law .In summary, Weitzenkamp said that

explicit assumptions are more likely to pro-duce unbiased estimates of plan costs andof the cost of plan changes. The credibilityof the actuarial profession is increased, she4said, when actuaries use explicit assump-tions, and, finally, that the use of explicit

(continued on page 8)Les Shapiro ( 1) describes the practical consequences of suspension , Howard Fluhr , moderator,looking on .

Enrolled Actuaries Report, April, 1984 6

The World According to RussellIt was difficult to hear Mark Russell's 111THchcou address at the EnrolledActuaries Meeting. No, not he-Muse the hall was too large . And it its<asrt't the incidentAl shifting and shuffling_ of 1,100 actuaries . It wasthe 1 ughte~ .

Russell: "If women outlive men, how come there are only eleven atthis lunchf"

"Statistics are not dull; this is the age of statistics . `I am a percentage,therefore I am ."'

Longtime resident wit at Washington, D .C.'s Shoreham Hotel, Russellis currently co-host of NBC's Real People . He can he seen on his ownPBS corriedv specials and heard on his records Thr Face on the Sern eFloor, issauli with a Deadly Peanut, and L'pi f/ti Potntncu althorn a Canoe .Successions of one-liners were interrupted only bA diizy songs aboutbaby-boomers, Jesse Jackson, denurgrtphics, and Syria .

On our federal government : "2 .9 million pcnple doing badly whatneed not be clone at all ."On California stale government : "Out there they think the majority

whip is sonic leather har .,!On the New Hampshire debates' "They underlined the need tocontrol Phil Donahue," A

Window and Company Option Retirement Plansby George E. Kelly

Expensing for special termination benefitsincluding the implications of FASB No . 74was the topic of most interest at the concur-rent session on windows and company optionretirement plans . Fortunately, Shaileen M .Tracy, practice fellow with the FinancialAccounting Standards Board (FASB), whodrafted FASB No. 74, participated on thepanel with actuaries Charles L . Com-mander of the Wyatt Company and myself .

The session opened with an overview ofwindow plans. I began the discussion bynoting that although advantages inure toboth employers and employees, the pri-mary impetus for the installation of windowplans is to improve corporate cash flow .

Humorist Mark Russell delights the enrolled actuaries luncheon audi-ence with political barbs and quips .

Design considerations include clearly defin-ing the eligible group, deciding the dura-tion of the window period, and allowingenough lead time for planning. Voluntaryparticipation in these programs is critical toavoid Age Discrimination in EmploymentAct problems , but leads to losing valuedemployees and keeping less valued individ-uals. Loss of valued employees can be soft-ened by deferring the actual terminationdate , retaining those employees as consul-tants , or excluding key employees from theeligible group .The window period should be short

enough to force a decision and generateimmediate recognition of cash How savings .No decision will be made, however, if theperiod is too short or if no lead time is

7

allowed before the window is put in place .Both actuaries stressed the importance of

advanced and well-conceived communica-tions to employees before implementation .Employees need to understand the employ-er's position and the nature of the programin order to prevent rumors and to facilitatethe employee's making an informed deci-sion .

Typical benefits offered through a win-dow plan include unreduced accrued pen-sion, full or partial salary over a short (two-year) period, social security supplements,service related or other bonuses, and con-tinuation of group life and health coverage .These benefits can be provided under qual-ified, non-qualified, top-hat, or severancepay plans . (continued on page 10)

Enrolled Actuaries Report, Ap,il, 1984

TOP-HEAVY(continued from page 5)

in Section 415 . Previously, plans have beenallowed to use something less than totalcompensation, if the results were not dis-criminatory. The choice of sonic lower levelof compensation, even if nondiscrimina-tory, would defeat the intent of the top-heavy minimums. The IRS may allow theuse of W-2 compensation in lieu of 415compensation . Cohen stated that this rulepertains only to top-heavy minimums ; theplan may use some other definition of com-pensation for other benefits .Question M-10 deals with minimums

where there are both defined benefit anddefined contribution plans covering the sameemployee. Code Section 416(f) precludesboth required duplication and inappro-priate omission in this situation . Cohenexplained that "inappropriate omission"means an individual should not suffer byvirtue of being covered in both types ofplans. M-10 proposes four safe harbors .Cohen also pointed out that M-10 does notapply to the extra minimum needed to usethe 1 .25 combined fraction under Sec . 415(e) .The safe harbors in this situation are par-allel to those cited in M-10 . The 5% definedcontribution safe harbor should be increasedto 71/2 /0Cohen also commented on question V-7,

vesting requirements where a plan ceases tobe top-heavy. Comments concerned therequirement of the 410(a)(10)(B) electionfor participants with five or more years ofservice . The IRS takes the position that thisrequirement is fairly clear under the law.Knox raised doubts whether the change fromtop-heavy status to non-top-heavy is tech-nically a plan amendment ; therefore

410(a)(10 )(B) should not apply . Cohen saidthat the IRS position is based on ERISApolicy, and the IRS believes that these alter-native vesting schedules are equilavent to aplan amendment .

Knox opened his part of the discussionby questioning whether it was necessary forvery large companies to incorporate the top-heavy rules . Cohen pointed out that thesecompanies often spin off smaller companiesthat may be top -heavy. Knox then raisedsome questions regarding determination ofkey employees , in particular how to deter-mine the top ten owners , entities with dif-ferent classes or types of ownership, andcertain merger situations . There are no reg-ulations on these yet .

Knox then offered a few techniques toavoid top -heaviness . One technique wouldbe to reduce the number of officers and 5%owners, if possible , consistent with desiredcontrol structure of the entity . He recom-mended eliminating voluntary employeecontributions , since these tend to he heavilyweighted in favor of key employees . Onevery interesting technique would be tonegotiate , into a non -comparable collec-tively bargained plan, minimum benefits forall employees , union and non-union, thusbringing key employees into that plan andmaking the plan part of the required aggre-gation group .

In response to a question from the floor,Cohen explained that the $200 ,000 com-pensation limit is strictly a discriminationissue . Funding and deductions , however,are not a discrimination issue, thus the$200,000 limit may be projected to increasein an actuarial valuation .

Dennis.J. Graf is consulting actuary at Milliman& Robertson, Inc. 0

William Knox (1) clarifies a finer point regarding techniques for avoiding top-heaviness .

IMPLICIT VS.EXPLICIT ASSUMPTIONS(continuedfrom page 6)

assumptions allows the clients to decide ofhow conservative they want to be by choos-ing appropriate funding and accountingpolicies .

Next, Barbara Eversberg made a livelypresentation of the positive aspects of theuse of implicit assumptions. The thrust ofher presentation was that the first job of theactuary is to choose a set of assumptionsreasonable in the aggregate . Her presenta-tion included an actuary's report card, whichdemonstrated that an explicit actuary maydo very well in hitting some of his assump-tions, but if he misses in the aggregate hehas really done a poorer job for his clientthan if he used an implicit set of assump-tions that hit the target in the aggregate .

Eversberg said that all actuaries are forcedto use implicit assumptions in certain areas .They are, for example, prohibited fromusing a new entrant assumption for pur-poses of current cost calculations; with-drawal and retirement decrements are nor-mally selected on the basis of publishedmodels which may or may not closely rep-resent the expected experience of a specificemployee group . Explicit assumptions invitespecific criticism related to each individuateassumption, whereas implicit assumptionsclaim only to be correct in the aggregate .Eversberg said the best estimate mandate isa higher order priority than the legalrequirements not to exceed 415 limits orother technical or practical limitations thatare placed on actuarial calculations .

Thomas K. Custis ofMilliman & Robertson Inc .was moderator of the session. 0

Enrolled Actuaries Report, April, 1984 8

Techniques for Copingwith Top-Heavy Status

• by Arthur H. Tepfer

"Is there a problem?" quipped Ira Cohen,director of the Internal Revenue ServiceActuarial Division, when told the title of thissession. Lawrence I . Davidson, attorney withAaron, Schimberg, Hess & Gilbert and I asmoderator addressed the problems andtechniques of coping with top-heavy statusfor the small plan while Michael I . Wiesner,actuary with A . S . Hansen, Inc . and DennisR. Coleman, attorney with Kwasha Liptondirected their comments to the large plan .

According to Wiesner, adding the pro-visions of Code Section 416 For the largeplan is more a nuisance than anything else .Coleman, expanding on this, outlined asuggested "fail safe" provision which, whenadded to the plan, would reallocate benefitsor contributions from key employees to non-key employees . According to Coleman, thisprovision would preclude a plan from everbecoming top-heavy and, it is hoped, wouldbe an acceptable alternative to adding thenow required plan language .

From the actuarial side, Wiesner said thechoice of an interest rate for top-heavydetermination that in some manner coor-dinates with the age characteristics of thekey and non-key employees could be ben-eficial . He cautioned that allowing non-keyemployees to take lump sum distributionswill have a lowering effectt on the denomi-nator of the top-heavy fraction and that thispractice should be monitored closely.

VALUATIONTECHNIQUES(continued from page 4)

Rossman discussed two funding tech-niques for small plans . First, he recom-mended consideration of a modified frozeninitial liability method that would initiallyestablish the base to be funded. All changesin the future would be spread over futurenormal costs , therefore eliminating gain andloss determinations . This method, Rossmansaid, would provide contribution flexibilityalong with funding simplicity . He alsodescribed an experimental accelerated tenyear funding method that would generatehigh contributions for a ten year period : ifthe minimum benefit accruals under theTax Equity and Fiscal Responsibility Act of1982 are earned in the first ten years forrank and file employees, then why not accruefull benefits in ten years for all employees,thus establishing a ten year period for fund-

Arthur H. Tepfer moderates panel discussion on coping with top-heavy status .

Davidson, addressing techniques for thesmall plan, suggested that some drasticmeasures could be taken to avoid passinginto top-heavy status. These measures couldinclude lowering the eligiblity age require-ment to twenty-one or eliminating it entirelyas well as shortening the 1,000 hours ofservice now required . For the clearly top-heavy plan, Davidson suggested encourag-ing non-key employees to make voluntarycontributions and discouraging or prohib-iting voluntary contributions by keyemployees. He also noted the need forincreased reliance on the plan's actuary withregard to alternative vesting schedules andminimum benefit provisions .

Recognizing that top-heavy status candramatically lower contributions to the smallplan, I alerted actuaries to the interplay

between Code Sections 415 and 416, espe-cially with regard to the multiple plan frac-tions . Noting that "a lot of nice things canbe found in the pre-TEFRA 415 regula-tions," I urged actuaries to thoroughlyinvestigate the construction of the definedcontribution plan fraction . Other tech-niques mentioned included the use of theaccrued benefit cost method to accelerateplan funding and, in some cases, restruc-turing the ownership of the plan sponsor toavoid or mitigate top-heavy status .

After the prepared comments, time wasspent answering and, often, sympathizingwith questions from the floor .

Arthur H . Tepfer ispresident of Tepfer and Campany, Chicago. A

ing? Rossman said the full funding limitcould serve to curtail the high fundingrequirements and felt this approach viableif there was previous service.

Section 401(h) of the code allows taxdeductible contributions to a pension planfor the purpose of funding post retirementmedical benefits for plan participants andtheir dependents. This section of the codeis unchanged since 1954, and deductionrequirements are subject to Regulation 1 .401-14, written in 1964, Rossman said that fund-ing for these benefits should be excludedfrom the funding standard account. Regu-lations state that contributions are to be sep-arately identified, assets accounted for sep-arately, 401(h) benefits are not to be vestedprior to retirement, and that there is nominimum funding requirement. Addition-ally, regulations require that the deductiblelimit is one-third of the pension contribu-tion, contributions for past service are notincluded, and that the contribution must

9

pass a reasonableness test . This test requiresan actuarial calculation to forecast futuremedical costs .Rossman then discussed a funding alter-

native for preretirement death benefitsunder a Voluntary Employee Benefit Asso-ciation (VEBA). Tax deductible contribu-tions are made to a 501(c)(9) trust . He com-pared three funding examples, the extremebeing contributions of tern insurance pre-miums, five year funding of the presentvalue of future premiums and five yearfunding of the benefits that would berequired to be paid 95% of the time . Usinga mathematical model of statistical methods,the values under the various examples weresubstantiated. Note that this method wasnot approved by the Internal Revenue Ser-vice .

Eugene Schloss is president of Eugene Schloss &Company, Incorporated. A

Enrolled Actuaries Report , April, 1984

Shaileen M. Tracy outlines issuance procedure for F ASB No. 74.

WINDOW PLANS(continued from page 7)

The integration issue is often overlookedduring the excitement of installing a win-dow, said Commander . A plan integratedunder normal conditions grants full bene-fits under a window at an early age andsuddenly runs afoul of Rev . Rul . 71-44613ya wide margin. A Social Security supple-ment to 62 or 65 or a modification of theaccrual formula may be required in thesecircumstances .

Commander pointed out that de facto dis-crimination can be a problem . Although theeligible group may represent a fair crosssection of employees, those who take thewindow benefit may be the highly paid . Sincethe eligible group is generally older withlonger service, it tends to be more highlycompensated .

Does the decision not to retire during thewindow period result in a reduction inaccrued benefit? The Internal RevenueService has taken the position that theincrease is riot received until retirement . Thisposition would probably change if the win-dow period were too long ; however, this isa gray area .The Equal Employment Opportunity

Commission (EEOC) has recently opinedthat age discrimination could be chargedfor refusing to rehire an individual whoretired under a window program . A cleveremployee could use retirement to increasehis accrued benefit and then demand to berehired to his former post .

Perhaps the most interesting question fromthe floor, which remains unanswered, is if

it is not age discrimination to provide higherearly retirement incentives to youngeremployees vis-a-vis older ones? A positiveanswer to this question by the EEOC couldeffectively shut many prospective windowsbefore they open .

Tracy provided background on the stepsleading to the issuance of FASB No . 74 . Thebasic accounting issue is this : When shouldan employer recognize the benefits as anexpense? Viewing special termination ben-efits as an exchange transaction, i .e ., anincentive for termination which generatesno future economic benefit, FASB decidedthat recognition should be as a current periodexpense when the offer is accepted and theamount can be reasonably measured . Theamount recognized includes lump sum pay-ments and the present value of expectedfuture payments .

Also included are changes in the esti-mated costs of other benefits if they effectpreviously accrued expenses for those ben-efits, result directly from the employees ter-mination, and,can be reliably measured .Tracy acknowledged the difficulty in iden-tifying and measuring these changes, since•expenses are rarely allocated to individuals .

The accounting standards of FASB No .74 apply without regard to whether benefitsare provided in a defined benefit plan orelsewhere ; the funded status of the plan isirrelevant. The standard applies to the com-pany's books and the plan may maintainseparate accounting according to APBOpinion No . 8 .

George E . Kelly is an actuary at Buck Consul-tants. A

ADEA Requirementsand the Actuaryby Charles Chittenden

isThis session dealt with the Age Discrimi-nation in Employment Act (AREA) . JohnPagano, assistant legal counsel for the EqualEmployment Opportunity Commission(EEOC), outlined the legislative and admin-istrative history of the act and explained thegeneral provisions of it-in particular theexceptions contained in Section 4(l)(2) forbona fide employee benefit plans . Wherefringe benefits are concerned, he said, theequal cost principle permits employers toprovide a lower level of benefits for olderemployees if age is an actuarially significantfactor in plan design . Special rules permitplans to exclude employees hired within fiveyears of normal retirement age and to freezebenefits at normal retirement age; manyolder employees have complained aboutthese rules . Pagano also discussed guide-lines the commission is considering in thearea of early retirement incentive plans, andindicated the commission was having diffi-culty clarifying what constitutes unlawfulage discrimination in this area .

James Glick of Touche Ross discussed theimpact of ADEA on "window plans," or,early retirement incentive offers . Glick+explained what benefits window plans usu-ally offer and why, and described the con-straints that ADEA places on window plandesign : plans must be voluntary and avoidcoercion ; they typically must not use maxi-mum age exclusions or excessive servicerequirements, and they must in general fol-low the equal cost principle of ADEA . Hesaid that under the December 13 EEOCruling, it is unlawful for an employer to

James Glick describes the impact of ADEA onwindow plans .

Enrolled Actuaries Report , April,1984 10

refuse to rehire an employee because he isretired, even if lie retired under a windowplan. (The employer may refuse to rehire ifthe emploee is a bona fide executive apply-

ling for an' executive position .) A commonwindow benefit is to liberalize the pensionplan early retirement benefit provisions .Glick asked whether a window plan thatgrants such potentially large benefits to fifty-five year old employees and small, or evenno, benefits to sixty-five year olds violatesADEA. It is not clear whether such windowbenefits would fall under the special pen-sion plan provisions of ADEA. The EEOChas promised guidelines for window plansthis spring but in the meantime informalopinion letters are available .

I discussed future ADEA provisions . Thetrend toward improved longevity and theaging of our population will give old peoplethe political power to require ADEA pro-tection above age seventy, and to forceemployers to grant pension service creditbeyond age sixty-five . I predicted thatindustry's increased use of computers androbots will result in fewer office and factoryjobs, especially at low levels, so that therewill be many displaced workers and highunemployment. Age discrimination will notbe alleviated by refining ADEA require-ments; rather, employers should be encour-aged to use computer technology to indi-vidualize employee benefits through a caf-eteria approach . In this way employers canhe financially neutral about the ages ofemployees .

I also predicted that pension plans willgenerally pay lump sums to employees whoterminate vested before retirement age . Thelump sums will accurnulate tax-deferred inIRAs, but remain unavailable to individualsuntil retirement. Pension plans can thus dealmore efficiently with individuals who trans-fer in and out of the workforce repeatedly .

In response to questions, Pagano said thata pension plan requiring employee contri-butions to increase with entry age would riotviolate ADEA, unless the increases are solarge that the contributions become anobstacle for older job applicants . Ile alsosaid that there were no clear guidelines forwhat constitutes coercion in window planoffers . Clearly, offers must be truly volun-tary. The EEOC considers each case on itsown merits .

Finally, severance pay plans were dis-cussed . The EFOC believes severance payshould not be denied to an employee merelybecause his age entitles him to an immediatepension .

Charles Chittenden is an actuary at Daskuis &Walls, Inc . in Chicago. A

Actuarial Equivalence and Unisexby Stephne Behrend

Recent unisex court decisions and regula-tions made the subject matter of this livelysession very topical. Our panel consisted ofKenneth Shapiro of Hay Huggins, RobertKnowles of Massachusetts Mutual LifeInsurance Company, and me . I moderated .

Revenue Ruling 79-90 requires all definedbenefit plans to include actuarial equiva-lence factors in their plan documents forplan years beginning after 1983 . These fac-tors must be carefully chosen, because oncethey are included in the document, they

become part of the accrued benefit and aresubject to the anti-cutback rules specified inRevenue Rulin g 81-12 .

In Juil j' of 1983, the Supreme Court ruledon the Norris case in a sex discriminationsuit brought under Title VII of the CivilRights Act. The court mandated equaliza-tion of benefits under all optional forms forbenefits derived from contributions madeon or after August 1, 1983 .Both Shapiro and I recommended that

plans use simplified mathematical formulasfor determining actuarial equivalence for

(continued on page 14)

Acturu7 . I Equicalencc and Unisex panel before a packed audience.

Enrolled actuaries enjoy a concurrent session .

11 Enrolled Actuaries Report, April, 1984

Dialogue with the IRSby Richard G. Schreitmueller

Once again Ira Cohen, directorof the Inter-nal Revenue Service Actuarial Division,assisted by Kenneth Yednock, actuary atIRS, discussed at length their current pen-sion regulatory positions. The questionsposed to them by consulting actuaries BetsyErbe and Charlie Thacher emphasized threecurrent topics : 401(k) cash-or-deferredarrangements, top-heavy plans, and rever-sion of assets from over-funded plans .

This annual event just keeps getting bet-ter. Not so many years ago the IRS sessionswere held in a small room before a seem-ingly hostile audience, without being taped .Both the atmosphere and the quality of dis-cussion have improved enormously sincethen .

40 1(k) Cash-or-Deferred Arrangements

The timing and content of final regula-tions on CODAs are unknown. If anemployee fails to repay a loan, this does notdisqualify the plan, provided the loan wasbone fide and the employer used normal duediligence in trying to collect. The employeeis, however, taxed under the rules for adistribution . CODA contributions arededucted from pay aril are counted asemployer contributions for comparabilitytests, the Section 415 and 404 rules, andtop-heavy limits. An employer who has afunding waivercan install an employee-pay-all CODA, but must get formal IRS approval .

Top-heavy Plan Rules

Top-heavy status may be hard to deter-mine without full data-sometimes a worst-case or best-case test will help . In case ofdoubt, terminated vesteds might just beprocessed under the top-heavy rules if itmakes little difference . In multiple-plan casesthe enrolled actuary must choose assump-tions to measure accrued benefits, whichoften will be inconsistent with the regularassumptions for one or more plans .

The top-heavy limits apply only prospec-tively for purposes of comparability andbenefit accruals . And the limits on futureyear accruals may later be removed retro-actively if the plan stops being top-heavy .But a plan may not anticipate a change instatus until it actually occurs .

Why should the largest plans contain thetop-heavy language, apart from the fact thatthe law says they must? Employees haveclear legal rights to the proper benefits ifthe plan language backs them up . When abig company spins off a subsidiary, bothemployer and employees seem better pro-tected if the provisions are already in place .If large plans were somehow exempt fromthis requirement while they were clearly nottop-heavy, the IRS would have practicalproblems in drawing the boundaries .

Reversion of Assets

Is the IRS doing anything to prevent planterminations that are only technical devicesfor freeing up assets? No, not now . Thereare good arguments for and against pro-hibiting such practices, so the IRS (and otherparts of the government) are getting a wide

range of suggestions .It is well established that in a clean ter-

mination an employer can recover excessassets . But some employers want to havetheir assets and their plan too . The devicesused take several forms . An employer canspin off existing retirees into a separate planthat contains all the excess assets, and ter-minate just that plan . Or the employer canterminate the whole plan and install a newone the next day . Perhaps the new plan issomewhat different, or there is some delayin starting it up to get around the traditionalIRS focus on the substance of a series oftransactions rather than their form. TheIRS can step in because every plan is sup-posed to be for the exclusive benefit ofemployees .

It is hard to distinguish between abusiveand legitimate terminations, Employeeswould not seem better off if an employercould get assets back at termination onlywhen there was no successor plan . But ifthis area remained wide open, what harmmight result? Evidently the IRS is trying totake a broad view in considering what to do .Other subjects touched on included :

comparability of plans where data are lack-ing; funding rules for a career average planwith scheduled future updates ; use of the1 .25 rule to fund currently for a definedbenefit over $90,000 (it is possible) ; taxdeduction carry-forwards that may occurunder a bargained plan ; reconciling rulesfor TEFRA distribution and ERISA J & S("That which is mandated is certainly per-mitted .") ; unisex IRS tables ("Ira's IRArules"). A

Consulting actuaries , Charlie Thacher and Betsy Erbe (far right) emphasize three topics: 401 (k) cash -or-deferred arrangements, top-heavy plans, and

reversion of assets from over-funded plans .

Enrolled Actuaries Report, April, 1984 12

Promoting InsuranceProducts for Qualified

•lansby Walter S. Rugland

In order to provide a full view of productavailability, three actuaries were assignedthe task of promoting the products theircompanies were currently offering to qual-ified plan buyers . 't'hese promotions werediscussed in the session on insurance prod-ucts for qualified plans .

Gary Hertel, vice president of LutheranMutual Life (LM), focused on the qualifiedplan market within reach of the career agent .Normally this market emerges throughbenefits needs analysis . The approach is topropose a plan design and then suggest afunding vehicle . During the analysis, lifeinsurance often emerges as a critical aspectof the design, and is used as one of thefunding vehicles . "It is primarily the smallplans that benefit most from life insurance,and that is the market we have targeted,"Hertel said .

Investment funds used in combinationwith insurance to fund the plan, or usedalone, are the other aspect of the LM port-folio . The types include individual flexiblennuities and group annuity forms which

lare simple arid easily applicable . The leadproduct is a guaranteed investment con-tract available to small plans.

Harold Ingraham, senior vice presidentand chief actuary at New England Life(NEL), discussed his company's productofferings in both the pension trust and grouppension areas . NEL has been the acknowl-edged industry leader in small plans-nearly$4 billion of insurance is in force with overa quarter of a million policies . In 1.983,63%of new pension trust plans were definedbenefit .

In recent years, NEL has aggressivelypursued sales of side funds to accompanythe life insurance sale to small plans . Recentlythis included offering of a closed end realestate limited partnership that was sold outin ninety days . "Even in the pension trustmarket, we have found that real estate isaccepted," Ingraham said .The main life insurance product for NEL

is an adjustable life contract capable ofaccommodating add-on coverages, andeliminating the need for multiple policiesfor a single participant . It also allows forflexible coverage/premium ratios that allowhe contract to be used for forms from pure

Werm to nearly pure accumulation .During the past year, a consolidation pro-

gram has been under way to allow combi-nation of the policies of participants into

Warren Johnson elaborates on his firm 's segmented general account portfolio .

one adjustable policy . For defined benefitplans, this amounted to significant reduc-tions in premiums ; for defined contributionplans, an increase in death benefit .

NFL's marketing strategy on the groupside has been to expand its role as anemployee benefit service organization, andto expand its product portfolio . In the lattercase, it has meant enhancement of its guar-anteed investment contracts, continualmarketing of real estate vehicles, andrenewed emphasis on pulled separateaccounts .

Warren Johnson, assistant vice presidentand actuary of Connecticut General's (CG)Group Pension Operations, has responsi-bility for pricing CG's products and services .

"CG and the life insurance industryy ingeneral have greatly increased their rangeof product offerings and their overallresponsiveness to marketplace needs,"Johnson said. He said that CG has unbun-dled its services, products, investment capa-bilities, and expenses to take advantage ofgrowth opportunities in all the market seg-ments where it believes it has advantages .A wide range of CC investment vehicles

focuses on investment performance. Theseinclude fixed income or equity options andare designed to minimize the risk for thecarrier. Johnson noted that no plan sponsorshould be able to get consistently higherguarantees than actual investment experi-ence produces .

A full array of employee savings productsaccommodates thrift, profit sharing, IRAsarid 401(k) plans. Administrative capabili-ties include a wide range of investmentchoices, including short term guaranteeaccounts, equity separate accounts, a fixedincome portfolio, and a soon to be released

employer stock option for 401(k) .The traditional market segment is served

by recently enhanced products which resultfrom the segmented general account port-folio at CG. This revision of investmentstrategies allows for significant cash-outflexibility .

Walter S. Rugland is vice president rrul consult-ing actuary of Malltirnan & Robetson, Inc. A

Actuarial `SecondOpinions' Increasingby Edward W. Brown

"The name of the game is sound financialmanagement of public employee plans .Actuarial audits provide another set of playsto help us all win the game," said NormanL. Jones, actuary, of Gabriel, Roeder, Smithand Co. Jones was a participant in the con-current session on Public Employee Plans,along with Lawrence A. Martin, Pennsyl-vania Public Employees' Retirement StudyCommission, and moderated by Thomas P .Bleakney, consulting actuary, Milliman andRobertson, Inc .

Actuaries are increasingly asked to pro-vide "second opinions" about actuarial workdone by others for state and local systems .Jones, who has been involved in a numberof actuarial audits of public plans and hashad his work audited by other actuaries,said that audits can benefit all parties :employers, employees, legislators, the gen-eral public, and the actuarial profession . Asecond opinion verifying that everything isproper can provide peace of mind to plan

(continu(,d on page 14)

13 Enrolled Actuaries Report, April, 1984

ACTUARIAL EQUIVALENCE(continued from page 11)

early retirement and other optional forms .An example of a mathematical formula fora 50% joint and survivor factor is : 90% plus(minus) '/2% for each year the contingentannuitant is older (younger ) than theemployee plus .6% for each year that theemployee retires before age 65, Some plansmay even simplify this further . Mathemat-ical formulas ease administration andemployee understanding and since mostelections are made with personal need inmind, anti -selection is not a big issue . Theone exception is the lump-sum option, where,because of the anti- selection , it was recom-mended that plans specify a unisex mortal-ity table and an interest rate which fluc-tuates with market conditions (for example,average bond rates or PBGC rates) .The Norris decision restricts employers

from sponsoring plans that discriminate onthe basis of sex, but does not restrict the useof sex-based premiums and benefits in theinsurance marketplace . The insurance

SECOND OPINIONS(continued from page 13)fiduciaries, plan participants, and the gen-eral public .

The audit process alone can benefit boardmembers and plan administrators becauseof the educational value in reviewing theplan's financial condition. Regardless of howwell managed a plan maybe, there is alwaysroom for improvement . If a problem is dis-covered, the audit can be the first steptowards remedial action . The actuarialprofession benefits because audits will leadto higher quality work.

If the auditing actuary believes that thegeneral financial condition of the plan issatisfactory and meets the goals of the plan'ssponsor, he should clearly state his opinionand put any other comments in perspective .Jones cited several examples where his

audit uncovered questionable practices thatseverely understated plan costs and actu-arial liabilities . In two cases, actuarial reportshad been prepared with no supporting dataor calculations . These were exceptions, notthe rule ; most actuaries perform in a veryprofessional manner. When a bad practiceis uncovered the auditing actuary mustdecide whether it should be reported to oneof the professional bodies for possible dis-ciplinary action. A tough decision indeed ;such situations are never black and white,

If a problem is discovered, the auditingactuary s primary concern should be to cor-rect the problem and he should work with

industry continues to base premiums andproducts on sex, and the few unisex policiesbeing offered by insurance companiesassume a great degree of anti-selection .Knowles warned that employer-sponsoredplans that continue to use sex based insur-ance company products would be in viola-tion of the Norris decision if they base theiroptional forms on the insurance companypurchase rates, if the plan distributes or sellspolicies, if pre-retirement death benefits arebased on the value of the policy, or if sex-based conversion options are offered . Sincethe Norris case was a suit under Title VII ofthe Civil Rights Act, all employment relatedplans (qualified as well as non-qualified) areaffected.

What has to be done to meet the require-ments of Revenue Ruling 79-90 and theNorris decision now seems relatively clear ;the future remains murky, however . Thepanel felt that the issue of discriminationwas certainly not resolved . Vesting and par-ticipation requirements for pension plansremains an unresolved "sex discrimination"

the retained actuary and plan administratorto get a common agreement before makinga public announcement .

The audit experience reminds the actu-ary that his work should not be, and is not,beyond examination, that problems will ariseand must he dealt with, that there areincompetent actuaries (though small innumber), that the profession normally doesnot police itself well, and that the reviewprocess can be beneficial, possibly, in pro-viding better projections, even those frommeticulous actuaries .

In 1982, forty-one states had establishedsome type of pension committee . ThePennsylvania Public Employees' Retire-ment Study Commission began in 1981 andit comprises members from the legislatureand the general public. Lawrence A . Martinsaid that the Pennsylvania commission issimilar to those in many other states in thatthey review legislation and the funding ofpublic plans . Pennsylvania has over 2,200public employee plans (more than any otherstate) ; one function of the commission is tomonitor the funding and operations of theseplans. This is no small task since the varietyof funding arrangements results in manyoverfunded and underfunded plans . Mar-tin said it is important to look for improve-ments over time to judge the success of thecommission's work.

Martin, who previously worked for theMinnesota Pension Commission, said thatpension commissions were formed for sev-

issue. Will there be "sex discrimination"restrictions on insurance company productsor even pension funding in the future? Andafter sex discrimination, is age discriminatetion next:

Stephne Behrend is vice president at Johnson &Higgins. 0

eral reasons : to solve a specific problem ; tobring together different interest groups ; tofocus on policy reform; to deflect publicriticism .

Actuaries play a significant role in thesuccess of any pension commission . In Min-nesota, the same actuarial firm has beenretained for over twenty-five years, addingstability to a commission which at timesexperiences rapid turnover in appointedstaff. In Pennsylvania, the commission retainsthree actuaries, each from a different areaof the state . Their chief function is to pre-pare actuarial cost estimates for proposedlegislation . Martin sees a growth in the actu-ary's role and an increase in actuarial scru-tiny. His advice is that actuaries should makeevery effort to work out conflicts with othersbefore going public .

Tom Bleakney said that one of the mostimportant factors in determining the effec-tiveness of a pension commission is theamount of legislative support and funding .Too often after a commission is established,legislative interest dies and financial sup-port is withdrawn . Without proper financ-ing, the commission cannot produce, he said .Actuaries can help to improve the effective-ness of commissions by supplying actuarialinformation in an easy-to-use form .

Edward W . Brown is retirement systems acte,ittryfor New York State Employees Retirement System.

A

Enrolled Actuaries Report, April, 1984 14