Broker Idea

[tuni88]

We are looking into freezing our small-ish DB plan and then terminating it when we have enough money in the plan to be able to purchase annuities and close it out once and for all. Our actuary tells us we're currently short of the amount needed to do that and that annual contributions will need to continue.

A broker approached me and said we could buy annuities now in the name of the plan, stop making contributions, and just allow the amount on the annuities to build for a few years and then terminate. Is there likely to be a catch? I presume we'd be far over-paying for the annuities. Or something.

What's this guy talking about?

[SoCalActuary]

Does his annuity proposal deal with the issues of deferring the benefit payment?

If interest rates drop, the plan's liability increases. Does the market value of the annuity?

Liabilities are interest bearing. Does the annuity contract provide a larger interest crediting rate than the plan's actuarial equivalence rate?

[tuni88]

... issues of deferring the benefit payment

Please briefly summarize what these are.

[SoCalActuary]

Consider a participant with a deferred vested benefit and the option for a lump sum payment.

If the payment is made now, the greater of the plan actuarial equivalent or the 417(e) actuarial equivalent lump sum is the payment to be made.

The plan actuarial equivalent might be based on a low interest rate, such as 4 to 5 percent. Or it might be a high rate such as 7 to 8 percent. The differences are important, because a low interest rate might be more valuable than the 417(e) rate, but the high interest rate will generally be irrelevant bacause the 417(e) rate will be more valuable.

But, in either case (low or high interest rates), the plan actuarial equivalent lump sum will grow with interest every year.

If a lump sum under plan rules was $10,000 this year, then next year it might be $10,400 at 4% interest or $10,800 at 8% rate.

Will an annuity contract grow faster than the plan interest rate? Probably not in today's interest market.

In addition, the 417(e) rates for converting a benefit to a lump sum also grow as the participant gets older, but not in a smoothly predictable manner. They are based on market interest rates published each month. The rate for a participant will fluctuate with new mortality tables and new interest rates. For example, the interest rates for lump sums in 2004 thru 2007 were based on 30 year treasury rates that were relatively stable between 4.29% and 5.42%, but that still leaves a lot of fluctuation for a younger participant.

With PPA, the interest rates have ranged from 3.57% up to 5.83% on the third tier interest rates. So the lump sum payable each year has been subject to wide swings in pricing. I do not expect that the annuity contract offered by the broker will do anything to eliminate this very real economic risk.

[AndyH]

What's this guy talking about?

The dark mirror image of the Easter Bunny, the Tooth Fairy, or Santa Claus, all trying to get a peek inside your house.

[tuni88]

Thanks ... I guess.

[AndyH]

The point is that if your actuary says one thing and this broker says another, and you don't trust either, get a third opinion from another actuary. My bet, for reasons SoCal tried to detail, is that the broker will be determined to be either wrong or trying to sell you something you should not buy.

[david rigby]

My bet, for reasons SoCal tried to detail, is that the broker will be determined to be either wrong or trying to sell you something you should not buy.

OR?

[John Feldt ERPA CPC QPA]

and (or perhaps: but)

[XTitan]

and (or perhaps: but)

Conjunction Junction, what's your function?

Couldn't resist...

[AndyH]

Well, the broker could be a fee-only advisor. Then he'd just be wrong.

But I guess there's a better chance he's the real tooth fairy.

[ScottR]

We are looking into freezing our small-ish DB plan and then terminating it when we have enough money in the plan to be able to purchase annuities and close it out once and for all. Our actuary tells us we're currently short of the amount needed to do that and that annual contributions will need to continue.

A broker approached me and said we could buy annuities now in the name of the plan, stop making contributions, and just allow the amount on the annuities to build for a few years and then terminate. Is there likely to be a catch? I presume we'd be far over-paying for the annuities. Or something.

What's this guy talking about?

As others have suggested: he's talking about immediate compensation for himself. Otherwise, nonsense.

If there's enough money in the plan to purchase annuities covering all benefits, why not just close out the plan now. And if that's not the case, how do you avoid minimum funding requirements WRT the benefits not purchased?

Also, if the plan is too much underfunded, I believe PPA imposes restrictions on the ability to purchase annuities.

Finally, the employer should consider amending the plan to provide lump sum payouts (in lieu of annuity purchases). I believe lump sums are already cheaper in many cases, and they could become more so as the new 417e segment rates are phased over to corp bond rates. Recommend that you do a study to find out. A LS option is also likely to be popular among the participants.

.. Scott

[Guest alyssakim]

Well, the broker could be a fee-only advisor. Then he'd just be wrong.

But I guess there's a better chance he's the real tooth fairy.

tooth fairies exist...i promise =)