Changes in the North American Division retirement plan

A comprehensive review of the new NAD employee retirement plan

Del Johnson is associate administrator of the North American Division Retirement Plan.

In 1910, at the urging of Ellen G, White, the Seventh-day Adventist Church voted to initiate a "Workers' Fund." Although a novel idea at the time, it was not a retirement plan. The fund was set up to assist workers whose health broke down and who were physically unable to continue in ministry. It was designed to be a "pay as you go" plan, funded by a percentage of tithe, and administered at the discretion of a committee. Whenever the total fund exceeded $5,000, the "surplus" would be available to the General Conference for missions.

Over the years, government in the United States became ever more active in regulating pension plans. The church found it necessary to seek Internal Revenue Service (IRS) qualification. Expectations of employees rose, and the plan evolved into a true retirement plan, promising monthly benefits and healthcare for those meeting service and age requirements. Special need-related provisions were sometimes added with no corresponding increases in funding, and between 1940 and 1975 the church aggressively hired employees (see figure 1).

During a time of unprecedented growth in tithe and employment, money flowed rapidly into the retirement plan. In order to invest as many resources as possible into the church's primary mission, the funds flowing into the retirement plan were actually reduced in the 1940s. Thus, the combination of added but unfunded benefit provisions, reductions in funding, and in creased hiring created a hidden predicament that would one day emerge to threaten the ability of the fund to fulfill its commitments.

As long-term valuation of pension plans moved from art to science, pension managers began to have at their disposal fairly reliable tools with which to predict long-term retirement funding. However, it took some time for the church to refine its ability to run valuations because of the need for a reliable and computerized service record data base. Once this was in place, it became obvious that a future shortfall threatened the plan. (Figure 2 shows actuarial projections.) Total fund depletion is projected to occur in 2011 if current policies of funding and benefits remain in place.

Various options

As a result of this forecast, the North American Division has been faced with some difficult decisions. After constructing financial models of various options, the Division held "retirement councils" nationwide. Administrators, pastors, educators, and laypersons participated. A random phone survey was conducted polling employee re actions to various cost-cutting measures. Focus groups met. A steering committee rep resenting various organizations sifted the responses and the options and began to develop a consensus. In October 1997, the North American Division took a series of actions authorizing the development of a new and different kind of retirement plan, along with cost containment policy changes (see sidebar on cost containment).

As this article is being written, the steering committee continues to work on details, but the main provisions of the plan are in place. On January 1, 2000, the existing church "defined benefit retirement plan" is scheduled to give way to a new "defined contribution plan." The provisions of the new plan are designed to provide reliable and adequate retirement income for career denominational employees.

Provisions of the new plan

A defined benefit plan, such as is currently operated by the church, promises a monthly pension payment throughout retirement. The plan sets the eligibility criteria, including age and service requirements. The cost of the promised benefits is estimated, and funding policies are set in place. A defined contribution plan, as scheduled to begin in January 2000, promises a contribution that the employer will make into a tax-deferred account set up for the employee. The employee prescribes an in vestment strategy, and the fund accumulates and grows over the employee's career. Upon retirement, the employee accesses the ac count to generate income.

The main provisions of the proposed defined contribution plan include:

1. Contributions. The employer will contribute at each payroll four percent of the employees' Category A equivalent wages. In addition, if an employee chooses to make voluntary pretax contributions to his or her own retirement plan, the employer will match those contributions, 50 cents on the dollar, up to one percent of the Category A equivalent wages. For example, if a pastor, at 150 percent remuneration factor works in a category "A" area, the contributions will be as follows:

2. Investment options. The plan will hire vendors to provide a range of investment opportunities and advice. The employees will control the investment of all funds belonging to them within the options provided.

3. Access eligibility. The plan will allow employees access to the funds at the point of termination or at age 62. Employees will be able to select from a menu of distribution options at that time. They may invest the funds and live primarily off the interest generated. They may "cash out" and build a retirement house (not recommended be cause of the tax implications). They may purchase an annuity from an insurance company, thus assuring a flow of funds until death. Or they may combine options. Each option has tax implications and limits prescribed by the U.S. government.

4. Pre-62 access. Employees who face financial hardships, as defined by the plan, will have access to their own voluntary contributions without the standard IRS early withdrawal penalty, although such withdrawals will be taxable. Further, in the case of pre-retirement death or disability, the total fund will be available if requested.

As of this writing, the provisions summarized above are in place as presented. The final document is scheduled for approval at the October 1998 NAD year-end meetings, when it is possible that some provisions of the plan will be changed.

Impact on existing participants

The impact of change on different individuals varies significantly. With long-term funding provisions in place, existing retirees should see no impact. New and recent employees should do very well, as the new plan has the potential of significantly rewarding career employees. Existing employees, when they retire, will receive monthly benefits from the existing plan, based on service up to December 31,1999. In addition, they will have access to a lump sum for service beginning January 1, 2000, until retirement, designed to provide a source of retirement income. However, without some special provisions, those "transitional employees" with 20 to 35 years of service may find themselves disadvantaged by the change. These employees will not have the chance to maximize benefits in the existing plan and will not have enough years under the new plan for compounding interest to work its maximum effect. Further, some may be within months of retirement eligibility and may have some anxieties about setting up a new plan that provides limited benefits in the short period of time before retirement.

Transitional issues

The new plan proposes a number of provisions designed to prevent significant loss in projected retirement income for transitional employees. These transitional provisions include:

  • A career completion option. An employee who has at least 30 years of service and is within five years of retirement eligibility will be given the option of remaining on the existing plan and earning up to five additional years of service credit subject to the rules and provisions of the existing plan. Once the retiree makes this decision, it cannot be reversed.
  • A transitional enhancement. Retirement applications processed before January 1,2020, will be subjected to comparative calculations. Monthly basic benefits under the existing plan will be added to an estimated monthly annuity from employer contributions under the new plan. The employer will then estimate the monthly basic benefits under the existing plan as if there had been no change. If the combined monthly basic benefits in transition are less than the whole career benefits under the existing plan, the existing plan will be enhanced with the goal of replacing the loss.
  • A vesting accumulation. The present plan of earning service credit ceases on December 31, 1999. However, those who have not met minimum requirements for up to ten years of service will continue to accumulate service credit toward eligibility as illustrated below:

Example: If Employee Jane has only seven years of service credit at the date of the freeze, and works for three additional years, she would have seven years of service credit and would be deemed to have vested with 7/10ths of minimum benefits under the existing plan, in addition to having received contributions to her account under the new plan for the post-freeze years.

  • Health care assistance. Under the existing plan, a retiree with fifteen or more years of service credit is eligible for a health care provision designed to fill some of the gaps left by Medicare. The defined contribution plan provides no health care assistance. However, transitional employees with at least 15 years under the existing plan will receive either actual health care cover age based on their years of service before the year 2000, or a cash supplement to enable them to purchase similar optional coverage, depending on age and years of service. As of this writing, that threshold has not been set.
  • A retirement allowance. The retirement allowance is a lump sum that is available to employees who go directly from denominational employment into denominational retirement. After 40 years of service credit, it amounts to five months of salary, prorated for fewer years of service. Transitional employees will receive the retirement allowance in two pieces. The amount accumulated based on years of service credit prior to January 1, 2000, will be paid from the existing retirement plan. The amount accumulated based on years of service from that point on will be paid directly from the employer. Further, a policy change will make these post-freeze funds available up to two years prior to the earliest retirement eligibility date, to assist the employee in possibly reducing the tax burden on these funds. Finally, there are provisions in the tax code that will further assist most employees in deferring taxes on the post-freeze retirement allowance accumulation.

Comparisons between old and new

By definition, there are some provisions available under the existing defined benefit plan that cannot or will not be replicated in the new defined contribution plan. Most, but not all of these, will be compensated for by the larger amount available to retirees under the defined contribution plan. As in any change, some transitional employees will see a reduction in combined benefits under the two plans, when compared with the continuation of the existing plan.

Figures 3-6 show comparisons of various individuals at a pastor's pay level and working in a Category A area.1 Social Security and denominational benefits are estimated to show approximately the retirement income as a percentage of pre-retirement wages. The left bar shows the estimated value of benefits provided by the existing plan. The right bar shows the annuitized benefits of the defined contribution plan, or of both plans in the case of a transitional employee (figures 5 and 6). In the four cases shown, it is clear that most employees will do as well as or better under the defined contribution plan when compared with the existing plan. The one exception is the 20/ 20 transitional employee who is eligible for spouse allowance under the existing plan. While the years of spouse allowance earned prior to the freeze are not lost, the employee's inability to continue to earn a spouse allowance during the post-freeze years may well reduce total benefits when compared with the existing plan.

The existing denominational spouse allowance was designed primarily to provide an additional retirement benefit to employees whose spouses were unable to qualify for retirement benefits of their own. There was an innate concern in the provision for three categories of employees:

  • The employee whose spouse's career was constantly interrupted by denominationally requested moves, thus preventing vesting in a retirement plan;
  • The minister whose spouse es chewed a paid career, seeking rather to spend her life in ministry partnership with her pastor spouse; and
  • The spouse who dropped out of the workforce in order to raise children, and be cause of that break in service, was unable to qualify for a significant retirement plan of his or her own.

In recent years, portable retirement plans have significantly increased the number of spouses who are able to qualify for retirement benefits in spite of career interruptions due to moves and the raising of children. And although pas tors' spouses continue to volunteer in ministry, many also have chosen a separate career. In recent years, only about 30 percent of our new retirees actually qualify for partial or full spouse allowance. Of our female retirees, that number is approximately 6 percent. Because of concerns over those who contribute voluntarily to the ministry of their pastor spouses and thus may lose in retirement, the North American Division is seeking methods to compensate properly such individuals for value provided.

Many church employees state categorically that they are simply unable to make contributions to their own retirement plans. Employees with children in denominational academies or colleges find that saving for retirement can be a challenge. Some ask, "Is it really necessary for me to put in my two percent?" It depends on your retirement expectations. Many financial planning consultants suggest that you should aim at a retirement income of between 70 percent and 80 percent of pre-retirement wages in order to maintain the standard of living to which you have become accustomed. These funds would typically come from Social Security, pension, and in come from personal savings and investments.

Whether 70 percent will be enough depends on what you expect to do during retirement, what your debt condition will be upon retirement, and the area of the country in which you will choose to retire. Figure 7 shows retirement income provided by a defined contribution plan over a career of service as a percentage of pre-retirement salary. The left bar assumes career completion under the existing plan. The middle bar assumes that the employee puts away approximately two percent of his or her in come over the life of the fund. The right bar assumes no voluntary contributions, and thus the loss of the match.2

Change can be unnerving. An old riddle asks, "How many Adventists does it take to change a light bulb?" Answer: "One to change the bulb, and nine to stand around talking about how much they liked the old lightbulb!" Our consultants have warned us that under current policies and procedures, we will be required to shift resources from mission to retirement in order to fulfill promises made to our employees and retirees. The proposed changes should ultimately free up resources for the mission of the church and provide a financially sound retirement plan for its employees.

 

1. Assumptions for these graphs include: Investment Return, 7.5 percent per year; Inflation, 2.5 percent per year; Remuneration, 150 percent of the Category "A" factor; Social Security, 35 percent of pre-retirement income. Match assumes employee earns maximum match, by contributing at least 2 percent of Category "A" wages; however, employee contribution is not included in the graph. Healthcare estimated monthly premium cost to replace provisions of health care plan. Annuities uses 83IAM tables, with setbacks of four years for males and three years for females because of the Adventist lifestyle advantage as demonstrated in our historical mortality records and as projected by our actuaries for mortality improvement in the future.

2. The bars representing defined contribution income do not include employee contribution accumulations, since employees can make tax-deferred savings under both plans.


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Del Johnson is associate administrator of the North American Division Retirement Plan.

August 1998

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