Beware The New Retirement Equity Act
The news left Ruth M. Godbold numb. Her husband of 30 years, Will M. Godbold, was dead, and now, she was told, she couldn't collect a penny of his pension benefits. And, to make bad matters worse, it was partly his fault. Several years before he reached retirement age, Will had been asked by his employer to make a choice. He could provide Ruth with a survivor benefit that would guarantee her a portion of his pension if he died before he retired, or he could forgo that option and thereby boost their old-age income.
He opted for the latter. "All I can figure," his 59-year-old widows says, "is that since he had always been healthy -- until those months when he got cancer -- he may have just decided to take the gamble that he would live as long as I would. Or maybe he just didn't understand what he was signing, and his pride kept him from asking somebody to explain it to him." Whatever the reason, Mrs. Godbold ended up empty-handed.
Her case is not all that unusual. Estimates are that fewer than 11% of the country's 15 million women over the age of 65 collect private pensions -- compared to 29% of men in that age group. The reason is that, until recently, most plans were not requird to provide automatic survivor benefits, even though the average age of widowhood in the United States is a surprisingly young 56 years.
In order to address what many people feel were obvious inequities in the pension system, Congress last year passed the Retirement Equity Act of 1984. Unfortunately, the act has created a whole new set of problems for employers, who, in effect, are being asked to shoulder the costs of the legislation.
Generally, provisions of the new Retirement Equity Act, which takes effect this month, mandate that employers offer automatic preretirement and retirement survivor benefits to employees' spouses. And it prohibits workers from opting out of those benefits unless they secure their spouses' approval -- in writing. In addition, the act slashes the age at which employers must allow employees to participate in company-sponsored pension programs. It permits new parents to take extended maternity and paternity leaves without losing out on future retirement income. And it provides for the distribution of pension benefits to divorced spouses.
From the companies' point of view, the new law will be expensive, and not just because it requires them to provide benefits to a whole new range of recipients. According to Robert L. Hauser, a tax partner in the Cincinnati office of Deloitte Haskins & Sells, implementing the law involves significant new paperwork, which will no doubt prove to be a burden for smaller companies. Employers will have to amend their pension plans to meet the law's various provisions. Then they will have to submit these updated documents to the Internal Revenue Service for approval -- a complicated procedure that requires expensive legal and accounting time.
All this, moreover, comes hot on the heels of a whole set of complex changes dictated by 1982's Tax Equity and Fiscal Responsibility Act. "I understand Congress was trying to do certain things," says David B. Behrmann, a partner in the Indianapolis office of Geo. S. Olive & Co., a regional accounting firm. "But when you're amending these plans every year, it's a big pain in the neck."
The new act also forces businesses to become tax advisers to employees who cash out or take payments from their pension plans. For starters, employees must be told that the money they receive will not be taxed currently if it is rolled over to another qualified pension plan (or to an individual retirement account) within 60 days. Also, employers have to explain the special tax rules that apply to pension-plan distributions, such as 10-year averaging regulations -- a complicated method of computing tax on lump-sum distributions. That is no easy task when one is dealing with relatively unsophisticated taxpayers.
Employers are bothered most by the questions the legislation leaves unanswered, particularly with regard to employees who provide incorrect or false information to their employers. Suppose a worker tells his employer that he is single. The company doesn't provide survivor benefits. Then, a year later, the man dies, and the employer discovers that he had a wife and three children. Must the company fork over a survivor benefit anyway?
Accountants and other pension-planning experts aren't sure. According to Leon Schneider, a senior pension consultant in the New York City office of KMG Main Hurdman, the accounting firm; and Larry L. Grudzien, tax supervisor in the Chicago office of Laventhol & Horwath, another accounting firm, they probably won't know for certain until the issue winds up in court.
Generally speaking, the act affects pension plans for fiscal years that begin on or after January 1, 1985. The legislation isn't retroactive, so it won't provide relief to people whose spouses died before this year. Also, notes Alice Quinlan, government relations director of the Older Women's League, in Washington, D.C., the equity act applies only to so-called private pensions, meaning those retirement benefits paid out by businesses. Civil service, military, foreign service, and state and local pension plans aren't included in the law.
Here are summaries of the key provisions of the equity act:
Survivor benefits. The act demands that preretirement and retirement survivor benefits be included in all retirement plans that qualify for tax exemptions under the Internal Revenue Code. The exception to this rule is profit-sharing and other defined-contribution programs whose participants have willed their benefits to their spouses.
The law dictates that survivor benefits be paid in the form of an annuity, says Richard A. Goodman, a tax partner in the Chicago office of Laventhol & Horwath. An annuity, simply stated, is a payment that is made yearly, quarterly, or at some other regular interval for a specified period of time, such as a person's lifetime.
Also under the new law, an employee can opt out of survivor benefits only by providing his or her employer with a notarized waiver that has been signed by both the employee and the spouse. Under the old rules, workers could -- as Will Godhold did -- nix survivor benefits without the consent of their spouses.
New eligibility rules. In the past, employers were allowed to bar workers under the age of 25 from participating in company pension programs. The new equity act imposes tough new restrictions on this practice. It cuts from 25 to 21 the age at which workers must be included in any qualified pension program. Also, it reduces from 22 to 18 the age at which employers must begin counting employees' years of service for vesting purposes (the time workers must stay on the job before they are entitled to the pension money that accrues in their behalf).
Therefore, employers will be paying out more money than ever before to workers who resign or are fired before they retire. In fact, says Robert M. Siper, director of pension consulting services for KMG Main Hurdman, businesses with large numbers of young employees -- restaurants and retail stores, for example -- may find that their pension plans function as severance-pay programs for such employees as waiters and sales clerks.
Here is an illustration: Say a woman signs on with a company when she is 18 years old. She resigns six years later to take a job with a competitor. She is six months shy of her 25th birthday. Under the old rules, she would get nothing when she left -- unless her employer was more generous than the law required. Under the new law, she is entitled to the benefits accrued in her behalf (to the extent that she is vested) since she enrolled in the pension program at the age of 21.
New break-in-service regulations. The Retirement Equity Act also changes the rules governing pensions for employees who leave a company and then return months or years later. Suppose, for example, a 20-year-old man goes to work as a salesman for a chain of retail clothing stores. He works three years, then resigns and works somewhere else for four years. Afterward, he returns to his old job. It comes time to compute his years of service for vesting purposes. Does the company have to give him credit for those first three years he worked?
Under the old law, the answer was no -- the young man had incurred a "break in service." But under the new law, the answer is yes. The act says that if an employee leaves a job and returns, he or she must receive credit for that earlier period, unless the number of consecutive one-year breaks in service equals or exceeds five years or the number of pre-break years of service, whichever is greater.
New parents are accorded an even sweeter deal. The law allows them to take a full year of maternity or paternity leave without it counting as a break in service. That time can then be added to the five years allowed other workers, for a total of six years -- or until the child is old enough for first grade.
These new break-in-service provisions mean that businesses will have to maintain records for longer periods of time. "It's big enough pain to hold onto an employee's [records] for a year," notes Behrmann of Geo. S. Olive, "let alone keeping track of them for five years."
New divorce rules. Finally, there are new provisions for people who get divorced and are entitled to their exspouses' pension benefits. Millicent Goode is a case in point. Several years ago, her husband sued her for divorce after more than 25 years of marriage. She, in turn, sued for a portion of his $1,200-a-month pension. A court awarded her half of that amount. However, the employer didn't honor the court's ruling that payment be made directly to Mrs. Goode, and she ended up with none of the pension.
The act prohibits employers from ignoring such orders. The courts, the law states, have the authority to distribute a portion of a person's pension to a former spouse as part of a divorce settlement.
But the orders must meet certain standards. They must specify the name and address of the worker and ex-spouse. They must state how much the pension plan must pay (either as a percentage of the benefit or a dollar amount). And they must note when the payments have to start and how long they must continue.
Also under the law, a divorced spouse can begin collecting a share of the working employee's pension at the early retirement age, even if the employee hasn't retired. Hauser of Deloitte Haskins & Sells provides an example: Say a man is 55 years old (the early retirement age under his employer's plan), but he doesn't retire. His divorced spouse, however, wants to receive her portion of his pension right now. The company must honor her request. It pays her the pension benefits even though the man may not be entitled to any pension benefits until his actual retirement.
The changes mandated by the equity act may not be the last we will see. There is talk that Congress may cut in half the amount that companies can set aside for each employee's retirement (including the business owner's). Also, last year, legislation was introduced to force employers to vest workers in full after just five years on the job. Whether that bill will make it through Congress is anyone's guess. But the measure did carry a high-powered sponsor -- Geraldine Ferraro.