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Retirement planning Essays

Questions:
Identify which type of retirement plan (or combination of plans) you would recommend for the business, and explain why. Justify your recommendation by explaining how the qualified plan selected accomplishes the objectives of Bruce Wilcox and Com-Tutor, Inc.
This is a summary of the proposed employee benefits and retirement plan for Com-Tutor, Inc. As part of Bruce Wilcox’s, owner of Com-Tutor, Inc, objectives to create a suitable both a non- qualified and qualified retirement plan for him and his employees. Taking into account the company’s increasing income and cash flow over the past five years, these plans will be able to provide a retirement plan that will meet the owners primary objectives.
Given the objectives presented by Mr. Wilcox, the normal retirement age for this retirement plan is 60 years old. And since it is specified that this plan aims to Maximize the retirement benefits for owner and is least concerned with a flexible compensation plan for employees it is more appropriate to make use of a defined plan. By doing so it will ensure that the Mr. Wilcox will receive his expected savings needed upon his retirement. Although it is often criticized that this plan structure will demand higher contributions from the employer and the company, the increasing income and cash flow will be able to make up for such occurrence.(Strong, 1951) In addition by employing the plan design mentioned previously, will make use of a formula determined an employee’s pay, years of employment, age at retirement, and other factors. (Bodie, Marcus, & Merton, 1988)
The annual  benefit  to be received by each employee is  determined by the amount of years of service at tenure multiplied by the employees final salary time one and twenty-five hundredths percent  (1.25%). for example, after 16 years Mr. Wilcox will retire and at a final compensation of $210,000 and a rate of 1.50% his retirement benefits is as follows:
16 x $210,000 x .015 = $50,400 annual benefit
The final salary of an employee will be his average compensation per year that has been paid and earned in the final 3 three years prior to the effective date of retirement.
Employees who are to retire at an earlier date should have
  Eight (8) or more years of credited service at involuntary termination or has at least 16 years of credited service to the company. An early retirement will warrant a reduced monthly benefit per each year prior to the normal retirement age of 60 years old. The monthly benefit will be reduced by   one-half percent (1/2%) for each month under the normal retirement age.
There are four options regarding survivor benefits or benefits to be received by their beneficiaries at the event of death. The employees are expected to choose one of the four options for their defined benefits plan. The first option is the Single Life Annuity. This option allows the employee to continually receive their income with no beneficiary benefit. This means that at the event of death, any contributions made and the corresponding credit interest that hasn’t been received by the employee will be given to the designated beneficiary. The Option 1, the second option, will allow employees to avail of a reduced lifetime benefit. This will provide the employees an option where in the remaining lump sum value of their compensation package will be accounted to their beneficiary. This means that if the employee passes away before receiving their retirement benefits, which included the accumulated member and municipal contributions, the remainder of the package will be given to the named beneficiary. If this amount is greater than five thousand dollars ($5,000) the beneficiary could opt to receive it in 3 ways, as lump sum, an annuity or as a lump sum with the remainder as annuity. Option 2 will provide the employee with a joint and one hundred percent (100%) survivorship annuity. The option will allow the employee to choose a survivor annuitant and alas long as the employee or the annuitant is alive, the benefit will continue. At Option 3, the employee will have a joint and fifty percent (50%) survivorship annuity. This allows the employee’s survivor annuitant to receive benefits that is one half (1/2) of the original benefit. However if the annuitant is no longer living, no benefit payments will be made. Under Option 4, the employee can choose receiving one payment in full amount plus their accumulated. The benefits to be received are then recalculated based on the remaining value of the account.  The remaining value of the employee’s account will then be paid as an annuity using either option 1, 2, 3, or as single life annuity.
Options 2 and 3 will require the employee to elect a survivor annuitant at retirement and is deemed unchangeable.
If at death the employee failed to pre-select a survivor option, it is automatically assumed that the employee has retired early, and thus avails of the early retirement package, and had chosen Option 1.  However if the employee dies before being eligible for voluntary early retirement, the accumulated deduction will be given to the most recent named beneficiary as file in the municipality’s board. Also, If
There are no employee contributions no benefits will be given to the beneficiary.
With regards to the Social Security benefits one will receive upon retirement, whatever receive from this retirement plan will not be affected. The two benefits are independent of each other.
Each employee is required to contribute to their plans as a deduction of three and five tenths percent (3.5%) from their compensation. Their contributions are taxed at the time they are made to the System.  They   are noted and calculated separately and are not considered to be taxable when it is paid out to the member. The regular interest to be credited to the employees account are usually determines by a city’s retirement board.
The municipality is also in charge of allocating the excess investment monies to each employee.   The Excess investment money allocated by the municipality allows the retirement benefit to increase and is added to the contracted defined benefit as proposed above. The company will allocate excess interest monies to the employee and will enable them to receive an addition to their monthly retirement benefits.

Aside from these benefits the plan will also include a disability benefit for situations that prevents an employee from being gainfully employed. The plan provides a disability benefit of 50% of the final salary. However, for a non-service disability, the employee must first incur 10 years of credited service. The plan will provide 30% of the final salary as annual benefits of the employee. (Lynch & Perry, 2003)

2. Assume that Bruce contacted you after you prepared the proposals noted above. He indicated that business has taken a sharp dive. He does not feel that he could put more than $40,000 into a qualified plan over the next year. Although he still wants to see your initial proposals, also wants to know if there would be any retirement plans that he could establish based upon Com-Tutor, Inc. not being able to contribute more than $40,000.

 In order to comply with an employer contribution of below $40,000 it is proposed the business takes into consideration the utilization of a Profit Sharing retirement plan in order to meet the set objectives. In this profit sharing plan, contributions are usually capped at $40,000 making it very suitable to the business given the preset conditions. This profit sharing plan is adjusted accordingly to fit the Bruce Wilcox’s profile as a self-employed individual.(Cheadle, 1989)
The plan will include the adoption of a Trust agreement that will consequently lead to the creation of trust fund. It is in this aforementioned trust fund will all contributions be made and from which benefits shall be paid. The purpose of the establishing such a plan is to encourage the company’s employees to save and invest so that they could provide themselves some security for the future.(Bassett, Fleming, & Rodrigues, 1998)
The employer is set to contribute any amount not exceeding $40,000 at his own discretion. This contribution will be allocated among its members and will be placed in the fund. Although employees are not required to contribute to the fund, certain provisions are made in order for employees to make contributions to the fund. A member who decides to allocate a percentage of his compensation can do so through payroll deduction. The contributions made by each employee determine the amount that they will receive come the set retirement age. These contributions will then be transmitted to the Trustee of the Trust Fund by the Employer for his retirement plan.
Each contribution made by eligible members are then dispersed and allocated among the individual accounts of the fund. Allocations are made depending on the compensation received as of the year at which the plan is carried out. All of these allocations are based on the ratio of the compensation for the plan year against the compensation made by all the members within the plan year.
With regards to the retirement benefits of each member, upon their retirement at the age of 60 they will have an account that is fully vested and non-forfeitable interest the account and the distribution of such account will take place upon their retirement. The amount of their accounts, and their retirement benefits, will be based on the balance of the account as of the nearest valuation date before the date of his retirement.
If an employee retires before the valuation date, the amount he will receive will be determined by the Valuation Date next following the date of his Retirement assuming that he has met all the employment and service requirements for such contributions. When a member becomes entitled to the distribution of such benefits, a written notice shall be given to the trustee and the payments for the distribution will be in the form of either a lump sum payment or periodic installments upon the member’s retirement.
Each member can choose to designate one or more primary beneficiary with regards to the trust fund. Upon the death of a member employee the named beneficiaries will be awarded with the Individual Accounts and its balance as of the Valuation Date preceding the date of the employee’s death.  The distribution for the balance will be carries out the same way as stated in the previous paragraph. However if the member failed to designate a beneficiary prior to his death for the said account will be allocated to either of the following:
(a) Surviving spouse
(b) Children and children of deceased children
(c) Their parents
(d) Their brothers and sisters, or if deceased, the children of such brothers and
Sisters,
(e) Their estate.
The member’s account will only be eligible for earning interest once the employee reaches the required credited years of service. The interest rate that the account will earn depends on the employee’s credited years of service. The interest rates are as follows:
Completed Years of Service after tenure      Vested Percentage
Less than 3 years . . . . . . . . . . . . . . . . . . . . . . .  0%
3 years  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 20%
4 years  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 40%
5-7years  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 60%
7-8 years  . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 80%
9 years and above . . . . . . . . . . . . . . . . . . . . . .  100%
In the case of an early retirement, a member at the age of 55 could file for distribution of his balance on the individual account provided that he has been with the employer for the maximum years necessary to vest 100% in benefits.

I believe that this scheme is best possible alternative for Com Tutor Inc. mainly because it doesn’t require the employer or the business to cash out a large sum of money. It is discretionary and the contributions made to the plan can be done at a minimum. Aside from this the employer can also receive higher tax deductions as opposed to regular retirement plans.(Bebchuk & Fried, 2004; Cheadle, 1989)

3.  Assume that Bruce is also considering the establishment of a nonqualified deferred compensation program for himself and selected key employees. Describe the advantages and disadvantages of these programs for both Com-Tutor, Inc., and the participants, and make a recommendation regarding which plan (if any) would be most appropriate for Com-Tutor, Inc. Justify your recommendation.

Nonqualified deferred compensation plans are usually employed by businesses to supplement their existing retirement packages. It has become increasingly popular throughout the years especially in small business owners as it enables them to reward their current employees while at the same time luring outside personnel to their firms.(Bebchuk & Fried, 2004) This could be beneficial to Com-Tutor Inc. since it is a relatively young company that is in need of more personnel who are experienced and knowledgeable in the field. According to John B. Connor Jr. in Small Business Reports, “One big advantage to [nonqualified] deferred compensation plans is that they escape the non-discrimination rules imposed on qualified plans.”(Lazear, 1990) This means that they can offer this option only to a select few in the employee roster, rewarding them with their excellent service. This can also encourage other employees to do just as good in order to avail of such option. This package also proves to be cost-effective since it does not require any additional administrative costs because the plans are exempted from any reporting requirements set by the government. In addition it also allows the company to situate itself among bigger companies as it levels the recruitment playing field by tailoring a benefits package that is highly attractive.(Morse, Morse Jr, Hall Jr, & Lake, 1997)
However some of the disadvantages that accompanies nonqualified deferred compensation plan includes cash value build and lowered tax deductions. With this kind of benefits package, the company is not eligible for an immediate tax deduction on the premium payments made. The deductions are only received once the company distributes or pays the participant of the deferred benefits. Aside from this the cash value build up is not protected at the event of insolvency of the company. This means that the deferred salary and compensation is not secure and is subject to changes in managerial change and in the worst case scenario it could be unredeemable once the company files for bankruptcy. Another disadvantage is that once an employee avails of their retirement benefits it is subject to income taxes. (Behling, Kilty, & Foster, 1983; Bodie, Detemple, Otruba, & Walter, 2004; Dawkins, 1992; Joulfaian & Richardson, 2001)
I recommend that for Com-Tutor to avail of a non-qualified deferred compensation package, funding should come from the purchase of a tax-deferred corporate owned life insurance. By employing such funding method, it allows the company to have a low impact on the company’s books, efficient cost recovery, and tax-advantage treatment and tax deferred growth. In addition Cash value life insurance also allows provision for death benefits and as well as tax deferred cash value accumulation that can be credited as to the employee’s retirement income.
The best kind of nonqualified deferred compensation plan for this situation is the use of Supplemental Executive Retirement Plans or SERPs. In SERPs it is the employer who shoulders most of the funding which adds to its attractiveness to the employees. In this specific package the Employer will compensate his employees through a percentage of their salary at retirement. This percentage is then multiplied by their years with the company. Basically this plan commences once the employer, Bruce Wilcox, comes to terms with an agreement with the employee. This agreement usually concerns the deferral of a portion of the employee’s current income with the promise of compensation in the future as retirement benefits. At retirement, the deferred salaries are then distributed to key employees as if they were normal salaries. (Levine, 1987; Lynch & Perry, 2003; Mitchell, 1982; Samwick, 1998; Whittlesey & Maurer, 1993)
Bibliography:
Bassett, W. F., Fleming, M. J., & Rodrigues, A. P. (1998). How workers use 401 (k) plans: The participation, contribution, and withdrawal decisions. Federal Reserve Bank of New York.
Bebchuk, L. A., & Fried, J. M. (2004). Stealth compensation via retirement benefits. Berkeley Business Law Journal, 1, 291-326.
Behling, J. H., Kilty, K. M., & Foster, S. A. (1983). Scarce Resources for Retirement Planning. Journal of gerontological social work, 5(3), 49-60.
Bodie, Z., Detemple, J. B., Otruba, S., & Walter, S. (2004). Optimal consumption–portfolio choices and retirement planning. Journal of Economic Dynamics and Control, 28(6), 1115-1148.
Bodie, Z., Marcus, A. J., & Merton, R. C. (1988). Defined benefit versus Defined contribution pension plans: What are the real trade-offs? Pensions in the US Economy, 139–162.
Cheadle, A. (1989). Explaining patterns of profit-sharing activity. Industrial Relations, 28(3), 387-400.
Dawkins, J. (1992). Security in Retirement-Planning for Tomorrow Today. Statement by The Honourable John Dawkins, MP, Treasurer of the Commonwealth of Australia, 30.
Joulfaian, D., & Richardson, D. P. (2001). Who takes advantage of tax-deferred saving programs? Evidence from federal income tax data. National Tax Journal, 54(3), 669-88.
Lazear, E. P. (1990). Pensions and Deferred Befefits as Strategic Compensation. Industrial Relations, 29(2), 263-280.
Levine, H. Z. (1987). Compensation and benefits today: Board members speak out, part 1. Compensation & Benefits Review, 19(6), 23.
Lynch, L. J., & Perry, S. E. (2003). An overview of management compensation. Journal of Accounting Education, 21(1), 43-60.
Mitchell, O. S. (1982). Fringe benefits and labor mobility. Journal of Human Resources, 286-298.
Morse, C. T., Morse Jr, C. T., Hall Jr, W. E., & Lake, B. J. (1997). More than golden handcuffs. Journal of Accountancy, 184(5), 37-43.
Samwick, A. A. (1998). New evidence on pensions, social security, and the timing of retirement. Journal of public economics, 70(2), 207-236.
Strong, J. V. (1951). Employee benefit plans in operation. Bureau of National Affairs.
Whittlesey, F. E., & Maurer, C. L. (1993). Ten common compensation mistakes. Compensation & Benefits Review, 25(4), 44.

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