MASBO Classified Personnel Certification Program Salary Deferrals and Payroll Presented by: Tamara Indianer, CFP® Regional Vice President, New England October 7, 2015 Thank John for inviting me and thank you all for participating in the program. Lincoln Investment Registered Investment Advisor • Broker/Dealer • Member FINRA/SIPC www.lincolninvestment.com 95 Sawyer Road, Suite 430 Waltham, MA 02453 (800) 608-3937 tindianer@lincolninvestment.com

Agenda Understanding what’s behind the Salary Deferrals 125 Plans MTRS and Municipal Pensions Retirement Plans Compliance/Oversight: 403(b) Plans TODAY’S AGENDA: we often get calls from folks like you asking us questions about 403b vs 457 vs mtrs, so today we will talk about what they actually are so you understanding what you are deferring on behalf of your employees We’ll talk about the new IRS 403b regulations and why they exist and the liability now on the school system 2

Section 125 Cafeteria Plans Provides participants an opportunity to receive certain benefits on a pretax basis. Participants in a cafeteria plan must be permitted to choose among at least one taxable benefit (such as cash) and one qualified benefit. Another salary deferral line item is the Cafeteria 125 plan which allows employees to receive certain benefits pre-tax 3

Section 125 Cafeteria Plans Qualified benefits include: Accident and health benefits (but not Archer medical savings accounts or long-term care insurance); Adoption assistance; Dependent care assistance; Group-term life insurance coverage; Health savings accounts, including distributions to pay long-term care services. So ees can choose to have a portion of their paycheck deferred into the 125 plan for any of the above mentioned benefits on a pre-tax basis. Mention Taxes, Medical/Dental, Credit Union, Union Dues, etc. 4

MTRS & Municipal Pensions * Defined Benefit Plan There are 3 options: A,B,C Irrevocable decision once effective date of retirement occurs There are a lot of moving parts when you are considering whether to take your pension. Simplified, there are 3 options: A, B or C. The most important thing to remember is that once you make your decision and have retired, it cannot be changed. Depending on when the ee was hired, depends on the % of income that they defer each paycheck into the MTRS. When they retire, this continuous deferral makes them eligible to receive a pension, also referred to as a defined benefit plan. A defined benefit pension plan is a pension plan in which an employer promises a specified monthly benefit on retirement that is predetermined by a formula based on the employee's earnings history, tenure of service and age, rather than depending on investment returns. It is 'defined' in the sense that the formula for computing the employer's contribution is known in advance. *Slight variances between MTRS and Municipal Pensions 5

MTRS Pension - Option A Highest Payout Available For your lifetime only Payout ends when you die No beneficiary (slide bullets) 6

Factors for Option A Age Years of service Final Average Salary (FAS), average of your 3 highest consecutive year’s salary New hires – highest 5 year average There are 3 factors: age, years of service and final average salary (FAS). (review slide calculation) 7

Option B 1-2% less than option A income Anyone can be your beneficiary When you die, balance of your fund goes to beneficiary Account depletes itself in 10-11 years (slide bullets) Differences from Option A that you do have a beneficiary, and that it can be depleted. Therefore, your beneficiary may not receive any benefit. 8

Option C Lowest possible payout Provides survivor benefit equal to 2/3 of Option C Beneficiary must be parent, spouse, sibling, child or ex-spouse who has not remarried Pop-up provision available (slide bullets) This is the Option you might choose if you want to provide for a beneficiary. If that person predeceases you, then you pop up to Option A. Everyone clear? Ha ha Let’s look at a case study which might help. 9

For Illustrative purposes only Case Study Your age: 60 Final Average Salary: $60,000 Years of Service: 35 Beneficiary’s age: 59 Option A Option B Option C $48,000 $47,520 $43,680 Dies with you Any remaining $29,119 to beneficiary to survivor ($4,320 difference) For Illustrative purposes only (slide bullets) Remember Option A dies with you. Option B might be depleted over 10-12 years. Option C, however, is the lowest, but provides the greatest protection for your beneficiaries. In essence, Option C is very similar to life insurance. Mention that the cap on the pension is 80% (80% of $60,000 is $48,000) 10

Effect of Inflation on $50,000 Pension 5 Yrs 10 Yrs 25 Yrs Actual Pension w/ COLA $51,800 $53,600 $59,000 Income needed w/ 3% inflation $56,275 $65,236 $101,626 This slide illustrates the effect of inflation on your pension payout. (compare payout amounts between 5, 10, 20 and 25 years) Was 3% on first $12,000, now it’s $13,000 11 For illustrative purposes only.

Sources of Income for Retirement WEP

Retirement Plans Bank Accounts Investments Retirement Accounts IRA Perfect segue to explain 403b accounts and 457s and why they are so important

Retirement Plans 403(b) Basics Defined Contribution Plan Salary Deferral Contributions* Contributions are Pre-Tax Earnings grow Tax-Deferred Limits on Contributions ($18,000 to $27,000 in 2015) 10% tax penalty for premature distributions (pre 59 ½) *You send the $ to Provider or TPA (who forwards it to provider) 403bs like 401ks in private sector 403bs are sometimes called TSAs which can stand for Tax Sheltered Annuities (which is all there used to be) or Tax Sheltered Accounts which refers to mutual funds. Although I will spend some time on 457s, I am going to focus mainly on 403bs since that’s the plan you will be dealing w/ since the city or towns handle the 457. DCP based on investments, voluntary, individual 14

403(b) Contribution Limits Elective Deferral Limit (402(g)): $18,000 in 2015 Special catch-up election is only for employees with 15 years of service or more with their present employer. May permit an additional $3,000 annually for five years. Still need to perform MAC calculation to ensure eligibility. Special $6,000 additional amount available to employees who are 50 years of age or older Contribution Limits - $17,500 - maybe $3000 if 15 years w/ er -$5500 if 50+ Make sure that whoever services your ees, uses the MAC calculation if they go over the $23,000 15

403(b) Contribution Limits Example: 2015 $18,000 $ 6,000 if age 50 or older $ 3,000 if more than 15 years service (maybe) $27,000 See IRS Publication 571 – Tax-Sheltered Annuity Plans (403(b) Plans) www.irs.gov/pub/irs-pdf/p571.pdf 16

403(b) Basics Basic types: Annuity contracts purchased through an insurance company —known as 403(b)(1) annuities Custodial accounts, which hold mutual fund shares — known as 403(b)(7) accounts Pre-Tax Traditional 403(b)s and After-Tax ROTH 403(b)s (not to be confused with ROTH IRAs): Deferrals must not exceed combined limit of $18,000 (or $24,000 or $27,000) There are two vehicles that can be used for the 403b: An Annuity (either fixed or variable) and Mutual Funds. And now there are two types of 403bs: Pre-tax Traditional and After-Tax ROTH 403bs, not to be confused with ROTH IRAs. Does everyone know the difference between this? Ask if I should explain differences between annuities and mutual funds? The differences between ROTH 403bs and Traditional 403bs is very important for you all to understand bc the traditional 403b is pre-tax, but the Roth is not. You will need a separate line item for each…employees can hedge their bets and divide between the two should they choose, assuming the Roth is available in your district. If income is above $178K-188 for joint filers, or $112K-127 for single, can’t make Roth IRA contribution If income is $95k-115 for joint, $59-69 for single and participate in a retirement plan, can’t do a deductible IRA; $178-188 is phase out for non-active participant spouse (jt return). This has increased for 2013. 17

Retirement Plans 457 Basics Same as 403(b) Salary Deferral Contributions Contributions are Pre-Tax Earnings grow Tax-Deferred Limits on Contributions are Similar to the 403(b) $18,000 in 2015; $24,000 if age 50 or older The 457 basics are very similar to the 403b but the 403b has the 15 years of service catch up provision Dominated by Insurance Cos. 18

403(b)/457 Differences Premature tax penalty on distributions from a 457 Age 59½ is not a factor. Once separated from service, participant can withdraw funds without a 10% tax penalty. Withdrawal of funds from a 457 while still employed Loans may not be available In-service distributions may be more difficult In 457 plans, participant must have “unforeseeable emergency” Usually only medical expenses and emergencies qualify Purchase of residence does not qualify College expenses do not qualify The major difference between the two is that with the 457, if a person is separated from service, they do not have to be 59.5 to withdraw funds w/out the 10% penalty. However, loans may not be available and in-service distributions are more difficult. 19

403(b)/457 Differences In-service 403(b) hardship withdrawals are usually approved for “safe harbor” reasons Medical bills Purchase of primary residence Post secondary education Prevent eviction from primary residence Also, 403(b)s allow: Post-employer contributions Higher Limits for Employer Contributions ($53,000 in 2015) In general, the 403b is more flexible 20

Combined 457 & 403(b) Contributions EXAMPLE 2015 403(b) $18,000 $ 6,000 (if age 50 or older) $ 3,000 (maybe) $27,000 457 $24,000 = The fact that a 403b and 457 are available in most districts is a real benefit to those that can afford it. It’s two of the only retirement plans that you can defer to both with one income. $51,000 21

403(b) Regulations Implemented January 1, 2009 by IRS Responsibility for compliance with these regulations now falls to the School District Huge shift in Responsibility/Liability 22

403(b) Regulations 403(b) Plan Requirements Plan Document Transfers and Exchanges Universal Eligibility Prompt Deposit of Contributions Hardship Withdrawals Loans TPAs Let’s now focus on your responsibilities with 403bs because that’s where most of the changes have been. U R ultimately responsible for the plan. In other words, the top 6 bullets, but you can give the authority to handle these issues to a TPA. 23

403(b) Plan Document There must be a written plan Must contain all terms and conditions for eligibility, limitations and benefits Failure to comply could disqualify the entire plan Plan document has a form requirement and an operational requirement. IRS issued model language that helps with the form requirement. Employers must operate their 403(b) plans in accordance with the terms (“form”) of their written plan document. 24

403(b) Plan Document Written record of responsibilities among employer, vendors and other entities Must outline who is responsible for administration and compliance responsibilities: Employer and/or Third parties, such as product providers and TPAs Responsibility cannot be assigned to the employee 25

Transfers and Exchanges No transfers or exchanges unless permitted by Plan Document Exchanges restricted to only those products named in Plan Document Plan could authorize different vendors for exchanges and for payroll access After employment: Employees could transfer to another employer’s 403(b) plan if both plans permit Summarize If any of you have worked in the private sector, this is similar to a 401(k) plan. 26

Universal Eligibility All employees must be eligible to participate unless they are: Unwilling to contribute at least $200 per year to the 403(b) plan Normally work fewer than 20 hours per week for the employer Or may use 1000 hours rule – must keep good records Students Non-resident aliens Cannot Exclude Substitutes Why bother with this? If an ee works less than 1000 hours and you exclude them, in all succeeding yrs, you must count hrs on everybody and if over 1000 hours, they must be included. Substitutes: If you are audited, the IRS will definitely look for this bc they know it’s been misused. 27

Universal Eligibility Annual Notification Not new Let employees know they are eligible to participate If employees not aware of the plan (meaningful notice), plan can't be considered "available" — even if employees could have participated if they had asked When and how often they can make or change their contribution That they have choice between Roth and regular 403(b) (if Roth is available under the plan) Other conditions that may apply Many districts are requiring ees sign a form that they don’t want to participate so the district has this for their files. 28

Universal Eligibility Annual Notification, continued Notice can be electronic or hard copy, however should be documented Low participation rates (18-20%) and/or flat or declining rates since 2009 triggering IRS Audits?? 29

Prompt Deposit of Contributions Contribution amounts must be transferred to providers within a period no longer than is reasonable for proper plan administration While the IRS did not mandate a time frame, it did give an example: 15 days after the last day of the month that the funds were deferred from the employee's pay South Shore example 30

Hardship Withdrawals: Changes Participants cannot withdraw funds from their 403(b) account while still employed unless conditions are met Need to understand that money must stay in your 403(b) until death, disability, separation from service, age 59½ or hardship These rules aren’t new — but now they will be enforced Remember we spoke about this earlier: Participants cannot withdraw funds from their 403(b) account while still employed unless certain conditions are met. Need to understand that money must stay in your 403(b) until death, disability, separation from service, age 59 ½ or hardship. These rules aren’t new — but now they will be enforced. 31

Hardship Withdrawals Must follow same rules as in 401(k) All salary deferrals must stop for six months Hardship withdrawal limited to your December 31, 1988, account balance PLUS contributions MINUS previous hardship distributions (no earnings) Need to submit proof of hardship (copies of medical bills, tuition bills, etc.) Must follow same rules as in 401(k) Hardship withdrawal limited to 12/31/88 balance + contributions - previous hardship distributions (no earnings) All salary deferrals must stop for six months – THIS IS THE MOST IMPORTANT PIECE FOR YOU ALL BECAUSE IT EFFECTS PAYROLL 32

Loans Limited to lesser of: $50,000 50% of account balance Must include all loans in all plans of employer (e.g., 457(b) plan) and all vendors Limited to lesser of: $50,000 365 day look back 50% of account balance Must include all loans in all plans of employer (e.g., 457(b) plan) and all vendors 33

Role of TPAs* Contributions Reports Hardship Distributions Stopping Contributions Exchanges *See Monitoring Your TPA in Nov-Dec 2009 MASBO MATTERS As the Employer, you are responsible for the proper administering of the plan. You might do it yourself, or have hired a TPA. How many of your districts are using a TPA? And how many are not? And how many don’t know? Contributions: Are they deposited as soon as administratively possible? Reports: IRS Audit, plan level reports showing distributions, loans, and exchanges. Hardship Distributions: ask to see the ppwork used to approve a hardship Stopping Contributions: Is there a process in place to ensure no contributions for 6 months? Exchanges: ask to see a report to confirm no outside exchanges 34

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