1. Cash Balance Plans Lecture 6 Objectives: 1)Understand Components 2)Understand the Calculations

2. What is a Cash Balance Plan? Pension Plans that define a participant’s benefit as a hypothetical account balance Combines strengths of DB & DC Plans Account grows with annual pay-related credits and interest credits Employees receive lump sum or annuity at retirement/termination

3. Example of a Cash Balance Plan Account is established for each employee (hypothetically, no actual assets allocated in the trust) Each year the account is credited with a deposit equal to __% of employee’s pay Each year the account is credited with interest equal to a fixed interest rate or public index

4. EXAMPLE: 5% Pay Credit & 4% Interest Credit Year Pay Pay Cr. Interest Cr. Balance 1 $50K ??? 2 $60K??? 3 $60K??? 4 $70K??? 5 $90K ???

5. Why Have Companies Implemented Them? Improve Employee Understanding of Benefits Easier to Communicate Complement 401K plans Attract & Retain Talent Provide Portable Retirement Benefits Meets Company Business Strategy Potential Savings More Stable Costs

6. Why Have Companies Avoided CB Plans? Age Discrimination Rules Uncertainty Regarding Future of Plans due to Litigation (Cooper vs. IBM) Does Not Meet the Company’s Business Strategy Older Employees Feel They Are Unfairly Disadvantaged Due to Benefits Lost from Freezing Company DB Plan

7. Other Conversion Issues Benefit Earned at Conversion is Frozen Assume: 2% x 10 years of service x $50K of Average Pay= $10,000 benefit payable at normal retirement age of 65 Additionally, the employee would be entitled to any balances earned going forward under the Cash Balance Plan

8. Vesting & Interest Credits 3 Year Cliff Vesting since Defined Contribution Plans require 3 year Cliff Vesting schedules under the Pension Protection Act. Interest Crediting: Rate cannot be greater than a stated market rate: Variable rate: CPI Fixed rate: 4% Market Index: S&P 500 Minimum Guarantee: 4% or the 10 Year Treasury Rate—whichever is greater

9. Comparison of CB Plans & DC Plans Plan: CB DC Vesting: 3 Year Cliff 3 Year Cliff/6 Yr Graded Investments: Company Control Generally Self-Directed Funding: Flexible Flexible Design Flexibility: Significant Limited Forms of Payout: Annuity or Cash Annuity Optional As you can see, there are similarities and differences between CB & DC Plans—but they are on fairly equal footing.