Group Chap 8: Retiree Group Benefit

Question 1

Retiree Benefit Design

Reason for offering Retiree Group Benefit

Answer 1

1. When originally introduced, they tended to be an extension of active benefit design
   a. Employers realized that retirees had different needs

2. Typical plan today:
a. Pre-65 retirees – continuation of same program while they were working (usually a PPO)
b. Post-65 retirees – indemnity plan using Medicare payment rate levels
* Generally, dental coverage is terminated and life insurance is reduced

3. Reasons for Offering Retiree Group Benefits
a. Tax effective
b. Valuable benefit for those currently receiving coverage or those soon to retire
c. Support workforce planning and growth opportunities for employees
d. Providing ongoing health coverage is a social responsibility of the employer
e. Helps provide a competitive total compensation package
f. Current cash costs are nominal relative to total spending on benefits
g. To meet union demands

Question 2

Medicare Integration

1. Medigap Plan (Supplement)
2. Standard Coordination of Benefits
3. Exclusion
4. Carve-outs

Answer 2

1. Retirees are typically also covered by Medicare, so plans must coordinate who pays
2. Government plan is the primary payer
3. Coordination typically applies to Part A and Part B
   a. Coordinated plans under Part C are paid directly by Medicare, so no explicit coordination is needed
4. Medicare Integration Methods

a. Supplement (aka “Medigap” plans)
- Pays for expenses that the primary plan does not pay
- 10 specific plan designs are allowed by federal law so that no other type of plan may be sold (see table below from text)

b. Standard Coordination of Benefits (COB)
- Full payment of expense when primary and secondary are combined
- C = covered expense, M = the Medicare payment and % represents employer’s benefit provision
- - The lesser of C x % or C - M

c. Exclusion
- First excludes benefits paid from primary then applies the benefit formula
- (C-M) x %

d. Carveouts
- Produces the smallest employer benefit
- (Cx%)–M

Question 3

Medicare Prescription Drug Coordination

Answer 3

1. Variety of alternatives for employers
a. Maintain current employer-sponsored plan and receive drug subsidy from Medicare (uses gross and net value tests to ensure plan is eligible for subsidy)

b. Contract with a PDP or MA-PD

c. Contract with CMS directly to become a Medicare PDP or MA-PD for its own retirees

d. Provide separate drug plan that supplements any available PDP

2. ACA eliminated the tax advantage of retiree drug subsidy that allowed plan sponsors to not include in gross income
a. Also provided pre-65 retirees with guarantee issue protections through individual market

b. Many employer retiree drug plans were reevaluated as a result of these large changes

3. The gradual switch by employers to other types of plans to take advantage of Medicare’s various subsidies of prescription drug plans can be seen in the following table (taken from text)

Question 4

Retiree Plan Changes

Answer 4

1. Plan design changes in the early 1980s – now
a. Focused on who pays what share of premium cost

b. Changes to Retiree Group Plans
i. Early Changes to Retiree Group Plans
- Introducing or slightly increasing retiree contribution levels
- Setting retiree contributions as fixed percentage of total cost
- Changing method of Medicare coordination

ii. More Recent Changes
- Eligibility requirements more stringent
- Service-related benefits
- Adjusting retiree contributions based on age at retirement
- Employer subsidy of retiree medical a fixed dollar amount and not a percentage of plan costs
- Account based employer subsidy (e.g. EE earns $1,500 for each year of service, so after 20 years has $30,000)

2. Future plan design considerations
a. Most early plan design changes shifted costs from employers to retirees

b. Similar methods that employers used to reduce health costs for active employees

c. Retirees are different from active
- Harder to get communications to them
- Most have family physicians they have been seeing for a long time
- Some move away, difficult to physically meet

d. Future Efforts are likely to Change Value Proposition of Retiree Healthcare
- Account-based ER subsidies
- Consumerism initiatives to encourage efficient care
- Overall total cost management
- Methods to effectively coordinate the ER plan with Medicare

e. Many of these changes don’t have the dramatic accounting cost impact of earlier changes

f. Some employers have to decide that they can no longer afford to subsidize retiree group benefit coverage

3. Other Benefits
a. Dental, vision, and hearing
- Many ERs provide these only to age 65
- Plans continued for retirees have same benefits that active EE programs provide

b. Death benefit coverage has declined significantly

c. Medicare Part B premium reimbursement: coverage has declined significantly

Question 5

Prefunding

Answer 5

1. Ideal Funding Vehicle for Prefunding Retiree Benefits
a. Current company tax deduction for contributions
b. Tax-free or tax-deferred savings
c. Earnings that accumulate in a tax-sheltered environment
d. Tax-free benefits paid to retirees
e. No impact on plan design provisions
g. Assets recognized in applicable accounting standards
h. Assets are revocable without penalty

2. Investment vehicles traditionally used to prefund retiree life and health benefits
a. Welfare benefit funds
- Trusts referred to as VEBAs
- Continuance funds held by insurance companies

b. IRC 401(h) funding in a qualified pension trust

3. Recently, less traditional vehicles such as
a. Incidental accounts under a profit sharing plan
b. Employee purchased group annuities
c. Employee Stock Ownership Plans with a money purchase plan
d. Qualified retirement trust funds (e.g. pension plans or 401k profit sharing plans)

4. Deficit Reduction Act (DEFRA) - 1984
a. Limited use of welfare benefits funds and insurance company reserves (continuance funds)
- Limits deductible contributions
- Taxes the investment income earned
- Limits amounts allowed to be funded for retiree life insurance benefits

• Health benefits funded in a pension plan 401(h) have limits from plan qualification and tax deductibility perspectives
• Profit sharing/shavings accumulate funds tax effectively, but tax on benefits. Also limits on amount contributed on a pre-tax basis
• Employee contributions to group annuity contracts are made after-tax. IRS has not addressed taxability of benefits

Question 6

Legal Issues in the United States

Answer 6

1. Retiree group benefits have been subject of several court cases – deal with terminating a plan or making modifications
a. Early court cases favor the plaintiff (retirees)
b. Employers altered language in plans to allow them to make changes
* Since then, courts favor the employers

2. Bankruptcy Code – 1988
a. Employers must continue retiree coverage while undergoing chapter 11 reorganization

b. May be possible to lower benefit level if they negotiate it with retirees’ representatives or receive permission from bankruptcy court

c. If employer ends up liquidating, retiree claims become the same as any other unsecured creditor

3. Age Discrimination in Employment Act (ADEA)
a. Retiree medical benefit design can vary between retirees under 65 and retirees over 65

b. 2000 – Pennsylvania court ruled that plan violated ADEA when post-65 benefits of a plan were deemed inferior to pre-65

c. Equal Employment Opportunity Commission (EEOC) – 2007 – allows employers to coordinate with Medicare without violating ADEA

4. Prefunding of retiree group benefits
a. General Signal case – employer should not have taken tax deductions for prefunding retiree medical plan because money was later used for other benefits
b. Wells Fargo case – allowed employer to deduct the present value of benefits for currently retired employees in the year of funding

Question 7

Accounting

Answer 7

1. FAS 106 increased employers’ benefit costs
   a. Requirement to accrue the benefits accelerated the accounting recognition of the cost
2. Accounting similar to pension plan accounting
   a. Additional assumptions
   - Probability of future participation
   - Assumptions to anticipate future costs
3. In 2015, the GASB issued Statements 74 and 75 to replace 43 and 45
   a. The new statements require these plans to hold the liability on their balance sheets, rather than to report it only as a disclosure item
4. International standards will require amendments to improve transparency

Question 8

Actuarial Methods and Assumptions

Answer 8

1. Blends actuarial expertise of pension and health actuaries

2. Economic assumptions
- Inflation
- Discount rate
- Asset return
- Salary increases
- Social security increases

3. Additional economic assumptions for retiree group benefits
- Current retiree plan costs
- Current retiree contributions
- Health care cost trend rate
- Medicare part B premium increases
- Retiree contribution increases

4. Demographic assumptions
- Termination/turnover of employment
- Mortality
- Disability
- Retirement incidence

5. Additional demographic assumptions for retiree group benefits
- Plan participation
- Marital status and spouse age
- Spouse plan continuation after death of retiree
- Dependent children plan termination
- Health plan options

6. For private sector employers, Projected unit credit (PUC) is most common actuarial method for group retiree benefits, because it is prescribed under ASC 715-60 (formerly FAS 106)
7. Public sector plans subject to GASB 74 and 75 must use the entry age method with each period’s cost determined as a level percentage of pay

Question 9

An Insurer’s Perspective on Retiree Plans

Answer 9

1. Insurer need to estimate upcoming year’s claim and administrative costs
   a. Pre-65 retirees cost much more than actives and dependents
   - Much more likely to hit deductible and out-of-pocket maximums
   b. Post-65 retirees may cost less than actives
   - Due to Medicare coverage
2. Common Underwriting Considerations for Retiree Plans
   a. Post-65 claims more difficult to process due to coordination of benefits
   b. Retirees have higher number of claims (more claims and customer services resources)
   c. Choice of coordination type has big financial impact
   d. Proportion of pharmacy cost as pct. of total medical is much higher (40-60% for retirees; 15-20% for actives)
   e. Employer Subsidization and Risk Selection issues – if not subsidized, only bad risks may opt for coverage
   f. Individual Health Insurance (starting 2014) expands retiree options to obtain affordable health insurance options for pre-65 retirees