Nurturing the Nest Egg
School districts get new federal duties in overseeing workers’ 403(b) supplemental retirement accounts.
Seemingly arcane new federal rules about supplemental retirement plans have sparked a seismic shift in responsibility for school districts, thrusting them into the retirement business with new oversight—and burdens—involving their employees’ 403(b) accounts.
Once merely paper-pushers between their employees and investment choices, district business officials must now vet and pick the investment firms that offer such plans, craft a highly technical document governing the 403(b) accounts, and assume responsibility for making sure employees seeking hardship withdrawals or loans from their accounts are following the rules.
And the clock is ticking toward the Jan. 1 Internal Revenue Service deadline to comply with the most significant change in 403(b) plans since the regulations were first issued in 1964.
“For most of the school district business officials, they’re busy with bus routes and ordering textbooks, so they are somewhat horrified by this,” said Linda Segal Blinn, the vice president for technical services for ING, a worldwide company that participates in 403(b) plans in 12,000 school districts that together hold about $20.9 billion in assets on behalf of those who work in U.S. public education. “This is a whole different mind-set.”
The changes represent dramatic new responsibilities in oversight and administration that had been “virtually nonexistent” for district business officials, said John Kevin, the investment officer for the 139,000-student Montgomery County, Md., school system.
The impact of the new IRS rules, which became final in July 2007, will be felt far beyond district business offices.
Teachers and other employees may find their investment choices limited as their districts, for simplicity’s sake, seek to scale down the number of investment companies allowed to offer their plans. Employees used to dealing directly with their investment houses for loans and other withdrawals will have to apply through their districts, or through designated school system contractors.
Amid turmoil in the financial markets—and the toll that can take on retirement savings—experts say it’s still important to remind employees that they are ultimately responsible for their investment decisions, even when choosing from a menu of options made available to them. “You still have to do a little bit of your own homework,” said Ms. Blinn.
Even as the new rules have left district officials confused and, in some cases, overwhelmed, they also have provided a business opportunity for companies and consultants ready to swoop in and offer their services.
On Jan. 1, new Internal Revenue Service regulations go into effect that greatly add to the responsibilities school districts have over their employees’ 403(b) plans.
About 403(b) plans
• Similar to 401(k) accounts in the for-profit sector, these plans are supplemental retirement accounts into which teachers, other school district employees, and employees of other nonprofit organizations can choose to set aside money from their paychecks.
• Employees don’t pay taxes on the contributions to their accounts, which may be matched in part by school districts.(Deferred taxes are paid on withdrawal.)
• Employees can direct how their money is invested, but face tax consequences under some circumstances for withdrawing money early.
About the new IRS rules
• School districts will have far more responsibility for administering the plans.
• Responsibilities will include verifying that employees are eligible to participate in the 403(b), that contribution amounts don’t exceed limits, and that distributions from the accounts are done correctly.
• Employees will be limited to the investment companies their school districts choose, but can then invest their money freely within the companies’ investment options.
• School districts will be responsible for making sure that employees’ loans or other withdrawals follow plan rules.
“My fear is for these 500- to 1,000-employee entities that don’t have the economic clout and don’t have the knowledge,” said Dan Otter, who runs a Web site called 403bwise that seeks to educate school employers and employees about these supplemental retirement plans. “These little entities are going to get steamrolled.”
The amount of money at stake is significant. At the end of 2007, nearly $692 billion nationally was invested in 403(b) plans, with public school employees holding about one-quarter of that total, according to the Chicago-based Spectrem Group, a consulting firm that specializes in retirement markets, and Mr. Otter’s Web site.
A 403(b) supplemental retirement plan is akin to a 401(k) plan in the for-profit sector. It is meant to augment the more traditional teacher or public-employee pension, which is typically administered at the state level.
Supplemental plans allow teachers to invest their own money through payroll deductions. Until the impending rule changes, processing the deduction has generally marked the end of a district’s responsibility.
Muddle through the IRS’ highly technical legal and tax jargon, and the new tasks for school business officials seem straightforward: Craft a written plan. Pick and vet one or more investment companies for employees. Monitor employees’ loans and withdrawals from their accounts to make sure they are within the federal rules. Educate employees about their 403(b) plan.
Districts have known for more than a year that the changes were coming, as federal officials aimed to bring rules more into line with those of 401(k) plans, and make employers more responsible for the plans’ administration. But that hasn’t made the transition any easier.
The IRS regulations are extremely complicated, and most districts don’t have the in-house expertise to navigate this new territory, said John Musso, the executive director of the Association of School Business Officials International, or ASBO, based in Reston, Va.
The lack of readily available advice for many districts has prompted groups such as ASBO and the American Association of School Administrators to distribute educational materials and field questions from school officials.
“We don’t give any tax or legal advice, but we will help them to ask the right questions,” said Arlene H. Olkin, the education development manager for ASBO, which has put together a comprehensive Web site of resources on the new 403(b) regulations.
Regardless of the size of the district, many officials are struggling to understand the same murky parts of the regulations.
First, there’s the question of “fiduciary responsibility”—or just how responsible a district is for exercising due diligence in vetting investment companies.
In addition, the new rules require a complex information-sharing arrangement enabling all the investment firms working with the district to exchange information about employees’ accounts. That will assure that districts can, for example, keep track of whether loans taken are within allowable limits. But how that information will be shared—such as over the phone, or within a data system—and how effectively, is one of the biggest stumbling blocks, school business officials said.
What’s more, some district decisions—such as whether to hire a contractor to help administer the plan for all district employees—may be subject to collective bargaining with employees’ unions, depending on the existing labor contract, said Paul H. Gonzalez, the executive director of MEA Financial Services. His company provides insurance, financial-services programs, and investment products to active and retired members of the Michigan Education Association, an affiliate of the National Education Association.
To help manage the regulations’ complexity, many districts are winnowing the number of investment plans and companies available to employees, meaning teachers and other employees will have fewer places to invest their money.
Five states—California, Ohio, Massachusetts, Texas, and Washington—generally prohibit such limits. In other places, however, the menu of choices already is set to shrink.
In the next couple of weeks, for example, the 5,000-student Maryville city district in Tennessee will have to tell its 600 employees that it reduced the choice in investment companies to 12 from 21. Several big ones—Fidelity Investments, Pioneer Investments, and American Funds—are choosing not to continue to work with the district.
“We’re really going to take a lot of heat,” said Mindy Stooksbury, the district’s director of fiscal services.
While many districts are keeping the new responsibilities in-house, some districts, such as Maryville, are choosing third-party administrators to carry out most of the day-to-day duties.
Many small districts are opting to create regional consortia and then hire third-party administrators to manage the plans, said Jamie Kalamarides, the senior vice president of retirement solutions for Prudential Financial, which has worldwide locations and manages 557 education 403(b) plans with $2 billion in assets.
The 4,000-student Westlake city schools in Ohio is requiring investment firms that continue to work with it to assume new responsibilities in helping the district comply with the IRS rules. As a result, the number of investment companies come January likely will drop to the single digits from 22, said Mark Pepera, the district’s chief financial officer.
“Now we have to craft information documents to our employees to let them know that between now and January 1, they have some big decisions to make,” he said.
As districts try to navigate the maze of regulations, numerous firms are willing to help—and stake out a share of this new business.
In November 2007, AIG VALIC—a subsidiary of the troubled insurance giant American International Group Inc., which has since been rescued by the federal government—announced it would partner with another firm to provide investment advisory services to go along with its administrative services.
The venture is aimed at small employers, “many of whom lack the in-house resources necessary to provide rigorous plan compliance ... and investment oversight,” according to a company announcement.
And New York City-based AXA Equitable is marketing its “retirement-plan solutions” for public schools and other nonprofit employers.
“I have a file that’s very thick, full of all kinds of marketing materials,” said Mr. Pepera, of Ohio’s Westlake district.
In Florida, education officials took a collaborative approach involving union representatives, local school boards, district superintendents, and school administrators. Together, they selected five investment houses and urged the state’s school districts to participate in a “model plan.”
So far, more than 20 Florida school boards have adopted the plan, said Joe Rollins, the president of TSA Consulting Group, of Fort Walton Beach, Fla., which helped develop the model plan.
And the new rules have meant new business for tsa, which started out in 1997 as a consultant on such issues: It’s now the contracted third-party administrator for 403(b) plans in 64 of the state’s 67 school districts.
Vol. 28, Issue 06, Pages 26-27
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