In this video, Tom Hegna discusses what an Income Annuity is. How it acts likes Social Security or a Defined Benefit Pension. And why you must have this in your portfolio as part of your "assets' in retirement, regardless of how much you have.
At Schiff Benefits Group, we help business owners and their key employees create streams of income in retirement that can't be found by just using your IRA to draw income. At the same time, we protect against a downturn in the market, a long term care event, and a death of your spouse in retirement. Send us an email or call us to learn more.
Micki Hoesly, CLU, ChFC,
entered the financial services business 34 years ago with Mutual of New York, which is now part of AXA Advisors. In 1983, Micki began her own company, Capital Resources, specializing in pensions. Micki is also principal of Resource 1, a registered investment advisory firm. She is a 32-year Qualifying and Life member of the Million Dollar Round Table (MDRT) with three Court of the Table and eight Top of the Table qualifications. She also currently serves as the association’s second vice president. (Investment advice through Resource 1 Inc. Securities offered through Ceros Financial Services Inc. — not affiliated with Resource 1 Inc. Member FINRA/SIPC.)
Stephen O. Rothschild, CLU, ChFC, CRC, RFC,
is president and owner of M21 Consulting in Scottsdale, Ariz. His organization works exclusively through and with the high-net-worth and business clients of independent registered investment advisors, independent broker dealers and a few other financial professionals. M21 Consulting does not solicit clients directly. Stephen also has a long history of industry leadership. He is a Life and Qualifying Member of the MDRT and holds numerous Top of the Table and Court of the Table qualifications. He served as MDRT president in 2006-2007. Stephen also has served on the board of directors with both the International Forum and the AALU.
Matthew E. Schiff, CLU,
is the president of Schiff Benefits Group, specializing in the design, implementation, financing and ongoing administrative support of supplemental executive benefits programs. With more than 20 years of experience in the financial services industry, he is recognized as a leader in the deferred compensation field. Matthew is a Lifetime Member of the MDRT, with nine consecutive Top of the Table distinctions.
I’ve been a part of the life insurance business for the past 30 years, and like a lot of industry veterans, I’ve seen my share of change. A lot of the more experienced agents back in the early 1980s used to tell me — a newcomer at the time — that the business had shuffled along at a fairly slow pace until universal life burst on the scene. That single product brought an era of change and challenges, and although UL is now viewed as a traditional product, it seems like the business is still living in that era of rapid change.
At the risk of stating the obvious, though change is often difficult, it’s clearly not all bad. Whether change is good or bad for producers depends much upon how the producer integrates new developments into his or her business, and how willing he or she is to look beyond the immediate challenges toward a more successful future.
The best producers do just that, and for this month’s roundtable, we are asking some of the most talented, most forward-thinking and most articulate producers around to share their thoughts on the future of our business. No doubt we face some real challenges. But the future also provides some tremendous opportunity, and we’ve asked the following panel to share their thoughts on just what lies in store: Micki Hoesly, CLU, ChFC; Stephen O. Rothschild, CLU, ChFC, CRC, RFC; and Matthew E. Schiff, CLU.
Question 1
Charles K. Hirsch, CLU: There continues to be a tremendous focus in the life insurance business on the boomer market. That seems sensible when you consider the financial needs of the large number of people in that age group. But it also makes one wonder whether the business may be neglecting the needs of other demographic groups — like Generations X and Y. What are your thoughts on that?
Micki Hoesly, CLU, ChFC: There seem to be several logical reasons for the current focus on boomers. First, the boomers are now in the pre-retirement and early retirement years, which are critical times in their financial lives. Additionally, the average age of advisors has been getting much older, meaning that many of the advisors are also boomers.
It wouldn’t be surprising for their focus to be on people of their own demographic. There is also the wealth of the boomers’ parents’ generation, which is beginning to transfer, prompting an even greater need for financial advice.
But I don’t believe that Generations X and Y are being ignored. Every professional meeting I attend has information-packed sessions about how advisors can meet, communicate with and serve the X and Y generations. There are also sessions on how Gen X and Y advisors can meet, communicate with and serve other generations as well. I believe that advising Gen X and Y offers a great opportunity for advisors to build multigenerational practices so that the wealth built by each previous generation is preserved through their children and their grandchildren.
We can do that by either strategically making multigenerational planning with specialized products and services for each generation, or we can do that by apprenticing X and Y generation agents with our boomer agents to create multigenerational practices serving multigenerational families.
Stephen O. Rothschild, CLU, ChFC, CRC, RFC: Our industry has aged, and it is only natural to work with prospects close to your age. I worked with boomers before the name existed. Sadly, we do not have enough younger agents to work with their own age group, like Generations X and Y. Thus, it is not neglect but lack of younger entrants in our industry. As Generations X and Y age, they will get more attention paid to them as they will earn more and inherit more. They are also being addressed in some non-traditional ways. They are more likely to buy over the Internet, through worksite marketing, and through agents who have set seminar methodologies that address their market and needs.
Matthew E. Schiff, CLU: The insurance industry, as well as the professionals in it, has always looked at the demographics of a population and tried to focus its energy on the largest population. In this case, the baby boomers have been, and probably will be, the industry’s focus for the continued future because it’s the largest demographic. This does leave the under-45 market underserved, and I believe that the best way to help those in this market is by fostering the hiring of financial advisors under that age who can relate to their peers.
Question 2
Hirsch: Some companies and some producers are doing a lot of work in various ethnic markets. Is this a trend that makes sense to you, and do you see it continuing? Where do you believe we are headed in the area of serving the financial needs of specific ethnic groups?
Rothschild: Those addressing the various ethnic markets are simply following demographics. Population trends and birthrates show the ethnic markets are growing at a faster rate than the non-ethnic markets. The same logic applies to entrants into our business, as new insurance agents will often address their own ethnic market.
Schiff: This is not a new trend. New York Life prides itself in its ethnic marketing and has for many years. Their company, like many others, is focused on diverse markets. It’s just that, to be effective in those markets, just like any specialty, it takes time to establish a reputation and a presence in the specific market.
As for where we’re headed, the industry as a whole in the United States has to hire more diverse agents. Carriers that develop career agents understand that. But because of the drop in new agents over the years, it may be difficult to have a large impact in ethnic markets.
Hoesly: Many top-producing advisors have built practices that strategically focus on one market or one client demographic. Narrowing the focus allows the advisor to completely understand the needs of that market and become a recognized expert. With the United States becoming increasingly diverse, it makes sense to serve the needs of a defined demographic and provide specialized services that are specific to that market. This could be based on ethnicity, on age, on the type of business or those who need a certain type of service.
Question 3
Hirsch: When you look around at the competition these days, it seems there are more sales coming from or through non-traditional sources — like banks, the Internet, etc. Is this type of competition something that producers should fear? Or are there good ways to partner with these non-traditional sources to benefit everyone? And looking even further ahead, what type of competition do you believe has the potential to negatively impact the producer’s business to a significant degree?
Schiff: No. “Insurance is a product that is sold, not bought” is a well-known anonymous quote that describes our product. If agents get concerned that the commodity portion of our products are being sold through different channels, then we as agents have brought no value to our clients.
To partner with the non-traditional channels, you need to be a specialist at what you do, like a doctor (OB/GYN, orthopedist, family doctor, etc.). This brings value to them where they don’t normally have the expertise. But in my 21 years in the insurance industry, the only thing that can negatively impact the potential sales of life insurance is not competition, but rather legislation.
Hoesly: There is more need for life insurance and financial advice than our current advisors have been able to reach. Offering good products and services and reaching more people and encouraging them to take hold of their financial lives makes us all better. I don’t believe that producers should fear alternative distribution as long as it is reputable and builds on the good character and values of putting clients’ needs first.
The risk I see is competition that is deceptive, products that are financially unsupportable, or companies that put the guarantees of the industry in question. I think the greater risk today is the onerous disclosures and restrictions on advice that make it difficult for clients to understand their options and sift through the complex array of products and strategies. It seems backwards to me that the more licenses one holds, the more the advisor is restricted in how he or she can communicate and advise clients. Often, procedures appear to be primarily driven by the need to defend and not by the need to inform.
If we lose sight of our primary purpose — helping the client do what is in his or her best interest — then our service loses its value.
So where do I see future competition? I see it coming from the bold firms that believe clients need advice and that are not fearful of having that advice subject to fiduciary standards. I see it coming from advisors who understand that clients are overwhelmed with too much information and that a valuable service we provide is helping them find which information is significant and meaningful to them.
Rothschild: Producers who have not grown or changed should have great fear. Competition is coming from banks, registered investment advisors, broker-dealers, casualty brokers, accountants and a few attorneys. Many life producers have entered some of the competitors’ arenas as well, particularly in the investment arena. The key is your ability to differentiate yourself.
Frankly, most life producers are being commoditized, just like the insurance carriers. If you hold up two ledger statements from two different carriers, they look the same. Unfortunately, the prospect will determine value by looking at the premium and as we all know…
This analogy applies to the producer as well. Being a trusted advisor is no big deal. Rather, it is just table stakes. Is a prospect going to work with someone they don’t trust? Becoming the most-valued advisor is what is important. How is the advisor bringing value to the prospect? Are you leaving it up to the prospect to determine the parameters of value? Or are you helping them determine these parameters?
At our firm, M21 Consulting in Scottsdale, Ariz., we work primarily with independent registered investment advisors and independent broker-dealers. We do not go after the retail market directly. We bring our expertise to those who want to deepen their client relationships and diversify and increase their revenue. Their high-net-worth clients are our target.
Other producers can partner in other ways, or others can partner with life producers. It depends on who is doing the marketing. I am never concerned about a negative impact on the producer’s business, as there are still way too many prospects who are never called on or do not have a life insurance advisor. Again, those who don’t make changes to their practice will find themselves out of the business.
Executive Benefits Client Questions
1. If I can show you a way to provide a meaningful benefit to your key employees which is fully cost recovered, would you do it?
2. Did you know that the government allows Employees to defer as much as 100% of their salary and bonus as long as the election is made in the December prior to the year that the income is earned?
3. Would your employees like to be able to exceed their 401K limitations?
4. Do you as an employer HAVE TO put in a safe harbor contribution so that highly compensated employees can maximize their 401K contributions?
5. Have any of your employees received a refund from the 401K because of cross testing?
6. Have you had any retention problems with your key employees?
7. Would you like to discriminate in favor of two or three employees?
8. Would you like to recover the costs of your benefit programs?
9. Is Benefit security more important or cost recovery?
10. Which is more important, a current employer deduction or a deduction when the benefit is paid?
11. Which is more important, a current deduction for the employee, or a current deduction for the employer?
In an ideal world which item(s) is/are most important?
Employer
1. Current Deduction
2. Current Employee Deferral
3. Retention of the Employee (Golden Handcuff)
a. Flexible Vesting Schedule per employee
b. Stock like Structure
c. 401K Look Alike
4. Tax Deductible Benefit Payable at Retirement
5. Complete executive control over the asset
6. Flexibility of the plan design by participant
7. Matched asset against a deferred benefit
8. Key Man Insurance
9. Cost Recovery of a Benefit Plan
Employee
1. Current Deduction (i.e. like 401K)
2. No Limit to retirement contribution
3. Tax Deferred Growth
4. Tax Free Income at Retirement
5. Tax Free Death Benefit
6. Access to Cash during Employment
Key Goals
• Overcoming 401(k) limitations
• Key employee retention
• Integration of nonqualified deferred compensation plan with the 401(k) contributions
• Tax free growth
• Cost recovery of the employee benefits
Backstory
(This information provided is only an outline. Current contribution limits and laws may have changed to impact the benefits highlighted below)
ABC Corporation, a multinational, private C Corporation based in New York had over 2000 employees who were mostly hourly wage earners. They also had about 90 management and highly compensated employees who were key to growing this company in their specific marketplace.
The benefits broker, a mid-sized property casualty firm with a benefits practice was having problems getting 401(k) participation up. Specifically, over the three prior year’s rank and file participation was so low that the highly compensated individuals received thousands of dollars per year in refunds from their 401(k) plan because of the “top hat” testing. The net amount contributed to the 401(k) per year per highly compensated employee after the mandatory refunds ended up being only $955.
To rectify this problem the employer had to try and increase 401(k) participation. The employer was willing to making matching contributions to the 401)k) plan, but it only wanted to make those contributions to those employees that were putting money away. They had spent the last 8 to 10 months consulting with outside “benefit” firms that had recommended some solutions but those firms either could not convey the proper solution or the employer perceived it as and added expense. The ultimate goal was to build up the business and then sell it off in five to ten years. Keeping key management was important but not so much that it would reduce the future value of the company.
Problem #1 401(k) Limitations
The 401(k) plan was a cross tested plan and severely limited highly compensated employee contributions. The initial recommendation was to convert the plan to a Safe Harbor plan where the key employees would be able to “max out” their contributions up to the annual contribution limit ($14,000 at the time). This would alleviate refunds from the retirement plan for the highly compensated employees and give them another reason to remain with the company.
Solution #1 Increase Participation Through Company Match
While changing the 401(k) plan to a Safe Harbor structure was an easy fix, it was going to cost ABC Corporation almost $350,000 annually. When looking at the distribution of those funds, most of the money went to the rank and file employees who were not contributing voluntarily. The owner was willing to make contributions to the retirement plan, but only to those who already contributed on their own behalf.
Instead of taking the Safe Harbor approach an alternative, and less costly solution was to increase the 401(k) matching contribution to a dollar for dollar match of the first three percent of compensation with a graded vesting of 6 years on the employer match. Combining that with additional enrollment meetings by the 401k company they could increase the amount that highly compensated employees would be able to contribute without giving away “free money”.
Problem #2 Further Bonus Deferral Opportunity
The employer was losing trusted “key employees” each year because of the limitations in the 401(k) as well as the inability to defer large bonuses that were paid quarterly. While the bonuses were handsome, this money was not needed to live on and could not be deferred to a future date. A number of the consulting firms had suggested nonqualified deferred compensation for these bonuses, but the recommended solution was usually a mutual fund offering that would generate taxation on growth as dividends and capital gains were distributed by the funds to the corporation.
Separately, until the Financial Standards Board came out with FAS statement 159 in August of 2007, which allows for booking the “unrealized gain” of a marketable security, the mutual fund choice was less than desirable for the employer because the mutual fund was accounted for under FAS 115 (the purchase price of the asset). This accounting imbalance made the company’s financials less attractive to a potential acquirer, which was important to the current owner who hoped to sell the company in the coming years. In the rare instances that Corporate Life Insurance was discussed, it had always been presented as a benefit cost item, not an asset that could provide a useful funding vehicle.
Solution #2 COLI Fund Nonqualified Deferral Plan
By showing the employer a nonqualified deferred compensation plan informally funded with Corporate Owned Life Insurance (better known as “COLI” where the employer is the premium payor, owner, and beneficiary) funded at the “net after tax” cash flow of elective employee deferrals, the employer accomplished a savings program that accomplished all of the following:
• Could discriminate in favor of only management employees.
• Had no material impact on cash flow (net after tax funded)
• Created an asset on the balance sheet equal to the employee benefit liability (Accounting of COLI under FASB TB 85-4)
• Created a tax deferred vehicle for the growth of the mutual funds inclusive of the dividends and capital gains on a year by year basis
• Created a cost recovery mechanism that made the employer “whole” for their costs upon the death of the key executive
• Allowed the insurance policies to be issued on a guaranteed to issue basis
Problem #3 Coordination with 401(k) Plan Deferrals
After implementing the quarterly deferral program and revising the 401(k) plan, the employer recognized that there still may be a need to integrate any potential distributions from the 401(k) back into the deferred compensation plan (something that have been clarified somewhat in the final 409A regulations). To prevent the 401(k) refunds from coming back in a taxable manner when the intent was to defer them until retirement, changes had to be made to the 401(k) plan to allow for automatic deferral of those distributions to the deferred compensation plan.
Solution #3 Pour Over Election
To really bring everything together it was determined that ABC Corporation should establish a “pour over” election from the 401(k) into the deferred compensation plan. These elections had to be done in the December of the year prior to making any contributions to the 401(k) plan (i.e. December of 2006 for 401(k) distributions in March of 2008). If the plan failed its annual test then any distributions would roll into the existing deferred compensation plan. This was not mandatory but allowed employees to max out their 401(k) contribution automatically and let the 401(k) TPA determine how much money would roll into the deferred compensation plan in the following year. It also allowed employees to make a deferral election that might be above the IRS limits in any year and have those funds automatically be placed in the nonqualified deferred compensation plan seamlessly.
When all the changes were made, the employer had created a deferred compensation plan with almost fifty COLI policies, $275,000 of after tax annual contributions (or about $415,000 pre-tax), implemented key man insurance, had a matched asset against future liabilities and had created an asset that would recover most, if not all, of the out of pocket expenses for both the 401(k) plan as well as the nonqualified deferred compensation program.
Added Opportunity
On top of working with the employer on implementing the changes on their 401(k), we were able to create a program where we had the opportunity to work with over ninety highly compensated employees on many facets of their financial planning. In this case, it was the advisor who introduced us to the corporation who met individually with the participants.
On top of the initial sales, each and every quarter we have the opportunity to meet with senior management to work with them on cost recovery of their disability, long term care and health insurance premium costs. Every time a new key employee joins the firm we automatically enroll this employee into the deferred compensation program and the employer once a year adds to the COLI pool if and when the deferrals would cause a modified endowment on the existing insurance.
Lessons Learned
As part of the implementation of the integrated programs we had some logistical issues of enrolling key employees from around the world. By using WebEx and conference calls we were able to do two enrollment meetings for all ninety employees (even those half way around the world) when it was convenient for all. And by properly conveying the program with charts and sample pages we were able to get almost 70% plan participation in the deferral program.
Key Questions
Advisors should be asking their clients in similar situations . . .
• Has your 401(k) failed a “top hat” test in the last three years?
• Would any of your employees like to exceed the IRS’ 401(k) contribution limit
• Would you like to give a bonus to select employees but have it vest over a period of time?
• Do you want to recover the costs of providing benefits to all your employees by selectively insuring your key employees?
• Have you thought about giving ownership to your key employees but are afraid that would give up control?
* This article is based upon a set of specific consequences based upon the laws and regulations in force at the time of implementation. Changes in facts, circumstances and today's law are not contemplated within.
Most employers would agree that losing their top salesperson would have a major impact on future earnings for the company. Moreover, when the overall costs associated with finding, hiring and training a new employee are included in replacing the exiting employee, more and more employers would rather find a way to retain that key employee rather than letting them leave for an additional $10,000 of current compensation or some other fringe benefit.
According to a quarterly CEO survey released by the Vistage Confidence Index at the end of December 2012,
“Most of the shift has been toward keeping the number of employees unchanged as just 11% expected to reduce their staffs. While the proximate cause is an anticipated slowdown in revenue growth, uncertainty about federal tax and spending policies has been the central cause for lower growth prospects.”
It is in this light that small and mid-sized employers are trying to find ways of creating golden handcuffs, add additional benefits that were normally only available at larger corporations, or just outright increasing regular compensation.
Possible Solutions:
SERP – Supplemental Employee Retirement Plans have always been used in the larger corporations as a means to retain key employees, but because most smaller employers do not have a dedicated Human Resource person, it was often difficult to implement and maintain. With the help of Schiff Benefits Group these plans can be structured to resemble a 401(k), a phantom stock ownership plan, or as a defined benefit income program.
In each of these plans the employer would make the contribution on behalf of the selected employee, being as restrictive or lenient on the vesting of this benefit, and either funding the program on a pay as you go basis or setting cash aside in a separate account for later use of funding these future benefits.
Executive Long Term Care or Disability Insurance – With the ever increasing age of the US population, both Long Term Care and Disability
Insurance are an ever increasing concern for key employees. It is estimated that 50% of the population will have a need to Assisted Living sometime during their life and as such more employers are offering these programs as incentives for employees who remain at the company after so many years.
Cost recovery plans – Because the cost of employee benefits may be increasing, employers are looking for ways to recover or offset these costs. While this has traditionally been done in the fortune 500 companies over the last 20 years, these plans are becoming more attractive to the small and mid-sized business owner.
As part of this program the employer may choose to purchase Company Owned Life Insurance to recapture the costs of benefit programs. The amount of insurance purchased is usually equal to the present value of the future benefit costs and the insurance will be paid for, owned by and the beneficiary will be the business. The insurance will remain an asset of the corporate and may have a positive impact on the future earnings of the company.
Because of insurable interest laws, it is recommended that the employer limit the insurance to only highly compensated or management employees and offer a pre-retirement survivor benefit in case of pre-mature death.