Pension. Presented by Frank Minter & Al Duscher

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1 Pension Presented by Frank Minter & Al Duscher

2 DRIVING INTO THE FUTURE AND LOOKING IN THE REARVIEW MIRROR HELPFUL TO UNDERSTAND THE HISTORY OF HOW WE GOT TO WHERE WE ARE NOW WHAT HAS CHANGED? WHY IS ALU TAKING THESE ACTIONS? WHAT ARE WE REALLY BEING ASKED TO DO? WHAT DO WE NEED TO KNOW? WHAT ARE THE RISKS? WHAT ARE THE REWARDS

3 WHAT IS THIS? WHY IS IT SYMBOLICALLY IMPORTANT?

4 ERISA: EMPLOYEE RETIREMENT INCOME SECURITY ACT OF 1974 ORIGINAL PRIMARY PURPOSE: PROTECT EMPLOYEE S PENSION MANY PARTS TO THE LAW INCLUDING: PRE-FUNDING OF PENSIONS & TAX ADVANTAGES REPORTING OF FUNDED STATUS TO GOV T HOW QUICKLY DOES EMPLOYER FUND THE DEFICIT DISCLOSURES TO EMPLOYEES FIDUCIARY RESPONSIBILITIES OF THE PLAN S SPONSOR

5 THE ERISA INDUSTRY COMMITTEE (ERIC) FORMED IN 1976, 2 YEARS AFTER ERISA WHO ARE THEY? THEY ARE THE EMPLOYERS THE ONLY NATIONAL ORGANIZATION FOCUSED EXCLUSIVELY ON THE EMPLOYEE BENEFIT & COMPENSATION INTERESTS OF AMERICA S LARGEST EMPLOYERS

6 1998 TO DEGREE CHANGE IN 12 YEARS IN 1998 COMPANIES SUCH AS LUCENT CONSIDERED AN OVERFUNDED PENSION PLAN TO BE A MAJOR COMPETITIVE ADVANTAGE (LUCENT WAS 3 RD MOST OVERFUNDED). HOW CAN WE USE EXCESS? BY 2010 DEFINED BENEFIT PENSION PLANS WERE CONSIDERED A MAJOR DISADVANTAGE

7 PENSION STRATEGY: MANAGE THE RISK OF OVERFUNDING JOHN HICKEY PRESENTATION IN JUNE 2014 TRANSFER PARTICIPANTS FROM UNION PENSION PLAN TO MANAGEMENT PENSION PLAN OPPORTUNISTICALLY

8 FUNDAMENTAL CONCEPT OF PENSION FUNDING BENEFIT PAYMENTS = $29 BILLION HOW MUCH NEEDED NOW TO FUND = $17 BILLION ASSETS AVAILABLE = $20 BILLION; FUNDING % = 118%

9

10 PENSION PROTECTION ACT OF 2006 ESTABLISHED NEW FUNDING CALCULATION METHOD: MORE SHORT TERM ORIENTED ACCELERATED FUNDING TO MAKE UP SHORTFALL INTRODUCED THE NEW AFN DISCLOSURE IN 2008 CALCULATION METHOD HAS BEEN REVISED 3 TIMES LUMP SUM CHANGED IN 2012

11 Annual Funding Notice

12 FUNDING NOTICE ATTAINMENT PERCENTAGE (In Millions) Valuation Date 1/1/2014 1/1/2013 1/1/ Plan Assets a. Total Plan Assets $19,903 $18,217 $17,888 b. Carryover Balance $126 $58 $52 c. Prefunding Balance $0 $0 $0 d. Net Plan Assets: $19,777 $18,158 $17, Plan Liabilities $15,526 $15,216 $15, Funding Target Attainment Percentage: (2d)/(3) 127% 119% 118% 5. REAL FUNDING % 104% 104% 102% FUNDING = 101%

13 Plan Participants TOTAL UNION PLAN TRANSFERS 47,000 UNION PARTICIPANT TRANSFERS; $3.4 BILLION OF ASSETS TRANSFERRED; $2.2 BILLION OF LIABILITIES TRANSFERRED; IMPROVED FUNDING BY 7% RETIREES WERE TRANSFERRED FROM THE REPRESENTED PLAN TO THE MANAGEMENT PLAN WITH $ 790 MILLION IN ASSETS AND $ 530 MILLION IN OBLIGATIONS ,400 SURVIVING BENEFICIARIES WERE TRANSFERRED FROM THEE REPRRESENTED PLAN TO THE MANAGEMENT PLAN WITH $ 886 MILLION IN ASSETS AND $ 560 MILLION IN OBLIGATIONS ,000 DEFERRED VESTED RETIREES WERE TRANSFERRED FROM THE REPRESENTED PLAN TO THE MANAGEMENT PLAN WITH $ 1.7 BILLION IN ASSETS AND $ 1.1 BILLION IN OBLIGATIONS

14 Fair Market Value of Assets AFN 1/1/11 1/1/12 1/1/13 1/1/14 FUNDING TARGET 101% 118% 119% 127 % 108% FORM 20F (SEC) 12/31/10 12/31/11 12/31/12 12/31/13 12/31/14 PLAN ASSETS $17,104. $ 18,689 $ 19,006 $ 19,287 $ 20,111 PLAN LIABILITIES $ 17,858 $ 19,613 $ 19,600 $ 18,296 $ 21,095 FUNDING STATUS 96% 95% 97% 105% 95%

15 THE VALUE OF THE AFN S FUNDING PERCENTAGE TO THE COMPANY: CRITICAL IN THAT IT DETERMINES WHETHER THEY HAVE TO MAKE CASH CONTRIBUTIONS TO THE PLAN (5500) TO US: HAS NO EFFECT ON THE LUMP SUM BUYOUT CALCULATION TO BUYOUT FIRMS SUCH AS INSURANCE COMPANIES: THEY PAY NO ATTENTION TO IT CONCLUSION: AS CURRENTLY CONSTRUCTED, ONLY THE COMPANY BENEFITS

16 Asset Allocations Equity Securities 15% 16% 9% 11% 9% Fixed Income 68% 67% 74% 74% 74% Real Estate 6% 6% 6% 6% 7% Private Equity & Other 11% 11% 11% 9% 10% Totals 100% 100% 100% 100% 100%

17 SUMMARY OF RULES GOVERNING TERMINATION OF SINGLE EMPLOYER PLANS DISCUSSION REQUIRED BY PENSION PROTECTION ACT OF 2006 (BOILER PLATE)?

18 BENEFIT PAYMENTS BY PBGC IF EMPLOYER PLAN INVOLUNTARILY TERMINATES PBGC WILL TAKE OVER AND PAY BENEFITS MAXIMUM BENEFIT IF PLAN TERMINATES IN 2013 $ 60,132 ANNUALLY AT AGE 65( IN NO CASE LARGER THAN FORMER PENSION) LARGER OR SMALLER AMOUNTS FOR AGES ABOVE OR BELOW 65 (YOUR AGE WHEN TERMINATION OCCURS). PBGC ADJUSTS FOR EARLY RETIREMENT INCENTIVES

19 PENSION PLAN FOR ACTIVE EMPLOYEES REINSTATED IN 2014 ALU announced that it will begin to provide active management employees pension credits by allocating pension assets equal to 6% of salary. This announcement stated that it replaces the $ 75 million cash contribution to match employee s contribution to their 401K plan This will now be provided to every employee regardless of personal contribution to their 401K It is similar to a cash balance pension plan

20 PENSION DE-RISKING: THE CONCEPT & THE POTENTIAL OUTCOMES WHY IS IT OCCURRING? WHAT IS IT? HOW DOES IT FINANCIALLY AFFECT YOU & ALU? WHAT ARE THE REGULATORS & CONGRESS DOING? WHAT CAN YOU DO? BUT FIRST THE BASIS OF PENSION RISK

21 $29 Billion of payments over 50 years $17 Billion of Liability (calculation of assets needed now to pay benefits) (to calculate: need investment return and life expectancy

22 WHAT HAS HAPPENED SINCE 2007? PEOPLE CONTINUE TO LIVE LONGER INTEREST RATES (INVESMENT RETURN) USED FOR CALCULATING ASSETS NEEDED TO PAY PROMISED PENSION BENEFITS ARE LOWER IMPACT OF PENSION REGULATIONS SUCH AS PENSION PROTECTION ACT OF 2006

23 WHAT DOES THIS MEAN TO ALU INCREASES RISK OF HAVING TO CONTRIBUTE TO OUR PENSION PLAN FOR THE FIRST TIME & IN AN ACCELERATED MANNER A PENSION LIABILITY INCREASES ALU S RISK IN NOT BEING ABLE TO BORROW ECONOMICALLY BECAUSE IT IS CONSIDERED TO BE A VOLATILE DEBT

24 WHAT IS THE PENSION INDUSTRY SOLUTION: PENSION DE-RISKING DE-RISKING BENEFITS THE PLAN SPONSOR BY : REDUCING THE SIZE OF THE RISK WITHIN THE PLAN TRANSFERRING THE RISK TO ANOTHER PARTY CAN RISK BE 100% ELIMINATED? FOR SPONSORS YES; FOR RETIREES -NO

25 PENSION DE-RISKING ACTIONS THAT TRANSFER THE RISK LUMP SUM BUYOUT OFFERS SALE OF PENSION ASSETS AND LIABILITIES TO ANOTHER PARTY SUCH AS AN INSURANCE COMPANY (A THIRD PARTY BUYOUT)

26 FAST TRACK ADVANCEMENT OF STRUCTURED SETTLEMENT CBC SETTLEMENT J. G. WENTWORTH CALL NOW

27 Lump Sums ARE NOT NEW: HAVE BEEN MADE IN THE PAST TO TERMINATED VESTED WHAT IS NEW: MAKING AN OFFER TO RETIREES WHO ARE ALREADY RECEIVING ANNUITY PAYMENTS LIKE GM AND FORD HAVE IN ORDER TO MAKE THE OFFER TO IN-PAY RETIREES A FAVORABLE IRS PRIVATE LETTER RULING IS REQUIRED

28 Lump Sums LUMP SUM IS A MATHEMATICAL CALCULATION REQUIRING ASSUMPTIONS AS DISCUSSED, PLAN LIABILITY IS THE AMOUNT OF ASSETS NEEDED TO PAY THE PROMISED BENEFITS FOR ALL PARTICIPANTS USING ASSUMPTIONS FOR INVESTMENT RETURN AND LIFE EXPECTANCY/MORTALITY RATE YOUR LUMP SUM OFFER INDIVIDUALIZES THAT PLAN LIABILITY. IT IS THE AMOUNT NEEDED TODAY TO BE ACTUARIALLY EQUIVALENT TO YOUR CURRENT ANNUITY S REMAINING PAYMENTS BASED ON ASSUMPTIONS FOR INVESTMENT RETURN AND LIFE EXPECTANCIES.

29 LUMP SUM: DOL & IRS REQUIREMENTS LUMP SUM OFFERING MUST BE AT LEAST EQUAL TO THAT CALCULATED WITH IRS PRESCRIBED INTEREST RATES (1.3%, 3.9%, 5%) AND MORTALITY RATE (LIFE EXPECTANCY) NO LUMP SUM CAN BE OFFERED UNLESS A LIFE OR JOINT LIFE ANNUITY IS ALSO OFFERED. PROVIDES US AN OPPORTUNITY TO SWITCH FROM A SINGLE LIFE ANNUITY TO A JOINT SURVIVOR: COMPENSATE FOR DEATH BENEFIT REMOVAL. IN THE PLRs, THE IRS HAS TAKEN NO POSITION ON THE ACCURACY OF THE LUMP SUM OFFER CALCULATION

30 LUMP SUM DECISION RETIREES DECISION WILL CONSIDER QUALITATIVE AND QUANTITATIVE FACTORS THIS PRESENTATION PRIMARILY FOCUSES ON THE QUANTITATIVE: LONGEVITY & INVESTMENT RETURN FOR SIMPLICITY, EXAMPLES WILL BE BASED ON ONLY A SINGLE LIFE ANNUITY YOU CAN SAY NO OR ELECT A NEW ANNUITY

31 LUMP SUM QUANTITATIVE CONSIDERATIONS LONGEVITY PLAN RISK TRANSFERRED TO RETIREE INVESTMENT RETURN RISK TRANSFERRED TO RETIREE

32 WHAT IS LONGEVITY RISK? IT IS INCREASED LIFE EXPECTANCY

33 LONGEVITY RISK AND PROBABILITY OF BEING ALIVE

34 LONGEVITY RISK EXAMPLE IN 2015, 200 PEOPLE AGED 65 WITH PENSION OF $50,000, EXPECTED TO LIVE UNTIL 85, LUMP SUM CALCULATED TO BE $700,000 FOR $1 MILLION OF BENEFIT PAYMENTS. WITH NEW MORTALITY TABLES IN 2016/2017 LUMP SUM WOULD HAVE TO BE $736,000 HOWEVER, 120 PEOPLE ARE STILL ALIVE IN 2035, THEY NOW HAVE AN AVERAGE LIFE EXPECTANCY OF PEOPLE ARE STILL ALIVE IN 2040 WHERE $50,000 PER YEAR HAS NOT BEEN AVAILABLE BETWEEN 2035 AND 2040, ADDITIONAL CUMULATIVE $300,000 DEFICIT PER PERSON.

35 LONGEVITY RISK EXAMPLE CONT D LUMP SUM REQUIRED FOR THE 80 PEOPLE AT OLD MORTALITY RATE IS $800,000 LUMP SUM AT NEW MORTALITY RATES IS $864,000 TO COMPENSATE FOR LONGEVITY RISK, THE INVESTMENT RETURN NEEDS TO INCREASE ON THE LUMP SUM THE RETIREE RECEIVES. FOR THIS EXAMPLE, THE 4% INVESTMENT RETURN WOULD NEED TO INCREASE TO AROUND 6% ANNUALLY.

36 ANOTHER WAY TO LOOK AT THE LUMP SUM AMOUNT OFFERED FOR A $700,000 LUMP SUM OFFER WHICH BUYOUTS YOUR $50,000 PENSION FOR 20 YEARS, THE OFFER IS OFFERING YOU THE FOLLOWING AMOUNTS PER YEAR: YEAR 5: $47,000 YEAR 10: $34,000 YEAR 15: $28,000 YEAR 20: $23,000

37 LUMP SUM FINANCIAL WINNERS & LOSERS

38 THE SELLING OF A PENSION PLAN OR A PART THREE PARTIES EFFECTED: SPONSOR, BUYER, AND PARTICIPANT NORMALLY PRICED AT 110% OF PENSION OBLIGATION BOUGHT OUT (COMPENSATES BUYER FOR LONGEVITY RISK) BOTH GM AND VERIZON WERE BOUGHT OUT AT 110% BUYOUT IS THROUGH A GROUP ANNUITY OFFERED BY A THIRD PARTY (INSURANCE COMPANY, I.E PRUDENTIAL) PARTICIPANT RECEIVES LITTLE WARNING, NOT ALL PARTICIPANTS MAY BE TRANSFERRED, CANNOT SAY NO PARTICIPANT COULD BE EXPOSED TO SECONDARY RISK

39 PARTICIPANT BUYOUT PERSPECTIVE PARTICIPANT IS A MEMBER OF GROUP ANNUITY CONTRACT NO PBGC GUARANTY, VARIABLE GUARANTEES FROM STATES OHIO = $300,000 (ANNUITY S PRESENT VALUE) ARIZONA = $250,000 INDIANA = $100,000 NEW JERSEY = $100,000 MASSACHUSETTS = $100,000 GROUP ANNUITY PROTECTION =????? DOL REGULATION REPLACED BY FRAGMENTED STATE REGULATION NO PLAN SPECIFIC DISCLOSURES (THE CURRENT ANNUAL FUNDING NOTICE)

40 WHAT ARE THE REGULATOR S AND CONGRESS DOING? VERY LITTLE: BUT SUFFERING FROM A SPLIT PERSONALITY FOR EXAMPLE, VOTED TO ESTABLISH QUALIFIED LONGEVITY ANNUITIES WITHIN 401Ks, WHILE AT THE SAME TIME ALLOWING LUMP SUM OFFERS TO ELIMINATE OUR EXISTING PENSION ANNUITIES DOL & SEC & OBAMA BATTLING OVER FIDUCIARY VERSUS SUITABILITY STANDARDS

41 WHO IS THE FINANCIAL ADVISOR?

42 THE TATTOO ARTIST

43 WHAT CAN YOU DO? BE PREPARED HAVE A LIST OF QUESTIONS, FORD S MAJOR CONCERN DO NOT JUST FOCUS ON INVESTMENT RETURNS CONSIDER THE FOLLOWING: I AM NOT A FIDUCIARY. THEREFORE, I AM NOT REQUIRED TO ACT IN YOUR BEST INTERESTS, AND AM ALLOWED TO RECOMMEND INVESTMENTS THAT MAY EARN HIGHER FEES FOR ME AND MY FIRM EVEN IF THOSE INVESTMENTS MAY NOT HAVE THE BEST COMBINATION OF FEES, RISKS, AND EXPECTED RETURN FOR YOU.

$29 Billion of payments over 50 years $17 Billion of Liability (calculation of assets needed now to pay benefits) (to calculate: need investment

$29 Billion of payments over 50 years $17 Billion of Liability (calculation of assets needed now to pay benefits) (to calculate: need investment $29 Billion of payments over 50 years $17 Billion of Liability (calculation of assets needed now to pay benefits) (to calculate: need investment return and life expectancy WHAT HAS HAPPENED SINCE 2007?

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