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Commonwealth of Pennsylvania Tom Ridge, Governor www.state.pa.us Department of Community and Economic Development Sam McCullough, Secretary www.dced.state.pa.us
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Comments or inquiries on the subject matter of this publication should be addressed to: Governors Center for Local Government Services Department of Community and Economic Development 325 Forum Building Harrisburg, Pennsylvania 17120 (717) 720-7395 1-888-223-6837
Printing of this edition of Pension Manual for Pennsylvania Local Governments was funded from appropriations of the General Assembly of the Commonwealth of Pennsylvania. Copyright 2000, Pennsylvania Department of Community and Economic Development, all rights reserved.
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Table of Contents
Introduction . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 1 Overview of Municipal Pension Plans . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 2 Fiduciary Responsibility of Governing Body . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 6 Act 205 of 1984 - The Municipal Pension Plan Funding Standard and Recovery Act. . . . . . . . . . . . . 7 Act 600 of 1956 - The Municipal Police Pension Plan Law . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 9 Regional Police Departments and Purchase of Service Agreements . . . . . . . . . . . . . . . . . . . . . . . . . 12 Third Class City Code . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 13 General Municipal Pension System State Aid . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 18 Budgeting for Annual Pension Plan Costs . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 22 Starting a New Pension Plan . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 26 Amending Existing Pension Plans and Collectively Bargained Plans . . . . . . . . . . . . . . . . . . . . . . . . 30 Plan Documents. . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 32 Plan Terminations . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 33 Record Keeping . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 34 Plan Audits and the Governmental Accounting Standards Board (GASB) . . . . . . . . . . . . . . . . . . . . 36 Investment Management . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 38 Reference Statutes . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 39 Definitions of Commonly Used Pension Terms . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 41 Calendar of Filing Requirements . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . . 43
NOTE: As you read through the manual, if you come across a term or statute with which you are unfamiliar, refer to the sections entitled Reference Statutes (page 39) or Definitions of Commonly Used Pension Terms (page 41) for clarification.
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Introduction
Pennsylvania has a large number of local governments. More than 80% of Pennsylvanias municipalities have populations under 5,000 and are ably served by dedicated elected and appointed officials. Municipal and County pension plans cover approximately 133,224 employees in Pennsylvania. There are over 1,100 municipal police departments. Financial security for these county and municipal employees is as important in the public sector as it is in the private sector. To assist in obtaining this security, Pennsylvania local governments operate 2,913 individual pension plans, the most of any state in the country. These plans vary in size, participation and structure giving Pennsylvania the unique distinction of being the leading state in the number and diversity of public sector pension plans. The material included in this publication is for the purpose of providing general information on municipal pension plans. Statements do not represent legal opinion on any particular issue, either by the author or by the Department of Community and Economic Development. Any viewpoints expressed within this publication are solely those by the author and do not represent positions or policy of the Department. The information provided in this manual is based on legislation currently in effect at the time of publication. Changes frequently occur through federal and state legislation, as well as, court decisions. A thorough research of legal questions should be undertaken prior to enacting or making policy decisions. The Department would like to express its gratitude to William Asay and Colleen Deer who authored this publication and to Mockenhaupt Associates who permitted them the time to devote to writing this manual. The Department also thanks the Pennsylvania Department of the Auditor General and to the Public Employees Retirement Commission (PERC) for their review and commentary on the contents of this publication.
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Reward employees for years of service with the municipality Attract good employees Retain good employees Comply with legal requirements (Act 600 and Third Class City Code) Utilize available state aid
A municipality may have multiple plans. The most common covered groups are police, paid full-time firefighters, and non-uniformed employees. Sometimes there is more than one plan for non-uniformed employees. Records, reports and filings must be maintained separately for each plan.
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Benefit provisions/specifications Return on investment Future salary increases Timing and likelihood of participant termination, death and/or disability
Generally, if there are no changes to the plan provisions, and if the assumptions used in calculating the required contributions match the actual plan experience, the annual funding requirements will remain relatively constant, as a percentage of payroll. If, however, actual experience differs from the assumptions (for example, higher/lower investment earnings are realized; higher/lower salary increases are granted; and /or plan provisions change), then the contribution requirement will change. For defined contribution plans, the annual contribution is typically fixed by the plan provisions as a percentage of pay or a flat dollar amount. Contribution requirements are not affected by investments gains or losses.
PLAN ASSETS
Expenses Benefit Payments
Funding
As the foregoing illustration indicates, there are five sources of funding that will eventually be used to pay benefits: (1) state aid; (2) employee contributions; (3) municipal contributions; (4) investment earnings; and (5) gifts.
State Aid
The Commonwealth of Pennsylvania provides for an annual allocation to municipal pension plans from a special fund dedicated exclusively to fund retirement plans. The source of the fund is taxes paid on foreign fire and casualty insurance premiums. The amount each municipality receives depends on such factors as the financial need of its plans, the number of full-time employees participating in a plan, if the plan is an eligible plan, if the plan has been in effect for three
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or more years, if all forms were filed in a timely fashion, total payroll of eligible plan members and if there is an Order to Show Cause outstanding due to non-compliance with state regulations. One check is sent to each municipality, around October 1, regardless of the number of plans sponsored (unless the municipality is part of a regional plan). The governing body must allocate the check among the plans and make the deposits to the respective funds within 30 days. If additional funds are needed to meet the minimum obligation, the municipality must contribute the balance by December 31. Refer to the sections on General Municipal Pension System State Aid (page 18) and Budgeting for Annual Pension Plan Costs (page 22) for more detail on state aid allocations and minimum obligations.
Employee Contributions
Typically, in defined benefit plans, employee contributions serve to reduce the cost to the employer. In defined contribution plans, employee contributions enhance the retirement benefit. They can be a significant source of funding for your plan. Employee contributions may be mandatory or may be reduced or eliminated (Act 600 police plans require employee contributions), depending upon the laws governing your plan. Traditionally, these contributions have been deducted from the employees paycheck on an after-tax basis. However, it is permissible to deduct mandatory employee contributions on a tax-deferred basis for federal tax purposes (refer to IRS Code 414(h)(2)). This change would reduce the negative impact the contributions would have on the employees net pay. Total wages, including contributions to the retirement plan, will remain subject to social security (to the annual maximum), state, and local taxation. It is important to note that these taxdeferred contributions would be subject to federal tax at the time of distribution from the plan, either by termination payout or disability or retirement benefits. To adopt the tax-deferred method of collecting employee contributions, you must maintain a qualified plan under the Internal Revenue Code and amend your plan prior to making this change.
Statutory Requirements
There are numerous regulations and acts that affect municipal retirement plans and dictate procedures and reporting requirements. This manual contains summaries of several of the more important provisions with which you should be familiar. It is important that you contact your actuary prior to making changes in your pension plan. Act 205 requires an actuary to prepare a study for defined benefit plans before any change is adopted.
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This is the employees pension plan, shouldnt they run it? After all, its their money. What benefits can we give them? What are the costs of adding benefits? If the investments lose money, can we be held responsible? What does fiduciary responsibility mean to us?
Answers
The ultimate responsibility for any pension plan rests with the governing body. The governing body has a fiduciary responsibility for the ongoing administration of the pension plan. A fiduciary is defined as a person who has a duty to transact business or handle the money, not for his (or her) own benefit but for the benefit of another. A fiduciary relationship imposes a duty to act in good faith and candor, with a special regard to the interest of the person who places this trust and confidence in the fiduciary. The governing body has certain responsibilities under state statutes, whether it is Act 600, Act 205, the Third Class City Code, or other statutes that have a direct impact on the pension plan. It is important for the governing body to be aware of and comply with the statutory requirements that are further detailed in this handbook. In addition, because this is a qualified plan under the Internal Revenue Code, other IRS specific items must be included so that the pension plan maintains its tax-qualified status. Refer to the section entitled Plan Documents (page 32). The responsibility for the plans solvency and proper investment management rests with the governing body. Refer to the section entitled Investment Management (page 38). Benefits are granted to employees through collective bargaining or unilaterally. The benefits are then formalized in the labor contract, ordinance or resolution and plan document. In a defined benefit pension plan, if the plan assets lose their value or do not perform to expectations, the governing body must make up any additional contributions (directly or through increased state aid). It is not only mandated by statute but also fiscally responsible for a municipality to have an actuarial study performed prior to making any benefit changes. The study should provide a reasonable estimate of the financial impact on the plan.
Delegation of Duties
The governing body has the authority to delegate certain duties to committees or boards and/or to investment managers, third party administrators, trustees, or custodians. A pension board can serve a valuable function in the ongoing administration of the pension plan. It should, however, act in an advisory capacity (except for those responsibilities specifically outlined in the Third Class City Code). The ultimate responsibility rests with the governing body.
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Act 205 of 1984 The Municipal Pension Plan Funding Standard and Recovery Act
This municipal pension reform legislation was signed on December 18, 1984. Act 205 includes reforms for the funding, reporting, and financing of municipal pensions in Pennsylvania. The legislation addresses the following major issues.
Standardized actuarial and financial reporting Minimum employer contribution requirements Revision of the allocation formula for distributing state aid to pension plans (including funding for non-
uniformed plans) Recovery plan and additional state funding for distressed pension plans Revision of the distribution of State Foreign Fire Insurance taxes for Volunteer Firefighters Relief Associations
Filing Requirements
Act 205 actuarial reporting forms for all plans, including defined benefit and defined contribution, must be filed with PERC no later than the last business day of March following the year of valuation. The law clearly places the responsibility for supervision and direction of the plan with the Chief Administrative Officer of the pension plan, who is also responsible for filing the document. In the event the report is not filed in a timely fashion, all financing that the Commonwealth provides to the municipality for the pension plan may be withheld until the report is filed. In some instances, the withheld Commonwealth financing may be less than it would have been otherwise. All pension plans may pay the fees associated with the preparation of the actuarial reports and consulting services from the assets of the pension plan.
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pants, whichever is less. Any change in the unfunded liability after 1985 is required to be amortized as follows.
Any change in actuarial assumptions, or modification of benefits for active members, was required to be amor-
tized over the next 20 years or the average future service of the active participants whichever is less. Any modification in benefits for retired employees that results in increased unfunded liabilities was required to be amortized over ten years. Any increase or decrease in the unfunded liability caused by actuarial experience (actuarial loss or gain) was required to be amortized over 15 years or the average future service of the active participants whichever is less. Municipal pension plans sponsored by distressed municipalities are permitted to apply different rules to amortize their initial unfunded liability. In addition, the municipality may use the maximum amortization periods allowed for changes in unfunded liability without regard to the average future service. Act 61 of 1997 permits a municipality to make an irrevocable election to eliminate the existing amortization bases, periods and annual payments in favor of a straight 10 year amortization of the current unfunded actuarial accrued liability. Municipalities considering this option should consult their actuary or consultant to discuss the short and long term advantages and disadvantages of this election.
Contribution Requirements
Annually, Act 205 requires the Chief Administrative Officer of the pension plan to determine the total financial requirement and the Minimum Municipal Obligation (MMO) for the next year based upon the most recent actuarial report prepared under the requirements of Act 205 and submitted to PERC. Refer to the section on Budgeting for Annual Pension Plan Costs (page 22) for more information.
Benefit Changes
Prior to the adoption of any benefit plan modification by the governing body of the municipality, Section 305 of Act 205 requires that the Chief Administrative Officer of the pension plan provide the governing body with an actuarial study of the financial impact of the change.
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Mandatory Provisions
Age and Service Requirements for Retirement A participant must attain age 55 and complete 25 years of service in the same municipality to be eligible for a normal retirement benefit. Monthly Pension Benefit The monthly pension benefit is fifty percent of the average monthly salary. The average monthly salary must be based on a period of not less than 36 months and not more than 60 months immediately prior to retirement. For those municipalities where police officers are covered by the Federal Social Security Act, the municipality may, at its discretion, offset the monthly pension benefit upon attainment of normal social security retirement age. The offset may be up to 75 percent of the primary social security benefit as calculated using wages earned by the participant while employed as a police officer by the municipality. Employee Contributions Plans not covered by social security have a mandatory employee contribution rate of between 5 and 8 percent of the officers total monthly compensation. For plans whose members are covered by social security, the mandatory rate is 5 percent, if there is no social security offset. If the retirement benefit is offset by social security, the maximum mandatory employee contribution will be calculated as follows: 5% minus (3% social security offset percentage) For example, if your plan includes a 75 percent offset, the mandatory employee contribution rate is calculated this way: 5% (3% 75%) = 5% 2.25% = 2.75%. Return of Employee Contributions Employees who are ineligible to receive a pension benefit for any reason must have their total contributions plus interest refunded by the plan upon termination of employment. If the reason for payment is due to the death of the employee, then the refund is paid to the beneficiary.
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Intervening Military Service A regularly appointed member of the police force who has been employed as such for at least six months, and who enters active military service for the United States, must receive retirement credit for the period of active military service. To be eligible, the person must return to employment within six months of separation from such military service and be ineligible to receive military retirement pay as a result of that service. In-Service Disability The plan must provide for a disability benefit if a police officer incurs a total and permanent disability as a direct result of, and in the line of duty of, employment as a police officer. Specific benefit provisions are to be determined by the governing body.
Optional Provisions
Reduced Retirement Age A reduction in the retirement age from 55 to as low as 50 may be provided if an actuarial cost study indicates that it is feasible. The completion of at least 25 years of service is still required. Reduce Social Security Offset The social security offset to pension benefits may be reduced or eliminated. Such a reduction would change the mandatory employee contribution rate (refer to Employee Contributions on page 9). Vesting Provisions A vesting provision may be added allowing an employee who terminates with 12 or more years of service to receive a partial pension benefit. The benefit would commence when the employee would have become eligible for normal retirement. Elimination/Reduction of Employee Contributions Employee contributions may be reduced or eliminated on an annual basis if this does not result in the need for a municipal contribution. This elimination/reduction must be actuarially certified and authorized by the governing body annually by ordinance or resolution. Surviving Spouse Benefit A benefit designed to pay the spouse of a deceased police officer who was retired or eligible to retire at the time of death. The benefit is equal to 50 percent of the normal pension benefit to which the participant was entitled or was actually receiving. Killed-in-Service Provision The plan may adopt a benefit for spouses or dependent children of officers killed in service. The benefit structure is to be determined by the municipality. Length of Service Increments Additional retirement benefits may accrue to participants for each year of completed service in excess of 25 years. The maximum additional benefit may not exceed $100 per month. Cost-of-Living Adjustments (COLA) The plan may provide for an annual increase of retiree benefit payments, which may not exceed the percentage change in the Consumer Price Index. The total benefit plus increases may not exceed 75 percent of the average salary used for computing retirement benefit. Further, the total increases may not exceed 30 percent of the original benefit. No COLA shall be granted which would impair the actuarial soundness of the fund. For plans whose assets exceed the Present Value of Future Benefits, that is, fully-funded, the COLA increase may exceed the limits listed above for the retirees that have received benefits for 20 or more years.
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Non-Intervening Military Service This provision provides that a participant may purchase retirement credit for up to five years of active military service with the United States which occurred before employment with the municipality began, if the participant is not eligible to receive military retirement pay for that service. The participant must pay an amount equal to the statewide average normal cost for similar municipalities (but not more than 10 percent), times the participants average annual compensation during the first three years of employment as a police officer, plus interest at the rate of 4.75 percent compounded annually, from the participants date of hire to the date of payment. Early Retirement Provision This recently enacted provision allows members with 20 or more years of service the option of retiring prior to normal retirement. The benefit is the actuarially reduced accrued benefit. The actuarial reduction is based on the interest rate and mortality table used in the latest actuarial report submitted to the state. Example: A police officer is hired at age 30 with a normal retirement age of 55. The officer is currently 50 with an average monthly salary of $4,000. The latest actuarial report submitted to the state used a UP-84 mortality table and 7.5 percent interest rate assumption resulting in a reduction factor of 62.7 percent. The benefit would be calculated in the following manner. Normal Retirement Benefit Average Monthly Salary $4,000 x x 50% 50% = = Monthly Benefit $2,000 = Accured Benefit = Early Retirement Benefit $1,003.20
Accrued Benefit (payable at Normal Retirement Date) (NRD) Actual Yrs of Yrs from Hire x Monthly Normal Early Retirement Benefit (payable immediately) Accrued Benefit x Actuarial Equivalent Reduction Factor $1,600 x 62.7% =
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Act 33 of 1996
There is now a benefit structure mandated by statute. All regional police pension plans created on or after May 9, 1996, must comply with the provisions of Act 600 (on page 9). Plans established prior to that date may continue to provide benefits previously granted, but any subsequent amendments must comply with the provisions of Act 600.
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Length of Service Increment Additional retirement benefits accrue to participants to attainment of age 65 whose length of service exceeds the minimum required for retirement. The amount of additional benefit is 1/40 times the monthly pension benefit for each year over the minimum; it may not exceed $100 per month. Surviving Spouse Benefit A benefit is paid to the surviving spouse or dependent children of a deceased firefighter who was retired or killed in service. The amount of the benefit is the amount the member was receiving or would have been receiving if he were retired. The benefit continues until the later of the death of the spouse or attainment of age 18 of the participants children. In-Service Disability The plan provides for a disability benefit if a firefighter incurs a total and permanent disability as a direct result of, and in the line of duty of, employment as a firefighter. The amount of benefit and the date of commencement will be determined under the terms of the plan and will not take into consideration any benefits provided under applicable workers compensation laws.
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Return of Employee Contributions Employees who become ineligible to receive a pension benefit for any reason must have their total contributions, without interest, refunded by the plan. If the reason for payment is due to the death of the employee, then the refund is paid to the beneficiary. Early Termination Provisions A participant who has completed at least 20 years of service but has not attained age 60 shall be entitled to a deferred pension provided the participant continues paying monthly employee contributions equal to the last amount due while in active employment. Payments must continue until employee reaches the age of 60. Disability The plan provides for a disability benefit if an employee incurs a total and permanent disability after completing at least ten years of service and before attaining age 60. The benefit is calculated in the same way as the normal retirement benefit but without offset for social security benefits.
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Return of Employee Contributions Employees who become ineligible to receive a pension benefit for any reason must have their total contributions, without interest, refunded by the plan. If the reason for payment is due to the death of the employee, then the refund is paid to the beneficiary. Early Termination Provisions A participant who retires or is terminated after 20 years of service shall be entitled to a deferred pension provided the participant continues paying monthly employee contributions equal to the last amount due while in active employment. Payments must continue until employee reaches the age of 55. A participant who is involuntarily terminated after 12 years of service, but before 20, shall be entitled to a prorated benefit (based on ratio of completed service to 20 years) payable at age 60 (or immediately if already past age 60). Contributions must continue until the participant has contributed for 20 years. Disability The plan provides for a disability benefit if an employee incurs a total and permanent disability after completing at least 15 years of service and before attaining age 55. The benefit is calculated in the same way as the normal retirement benefit but without offset for social security benefits.
Optional Plan for Officers and Employees Pension Fund Elective Provisions
Surviving Spouse Benefit A benefit may be provided to the surviving spouse of a deceased participant who has retired, who was eligible to retire, or was killed in service. The benefit is equal to 50 percent of the pension benefit to which the participant was entitled as of the date of death. City Council may require additional contributions by employees of up to 1 percent of compensation, if deemed necessary, to fund this benefit. Elimination of Social Security Reduction The pension board may permit a participant to elect to receive a monthly pension benefit without any reduction for the payment of social security benefits provided that the participant pays the fund an amount equal to the difference between what was actually contributed to date and the amount which would have been contributed if the contribution rate had always been 5 percent of pay. Those participants must continue to make contributions of 5 percent after such election. Vesting Provisions Vesting provisions may be included to allow a terminated participant with at least 12 years of service to leave employment and receive a partial pension benefit. The benefit will commence when a participant would otherwise have become eligible for normal retirement. Service Increment A participant can receive a monthly service increment benefit in addition to the monthly pension for completing more than 20 years of service. The service increment is calculated by multiplying the number of full years of service completed in excess of 20 years by 1/40th of the monthly pension benefit. Service completed after age 65 may not be counted. Eligible employees must contribute an additional 1/2 of 1 percent of their compensation. Cost-of-Living Adjustments The plan may provide for cost-of-living adjustments to the pension benefit, but may not permit the benefit to exceed 50 percent of the current salary being paid to non-uniformed employees of the highest pay grade.
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Internal Revenue Code Section 457 Plans (deferred compensation plans) Plans which have not been funded for 3 years Municipal authority plans County plans Individual retirement accounts (IRA) Illegal plans (plan provisions not in compliance with appropriate state laws)
The state aid for your entire municipality could be withheld, reduced or eliminated for other reasons including the following:
Late filing of Act 205 Reporting Form or AG-385 Form No filing of Act 205 Reporting Form or AG-385 Form Inaccurately completed Act 205 Reporting Form or AG-385 Form Refund owed to the state not paid Material or repeat finding of noncompliance from state audit not corrected Outstanding Order to Show Cause
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ticipants. The financial need calculation and the unit value calculation are determined by the Department of the Auditor General for each municipality that sponsors a retirement plan. The municipality will receive the lesser of those amounts each year.
Unit Calculation
The unit calculation is based upon the number of units for the municipality multiplied by the State Aid Unit Value, as determined by the Department of the Auditor General. The number of units for the municipality is determined by adding the applicable number of units that are attributable to each eligible employee. An eligible employee is an active member of an eligible pension plan, employed on a full-time basis (at least 35 hours per week), for a minimum of six consecutive months in the prior year. The applicable number of units for each eligible employee is as follows: Police Officer Firefighter All other employees 2 units 2 units 1 unit
The State Aid Unit Value is determined on an annual basis by the Department of the Auditor General based upon the total amount of aid available, the total number of units certified by all eligible municipalities, and certain adjustments required by law. The chart on the following page shows the State Aid Unit Value amounts through 1999.
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The Department of the Auditor General periodically audits each of the retirement plans of the municipality to ensure the proper allocation and administration of State Aid funds to provide retirement benefits. In addition, if applicable, a separate disbursement is made to municipalities who continue to qualify under Act 147 of 1989, the Ad Hoc Cost of Living provision. The act mandated COLA increases for individual police and firefighters retiring normally before February 1984 and under the disability provision of the plan with less than 10 years of service. The act also provided for an annual reimbursement of these COLA increases as long as the municipality submits an AG 490 Form and attachments on a timely basis. (April 1st of each year). Should the municipality grant a COLA after the enactment of the Act, February 1989, the new COLA will affect any COLA granted under Act 147 and the amount of reimbursement from the Auditor General.
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The disbursement is made to the municipality and need not be deposited into the pension funds. Type of Retirement Normal Normal Normal Disability Amount $25/mo. $75/mo. $150/mo. $50/mo. Years Retired as of January 1, 1989 At least 5, but less than 10 At least 10, but less than 20 At least 20 Less than 10 and retired prior to January 1, 1985
Under court order, the surviving spouse of the retiree may continue to receive the survivor portion of the Ad Hoc COLA if the plan provided for such a benefit.
$ $ $ $ $
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quirement calculation is reduced only by employee contributions and the funding adjustment. Municipalities are now required to deposit the full MMO using state aid and municipal contributions. A separate estimate should be made for anticipated state aid to be received for budgeting purposes. If budgeted state aid is overestimated, the community must make up the shortfall by year-end, even though the shortfall amount was not included in the original budget. Just the opposite will occur if the state aid is underestimated. In that case, the municipal share is simply reduced or eliminated. An accurate estimate of state aid will enable municipalities to include an appropriate amount in the budget for local contributions and avoid surprises the following October when the state aid is received. This is especially important if the employee contribution rate depends on whether a local contribution will be needed (as in an Act 600 plan).
Amending an MMO
An MMO may, but is not required to, be amended after September 30 to increase the estimated payroll, or if a more current actuarial valuation report is completed for filing with PERC. However, it is important that the employee contribution rate of the final MMO matches the actual rate for the upcoming year. The final MMO must be adopted by the time the final municipal budget is adopted.
Interest Payment/Penalty
For late deposits of state aid, interest must be deposited based on the actual rate that would have been earned by the plan. Any unpaid portion of the MMO after December 31 must be paid along with an interest penalty. The interest penalty is calculated based on the greater of the interest rate assumption used in the actuarial report or the six- month Treasury Bill rate on the last business day of the plan year. The interest is calculated from the beginning of the plan year in which it was due through the month of payment, compounded monthly.
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Questions:
1. Can we pay our plans MMO at the beginning of the year so that we can earn as much interest as possible? Yes! Depositing all or part of the contribution at the beginning of the year for that year will help increase plan earnings for the year. Then, when the state aid is allocated around October 1, you may simply reimburse the municipality for the amounts already deposited. 2. We deposit the employer contribution for our defined contribution plan on each payday with the employee contribution. Can we use state aid for this? Yes. When the state aid check comes, you can reimburse the municipality for contributions made year to date (as long as they were for the current plan year) and reserve an amount needed to pay contributions for the balance of the year in an interest bearing account. 3. What should we do if we get more state aid than we need to pay our MMOs? If you have funded the full amount of the MMO for your defined benefit plans and the required employer contribution for your defined contribution plans, you may use the rest in any of the following ways:
Extra contribution to a defined benefit plan Extra contribution to more than one defined benefit plan Reimburse the municipality for any plan administrative expenses incurred during the year which were paid
by the general fund If none of these apply (because you only have a defined contribution plan and have no further administrative expenses to reimburse) you should contact the Department of the Auditor General to see if the excess should be returned.
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Notes
Any deposit equal to the MMO must be made by December 31, 20___ to avoid an interest penalty. 20___ General Municipal Pension System State Aid may be used to fund part or all of the municipal obligation. Any delinquent MMOs from prior years must be included in the 20___ budget along with an interest penalty.
Certification
I hereby certify that the above calculations, to the best of my knowledge, are true, accurate and conform with the provisions of Chapter 3 of Act 205 of 1984. Prepared using the January 1, _________ Valuation.
_________________ Date
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Police Employees
If the employees you are considering covering with a pension plan are full-time police officers, three questions will guide your decision. Do you have three or more full-time officers? If you are a borough or a township with three or more full-time officers, you must construct the plans benefit provisions in compliance with Act 600 (see section on Act 600, page 9). If you have fewer than three full-time officers, the municipality may determine the benefit provisions at its discretion. Will you have three or more full-time officers in the foreseeable future? If you dont currently have three or more full-time officers but will at a future date, the plan will have to be amended at that point to comply with Act 600. The more provisions of the plan that are different from Act 600, the more difficult the transition. If you dont anticipate ever having three or more full-time officers, you are not required to conform with Act 600; however, you may choose to comply with Act 600. Are you considering covering part-time officers? You may not cover part-time police officers in an Act 600 plan.
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Can be based on years of service Can be based on final average salary Can be based on final average salary and years of service Can be a flat dollar amount
Ancillary benefits
Total and permanent disability pension Death or survivor benefits Vested pension
Advantages
Secure retirement income to retirees because benefit is guaranteed for life Easier for employees to judge level of income provided by pension plan Employee bears no investment burden Can credit past service for current employees State aid is provided for administrative expenses paid from plan If investments perform better than expected, contributions may go down or be eliminated
Disadvantages
Employer bears investment burden; if investments underperform, contributions increase Depending on the formula, can be difficult to understand how much of a benefit has been earned at a given time Contribution levels can fluctuate Must employ an actuary to evaluate the plan biennially and any time benefit improvements are being considered Benefits are not typically portable
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Who contributes?
Employee mandatory Employee voluntary Employer set rate Employer matching contribution Combination
Ancillary benefits
Vesting schedule on employer contributions Disability benefit Death benefit
Advantages
Employer bears no investment burden Easy for employees to understand how much of a benefit has been earned at a given point in time because they
Disadvantages
Difficult for employees to predict the level of income the plan will provide at retirement Employees bear investment burden Employee is responsible for retirement planning and allocating retirement account over their lifetime State aid does not include allowance for administrative expenses
Pension consultant or attorney A representative from your state association Pennsylvania Municipal Retirement System Ask for references from other municipalities that sponsor pension plans
Have a plan document drafted (see section on Plan Documents, page 32)
Define the benefit structure May establish a pension board and responsibilities Includes required provisions of state and federal law Defines administrative procedures for the plan Adopted by ordinance Can be amended by ordinance in the future
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Invest and manage assets Handle deposits and payments Maintain record of fund transactions Provide periodic value of assets
Make sure that you obtain and file the necessary forms
Act 205 Form prepared biennially as of January 1 every other odd-numbered year, and due to be filed 15 months
later; obtain from Public Employee Retirement Commission (for defined benefit plans, form must be certified by an Approved Actuary). AG-385 Form prepared annually; report employee payroll for calendar year; filing deadline is March 31 after the end of the year; forms can be obtained from the Department of the Auditor General. Starting your plan effective the beginning of a year (January 1) will entitle your municipality to state aid sooner. The state requires that a municipality fund a new plan for three full years before being eligible for state aid.
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accrual policy can affect the cost of the pension plan. If employees are eligible for post-retirement health care benefits, lowering the age for normal retirement in the pension plan can increase retiree medical costs. If a collective bargaining agreement provides post-retirement health care and the pension plan provides retirement for vesting and disability, will health care coverage be provided in all retirement circumstances, regardless of age? Coordination of disability programs including disability pension, long-term disability insurance, social security disability and workers compensation. The timing of benefit improvements can be very important. Benefit changes to a defined benefit plan and the increased costs associated with them are recognized every time an Act 205 Form is filed. For a vast majority of plans in the Commonwealth, the forms are dated as of January 1 of every odd-numbered year (January 1, 1997; January 1, 1999; January 1, 2001; etc.). Since the Act 205 Form is the states notification of plan costs, and the costs on the form are used to compute state funding, it is in a plans best interest for changes to be effective on January 1 of odd-numbered years. Any change that has not officially been adopted by a valuation date may not be included in the plan costs for that valuation, unless the change is made retroactive to the valuation date by an arbitration award or court order. If the change is not reflected in the valuation, formal recognition of the costs will be delayed for two years until the next valuation. Therefore, assuming that the municipality is not already receiving the maximum level of state aid, adopting a benefit change after January 1, 1999, instead of before January 1, 1999, could delay the increase in state funding by two years.
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Some benefit changes, however, do not affect the plan costs, and therefore, would not affect state funding. An example of such a change would be optional forms of benefit payment. Be careful to draft the plan amendments so that all possible cross-references are addressed and no conflicts arise with other sections of the plan document or pension ordinance.
Pension Plans Covering Union and Non-Union Employees (or Multiple Unions)
Can union employees and non-union employees have different benefit structures within the same plan? Yes, you can maintain different structures within the same plan. Changes can be made to only one group (whether union and non-union or union A and union B). The plan document must clearly define the employee groups, and the benefit provisions must address the benefit entitlement for each group. If there are different benefits for different employee groups, it will be necessary to include a section in the plan document addressing the situation of an employee who moves from one group to another. Some employers automatically provide benefit improvements that have been negotiated with the union to the non-union members of the plan. If this is the practice, it is especially important to amend the plan as soon as possible after the contract is signed. A signed contract officially grants benefits only to those covered by the contract. A plan amendment changes the benefit for all members of the plan. In some cases, there may be an advantage to simply maintaining separate plans for different employee groups. This may be the case if negotiations with a union focus heavily on the plan costs. It may be difficult to identify the portion of the total cost attributable to only the bargaining group. Another reason for maintaining separate plans is when the benefit structures are totally different, such as defined benefit versus defined contribution. Again, getting good advice from someone experienced in pension issues can help avoid potential problems.
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Plan Documents
What is a Plan Document?
A plan document is a written compilation of all the benefits and administrative provisions of the pension plan. It includes references and provisions necessary to maintain tax-qualified status under the Internal Revenue Code. It provides guidance in the administration of the plan and protects the interests of both the employer and employees. A skillfully drafted plan document will reduce ambiguities and the occurrences of court actions. The plan document is the legal governing document for the pension plan.
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Plan Terminations
Terminations
Plans terminate periodically for a variety of reasons.
Termination of a police department. Elimination of a department or the sale of a unit which was covered by its own plan. Freezing the plan participation requirements. New employees would become participants in a new plan.
There is very little guidance on the procedures for terminating a pension plan in Pennsylvania. In many instances, plan sponsors default to the federal regulations. The plan would purchase an annuity from an insurance company for retirees and vested participants to ensure that the benefits will be paid to the participant based on the benefit structure at termination. Be sure your solicitor is involved. Usually, plan terminations occur when a small police department no longer has full-time employees and the department is staffed by part-time police officers. Act 120 requires that a police officer covered by a pension plan must work a minimum of 40 hours per week. However, if a municipality eliminates their police department, enters into a purchase of service agreement with another municipality for police services, and whose officers are hired by that other municipality, the plan benefits earned by the officers may be transferred to the other municipalitys pension plan. Assets attributable to the benefits earned should also be transferred to the successor plan. Refer to the section on Regional Police Departments and Purchase of Service Agreements (page 12). The plan should not be terminated in this case until all transfers have been made. A portion of the remaining funds may be returned to the municipality based on their contributions to the plan over the years (assuming the plan document does not prohibit this transfer). Any remaining plan assets must be returned to the Department of the Auditor General for redistribution. Note: Do not terminate the plan if there is any possibility that a full-time employee will be hired in the foreseeable future. To reestablish a plan the municipality will have to fund the plan for three years without the benefit of state aid. Should the municipality believe that in the future a full-time employee may be hired, consideration should be given to continuation of the plan. The plan may continue as long as a current liability vested benefit, retirement benefit, disability benefit, survivor benefitor an expected liability new hireremains.
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Record Keeping
The most efficient method of maintaining records and being prepared for an audit is by keeping a central filing system of all pension-related information. You may be able to obtain an administrative manual from your pension consultant or plan administrator. The following is a list of the types of information that should be maintained for the pension plan and will be needed for audits. The list may not be comprehensive. Maintain all information that you feel may need to be referenced.
Enrollment Form for each Member (including birthdate, hire date, plan participation date, and beneficiary) Annual Salary (W-2 Pay and pension payroll, if different) and employee contribution records History of accumulated employee contributions and contribution balances with interest Master list of above information for all employees
Letter of Resignation/Application for Retirement Final average pay calculations Accumulated contribution records Retirement or vested benefit calculation and options provided Beneficiary designation and current address Contribution refund calculation and documentation of payout Signed benefit election form
Annual account values (market value, cost value, etc.) at end of each plan year Investments roster categorized by type of investment General journal for pension trust fund Transaction ledgers by type (contributions by source, retiree payments, administrative expenses paid, etc.) Investment earnings (interest, dividends, realized and unrealized gains and losses, etc.) Financial statements, related note disclosures and supplementary information required by the Governmental Accounting Standards Board (GASB) Annual reconciliation of plan assets Audit reports (state and local)
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Plan Documentation
Plan document Pension ordinances Plan amendments Collective bargaining agreements Resolutions Arbitration awards Pension lawsuits Correspondence regarding interpretation of plan provisions
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Act 205 Form AG-385 Form AG-490 Form Minimum Municipal Obligation (MMO) Certifications and actual contributions Pension Ordinances Labor Contracts Plan Document Actuarial Valuation Report Financial statements, related note disclosures, supplementary information required by GASB Account Statements for Plan Assets Benefit Calculations for retired and terminated participants Trust Document Insurance Policies and Contracts Personnel information for active and retired or terminated employees
The municipality generally receives notice of an impending audit and a list of the information that the auditors intend to review for the audit (much of which is listed above). The length of the audit depends largely on the completeness and organization of the pension records. When the field audit is complete, the auditor will schedule an exit conference with municipal officials. At that time, the auditor will discuss any problems uncovered and provide a written summary of the preliminary findings. Once the field audit is completed, the information is reviewed by the central office of the Department of the Auditor General prior to issuance. If the Auditor Generals audit reveals that there are any areas of noncompliance or internal control deficiencies, the final audit report will contain a Finding for each outlining the problem and a Recommendation describing the corrective action the department recommends to resolve the problem. Findings should not be ignored! If the problem is significant and timely corrective action is not taken by the municipality to resolve it, the Auditor General may issue an Order To Show Cause forcing compliance. If the Order is ignored as well, state aid will be withheld for the entire municipality.
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If you suspect that a Finding is inaccurate or based on incomplete information, you may try to collect supporting documentation (items which may not have been given to the auditor during the audit) and prepare a written explanation justifying the municipalitys position. However, unless it relates to a potential withholding of state aid, the Auditor General is not compelled to provide a response accepting or rejecting conclusively the municipalitys resolution. Such confirmation or rejection of the resolution will be addressed in the next audit.
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Investment Management
The governing body has the ultimate responsibility for the plans solvency (even if investment management is delegated to another person or firm). Are there any state laws governing where you can invest your pension assets? Investment of your assets is governed in Chapter 73, the Probate, Estates and Fiduciaries Code, 20 Pa. C.S. 7301-7319. You must follow the Prudent Person Rule, which means you may invest in a security if it is one which a prudent person of discretion and intelligence, who is seeking a reasonable income and presentation of capital, would buy (Auditor General Bulletin No. 5-88). Establish an investment policy to address the following.
Written guidelines for investment manager Target returns Range for investing in certain types of investments Diversification requirements Prohibited investments Quality of investments Cash flow needs Review and revise if necessary periodically
Avoid choice of investments or investment managers motivated by factors other than financial soundness.
Fiduciary responsibility requires municipal officials to use and invest the funds placed into their hands for the
exclusive benefit of the public, in the same manner that a trustee is required to act for the betterment and protection of the beneficiaries of the trust. When choosing an investment manager aim at securing the best combination of the following: 1) rate of return; 2) expenses; 3) soundness of the company; 4) municipal pension experience; 5) availability of customer service representative; and 6) accurate and complete record keeping. Meet with your investment manager on a regular basis. Compare your investment results with those of other firms with similar investments.
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Reference Statutes
The following is a list of some of the Commonwealth statutes that affect pension plans in cities, boroughs, towns and townships. Act 205 Municipal Pension Plan Funding Standard and Recovery Act, Act of December 18, 1984, P.L. 1005, No. 205, as amended, 53 P.S. 895.101, et seq. This act provides for actuarial and financial reporting for municipal pension plans, actuarial funding requirements for municipal pension plans, and the annual distribution of state aid to municipalities to offset employee pension costs, and establishes a recovery program for financially distressed pension plans. Governing Legislation for Municipalities With Fewer Than Three Police Officers, Act of May 12, 1943, P.L. 259, No. 120, as amended, 72 P.S. 2263.1, et seq. This act provides definitions for pension annuity contracts, participating police pension plans and full-time paid police officers. This act is applicable to all municipalities, but it is governing legislation for municipalities with fewer than three police officers that wish to provide pensions. Police Pension Fund Act, Act of May 29, 1956, P.L. (1955) 1804, No. 600, as amended, 53 P.S. 767, et seq. All boroughs, towns, and townships with three or more full-time police officers, or a regional police pension plan must establish a police pension plan in accordance with the provisions of this act. In addition, boroughs, towns, and townships with fewer than three full-time police officers may establish their plans in accordance with this act. First Class Township Code, Act of June 24, 1931, P.L. 120, No. 331, as amended, 53 P.S. 56409, et seq. First class townships with fewer than three full-time police officers that elect to establish a police pension plan must refer to provisions of this code. Second Class Township Code, Act of May 1, 1933, P.L. 103, No. 69, as amended, 53 P.S. 65595, et seq. Second class townships that have fewer than three full-time police officers and elect to establish a police pension plan must refer to the provisions of this code. Borough Code, Act of February 1, 1966, P.L. 1656, No. 581, as amended, 53 P.S. 46131, et seq. Boroughs with fewer than three full-time police officers that elect to establish a police pension plan must refer to the provisions of this code. Pennsylvania Municipal Retirement Law, Act of February 1, 1974, P.L. 34, No. 15, 53 P.S. 881.101, et seq. Municipalities and municipal authorities may elect to have the Pennsylvania Municipal Retirement System administer their pension plans as an alternative to a plan administered by the municipality. Public Employee Retirement Commission Act, Act of July 9, 1981, P.L. 208, No. 66, 43 P.S. 1401, et seq. This act established the commission as a means to monitor public employee retirement systems in the Commonwealth. Probate, Estates and Fiduciaries Code, Chapter 73, Fiduciaries Investments, Act of June 30, 1972, P.L. 508, No. 164, 20 Pa. C.S.A. 7301, et seq. (commonly referred to as the Fiduciaries Investment Act). This act details various requirements for the investment of funds and the conduct of fiduciaries. The Public Employee Pension Forfeiture Act, Act of July 8, 1978, P.L. 752, No. 140, 43 P.S. 1311, et seq. This act determines the pension benefits forfeitable should a public employee or public official plead guilty or no defense to a crime related to his public duties.
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Act 120
Act 600
Act 331
Act 69
Act 581
Act 15
Act 66
Act 164
Act 140
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Act 147
Special Ad Hoc Municipal Police and Firefighter Post retirement Adjustment Act, 53 P.S. 896, 101, et seq. This act provides for a post retirement adjustment cost of living increase for eligible police and firefighters. The Act of March 30, 1988, P.L. 312, No. 41, 53 P.S. 65515. This act provides eligibility requirements for supervisors in second class townships to participate in the township pension plan. Third Class City Code, Act of June 23, 1931, P.L. 932, No. 317 as amended, 53 P.S. 39301, et seq. This act provides for the police, fire, and non-uniformed employees pension plans in cities of the third class. The Act of May 23, 1945, P.L. 903, No. 362, 53 P.S. 39371 et seq. This act provides a pension plan for non-uniformed employees in cities of the third class as an alternative to the one provided in the Third Class City Code. The Act of March 30, 1811, P.L. 145, No. 99, 72 P.S. 4521.2 et seq as amended in 1987. Sections 8.2 and 8.3 of this act authorize and provide for the establishment and operation of deferred compensation plans by the Commonwealth and its political subdivisions under Section 847 of the Internal Revenue Code.
Act 362
Act 99
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taxes are distributed according to formulae contained in Act 205. Minimum Municipal Obligation (MMO). The MMO determines the amount of money that must be contributed to a pension plan by a municipality for a given year. The calculation of this amount uses the normal cost, anticipated administrative expenses, amortization payment or funding adjustment, and anticipated employee contributions to determine a municipalitys contribution requirement. General Municipal Pension System State Aid may be used to make the contribution. Normal Cost. The actuarial cost assigned to a given year to pay for the portion of the anticipated benefit derived from service during that year. Unfunded Actuarial Accrued Liability. The amount by which the actuarial accrued liability exceeds the actuarial value of assets. A valuation will identify the value of changes in the unfunded actuarial accrued liability that result from changes in plan benefits, actuarial assumptions, or actuarial gains and losses. Vesting. The participants non-forfeitable right to receive a benefit, provided that the participant survives until benefit eligibility.
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