for the education of producers/brokers only. not for use with the public.1 single employer welfare...

For the education of

producers/brokers only. Not for use with the public.

1

Single Employer Welfare Benefit Plans

This training material has been prepared by the Marketing Staff of Prudential Financial to assist our licensed financial professionals. It is designed to provided general information in regard to the subject matter covered. It should be used with the understanding that Prudential Financial is not rendering legal, accounting or tax services. Such services should be provided by the client’s own advisors. Prudential’s sole role with regard to any 419 arrangement is that of a product provider. Prudential is not providing the 419 concept. Prudential shall not have any involvement, not even as a product provider only, with regard to multi-employer 419A(f)(6) plans. Additionally, Prudential is neither endorsing the use of the 419 strategy nor the use of any 419 concept sponsor.

Prudential Financial and the Rock logo are registered service marks of The Prudential Insurance Company of America and its affiliates.

The Prudential Insurance Company of America, 751 Broad Street, Newark, NJ, 07102-3777 IFS – A087341 Ed. 02/04 Exp. 08/05

Hit Esc



2

What It Is What It Is NotNot … …

A retirement income plan A 419A(f)(6) ten or more …

Multiple Employer Welfare Benefit Trust



3

What it Is …What it Is …

A A single employer single employer plan under plan under IRC IRC §§§§ 419 419 and 419Aand 419A used to provide used to provide welfare benefitswelfare benefits to employees and their dependentsto employees and their dependents

Governed by Governed by different tax rules different tax rules than the than the multiple employer planmultiple employer plan

A welfare benefit plan subject to A welfare benefit plan subject to ERISA ERISA rulesrules



4

What it Can Provide …What it Can Provide …

Welfare benefits: Welfare benefits: such as disability, such as disability, medical expenses, severance, medical expenses, severance, supplemental unemployment benefits supplemental unemployment benefits (SUB) and life insurance(SUB) and life insurance

For the plan sponsor: For the plan sponsor: current tax current tax deductions (within limits) deductions (within limits)

For participants: For participants: Tax favored or tax-free Tax favored or tax-free benefitsbenefits when received under when received under IRC IRC §§§§ 79, 101(a), 105, 106 79, 101(a), 105, 106



5

The Need … The Need … Post Retirement Medical CostsPost Retirement Medical Costs

Employee Benefit Research Institute Employee Benefit Research Institute Issues Brief, February 2003Issues Brief, February 2003

Medical costs areMedical costs are escalating escalating

Individual w/o access to employment-Individual w/o access to employment-based health benefits who have based health benefits who have Medigap coverage Medigap coverage will need to have will need to have saved between $47,000 - $1,458,000, to saved between $47,000 - $1,458,000, to retire at age 65 in 2003.retire at age 65 in 2003.



6

What Benefits Are Most Popular?What Benefits Are Most Popular?

Retirement medical benefitsRetirement medical benefits Medical co-pays, deductibles, etc.Medical co-pays, deductibles, etc.Prescriptions & “over the counter” medsPrescriptions & “over the counter” medsNursing home & home health care costsNursing home & home health care costsEtc.Etc.

Life insuranceLife insuranceSingle lifeSingle lifeSurvivorshipSurvivorship



7

““Where’s The Beef”Where’s The Beef”What’s In It For The Producer?What’s In It For The Producer?

For income tax reasons the funding of the For income tax reasons the funding of the reserve to provide for post retirement life reserve to provide for post retirement life and health care benefits is often done with and health care benefits is often done with a combination of life insurance and other a combination of life insurance and other investment productsinvestment products



8

In This Presentation …In This Presentation …

Income tax rulesIncome tax rules Identifying the marketIdentifying the market Funding the liabilitiesFunding the liabilities Plan administrationPlan administration



9

Employer Tax Treatment …Employer Tax Treatment …

IRC IRC §§§§ 419 and 419A: 419 and 419A: deductible employer deductible employer contributions for any tax year is contributions for any tax year is limited tolimited to the plans the plans “qualified cost”“qualified cost”

The annual The annual Qualified Cost Qualified Cost for the year, for the year, has three components:has three components:Qualified direct costQualified direct cost PLUSPLUS

The amount that may be added to the The amount that may be added to the qualified asset account qualified asset account MINUSMINUS

The The after-tax income after-tax income of the fund.of the fund.



10

Employer Tax Treatment Employer Tax Treatment Qualified Direct Cost …Qualified Direct Cost …

The total amount (including administrative The total amount (including administrative expenses) expenses)

which would have been allowed as a which would have been allowed as a deductiondeduction to the employer to the employer if such if such benefits were provided directlybenefits were provided directly by the by the employer and employer and

the the cash method of accounting cash method of accounting was usedwas used



11

Employer Tax Treatment Employer Tax Treatment Qualified Asset Account (QAA)…Qualified Asset Account (QAA)… A reserve set asideA reserve set aside to fund for claims for to fund for claims for

certain types of benefits that were certain types of benefits that were incurred, incurred, but not paidbut not paid for the tax year for the tax year

Reserves may be set aside for: Reserves may be set aside for: disability, disability, medical benefits, supplemental medical benefits, supplemental unemployment benefits, severance pay, or unemployment benefits, severance pay, or life insurance life insurance

Additions to the qualified asset account Additions to the qualified asset account are are not deductiblenot deductible to the extent to the extent they exceed the they exceed the “Account Limit”“Account Limit” under IRC under IRC § 419A§ 419A



12

Employer Tax Treatment Employer Tax Treatment Qualified Asset Account Limit …Qualified Asset Account Limit … The amount that isThe amount that is“reasonable and “reasonable and

actuarially necessary” actuarially necessary” to fund claims to fund claims incurred but unpaid plus any related incurred but unpaid plus any related administration expensesadministration expenses as of the close of as of the close of the tax yearthe tax year

The account limit may include an The account limit may include an additional additional reservereserve to provide covered employees to provide covered employees post post retirement medical and life insurance retirement medical and life insurance benefits. benefits.



13

Employer Tax Treatment Employer Tax Treatment Post Retirement Medical & LifePost Retirement Medical & Life

Must be funded Must be funded over the working livesover the working lives of the of the covered employees and covered employees and must be actuarially must be actuarially determineddetermined on a on a level basislevel basis using using reasonable reasonable assumptions assumptions i.e. the reserve with respect to i.e. the reserve with respect to an employee can be an employee can be fully funded no earlier fully funded no earlier than upon retirement of that employeethan upon retirement of that employee This favors older and married employeesThis favors older and married employees

Must be Must be nondiscriminatory (IRC nondiscriminatory (IRC § 505(b))§ 505(b))

Separate accounts required Separate accounts required for eachfor each key key employeeemployee



14


No discrimination: IRC No discrimination: IRC §505(b) §505(b)

Neither the Neither the classification of employeesclassification of employees covered under the plan norcovered under the plan nor

The The benefits providedbenefits provided can discriminate can discriminate in favor of in favor of highly compensatedhighly compensated individualsindividuals



15

Employer Tax Treatment Employer Tax Treatment Post Retirement Medical & LifePost Retirement Medical & Life Separate accounts required Separate accounts required for eachfor each key key

employee;employee; benefits provided benefits provided with respect to that with respect to that key employeekey employee must be paid from this account must be paid from this account

Amounts attributable to Amounts attributable to medical benefitsmedical benefits allocated to a key employee’s account are treated allocated to a key employee’s account are treated as an as an annual addition to a qualified defined annual addition to a qualified defined contribution plancontribution plan for purposes of the for purposes of the dollar dollar limitationlimitation

100% penalty 100% penalty applies if post retirement medical applies if post retirement medical or life insurance benefits or life insurance benefits are discriminatoryare discriminatory or or not made from separate accountsnot made from separate accounts maintained for maintained for key employeeskey employees



16


Key Employee Definition IRC Key Employee Definition IRC § 416(i) § 416(i) A present or former employee who at any- A present or former employee who at any-

time during the plan year or any 4 preceding time during the plan year or any 4 preceding years, is or was:years, is or was: An Officer An Officer earning more than earning more than $130,000$130,000

A A more-than-5% ownermore-than-5% owner

A A more-than-1% ownermore-than-1% owner earning over $150,000 earning over $150,000

One of One of ten largest ownersten largest owners whose compensation whose compensation exceeds the annual addition limit for defined exceeds the annual addition limit for defined contribution planscontribution plans



17

Employer Tax Treatment Employer Tax Treatment Reduction For After-Tax IncomeReduction For After-Tax Income … … Any Any after-tax income reducesafter-tax income reduces the qualified the qualified

direct costs and additions to the qualified direct costs and additions to the qualified asset account (deductible contributions)asset account (deductible contributions)

After-tax income is the After-tax income is the gross incomegross income of the of the fund fund reduced byreduced by the sum of the the sum of the DeductionsDeductions allowed by the Code connected to the allowed by the Code connected to the

production of such income, and production of such income, and The The income taxincome tax imposed on the fund imposed on the fund

Reason to fundReason to fund the reserve with tax-free or the reserve with tax-free or tax-deferred assets such as tax-deferred assets such as life insurance.life insurance.



18

Employer Tax Treatment Employer Tax Treatment Excess ContributionsExcess Contributions

If the employer’s contributions If the employer’s contributions exceed the exceed the qualified costs for the fund’s year:qualified costs for the fund’s year:

Excess contributions are Excess contributions are carried forwardcarried forward to to successive years until deductiblesuccessive years until deductible

Non-exempt Trusts:Non-exempt Trusts: Excess is considered Excess is considered gross income which reduces contributions and gross income which reduces contributions and treated and taxed as “deemed” UBITtreated and taxed as “deemed” UBIT

Exempt trusts:Exempt trusts: excess is subject to unrelated excess is subject to unrelated business income taxation (UBIT) business income taxation (UBIT)



19

Tax Treatment of ParticipantsTax Treatment of Participants … …

Income tax treatment is dependent on the Income tax treatment is dependent on the type of benefit receivedtype of benefit received

Medical BenefitsMedical Benefits IRC IRC §§ 105,§§ 105,106: Employer 106: Employer contributions to contributions to

the planthe plan are not taxable to the employeeare not taxable to the employee when madewhen made

IRC IRC §§ 105,§§ 105,106: Post retirement 106: Post retirement medical medical benefitsbenefits are are received income tax freereceived income tax free when when paid from the planpaid from the plan



20

Tax Treatment of ParticipantsTax Treatment of Participants … …

Income tax treatment is dependent on the Income tax treatment is dependent on the type of benefit receivedtype of benefit received

Life Insurance Life Insurance Employer contributions to the plan are taxed Employer contributions to the plan are taxed

under IRC under IRC §§ 79 79No taxable income for the first $50,000No taxable income for the first $50,000Coverage in excess of $50,000 results in Coverage in excess of $50,000 results in

taxable income using Table 2001 valuestaxable income using Table 2001 values Death benefits are generally excludedDeath benefits are generally excluded from the from the

beneficiary’s income under IRC beneficiary’s income under IRC §§ 101(a) 101(a)



21

Eligible Business EntitiesEligible Business Entities

Most employers, except Most employers, except sole proprietors sole proprietors (Sole proprietors with W-2 employees may (Sole proprietors with W-2 employees may be eligible)be eligible)

Tax treatment of benefits may vary Tax treatment of benefits may vary depending on the type of employer entitydepending on the type of employer entity



22

Must All Employees Participate?Must All Employees Participate?

Normal ERISA employee exclusion rules Normal ERISA employee exclusion rules applyapply70% of employees must be covered70% of employees must be coveredExclude: employees with less than 36 Exclude: employees with less than 36

months of servicemonths of serviceExclude: employees younger than 25Exclude: employees younger than 25Exclude: employees working less than 35 Exclude: employees working less than 35

hrs per weekhrs per week



23

Vesting of Benefits Vesting of Benefits Will All Employees Benefit?Will All Employees Benefit? Employer must establish an Employer must establish an entitlement date entitlement date

which mustwhich must apply equally apply equally to all employees; to all employees; HoweverHowever

No required minimum vesting scheduleNo required minimum vesting schedule Result: entitlement dates often require a Result: entitlement dates often require a

number of years of service number of years of service Result: employee who terminates Result: employee who terminates

employment prior to entitlement date does employment prior to entitlement date does notnot acquire a benefit acquire a benefit

Result: effective golden handcuffResult: effective golden handcuff



24

Case Study: Facts Case Study: Facts

Annual contribution of $100,000 for 5 years in Annual contribution of $100,000 for 5 years in a combination of life insurance and annuities.a combination of life insurance and annuities.

Benefit Marital Benefit MaritalParticipants Age Age StatusParticipants Age Age StatusOrthodontist - Denny 55 Orthodontist - Denny 55 60 60 MMHygienist – JaneHygienist – Jane 45 45 60 60 M MHygienist – JulieHygienist – Julie 40 40 60 60 S SHygienist – MarieHygienist – Marie 30 * 30 * 61* 61* MMBookkeeper – BrookBookkeeper – Brook 43 43 68* 68* M M * 3 years of service required before participation begins; 33 years of service required before post-retirement * 3 years of service required before participation begins; 33 years of service required before post-retirement

benefits are payable.benefits are payable.



25

Case Study: Summary ResultsCase Study: Summary Results

Result: Most of the contribution will legally Result: Most of the contribution will legally favor employees who are older have higher favor employees who are older have higher incomes and dependent status incomes and dependent status

Benefits: Contribution% Benefit Fund* Ins Face Amt.Benefits: Contribution% Benefit Fund* Ins Face Amt.DennyDenny 8585 $304,000 $ 2,000,000$304,000 $ 2,000,000 Jane Jane 9 9 $204,000 $204,000 600,000 600,000Julie Julie 2 2 $102,000$102,000 149,890 149,890Marie Marie 0 0 $ 0$ 0 0 0BrookBrook 4 4 $204,000 350,000$204,000 350,000

* The benefit fund represents the amount available to pay post retirement medical benefits after 5 years and represents the cash value of the life insurance and other investments.



26

ProspectsProspectsWho Should Be Interested?Who Should Be Interested? Employers who see the need for additional Employers who see the need for additional

retirement benefits for themselves, their employees retirement benefits for themselves, their employees and any dependentsand any dependents

Employers who desire to purchase life insurance Employers who desire to purchase life insurance with pre-tax dollarswith pre-tax dollars

Employers who seek protection from claims of Employers who seek protection from claims of business creditorsbusiness creditors

Profitable business seeking tax deductionsProfitable business seeking tax deductions

Businesses with strong reoccurring revenueBusinesses with strong reoccurring revenue

An employer looking for “golden handcuffs” An employer looking for “golden handcuffs”



27

Funding the Benefit ….Funding the Benefit ….

Promised benefits create liabilitiesPromised benefits create liabilities Life insurance is an attractive funding vehicle Life insurance is an attractive funding vehicle

because:because: Makes it possible for an employer to create a large Makes it possible for an employer to create a large

pool of money with relatively small contributionspool of money with relatively small contributions Welfare benefit fund avoids income tax (that Welfare benefit fund avoids income tax (that

reduce plan contributions) through the reduce plan contributions) through the combination of tax-deferred internal cash value combination of tax-deferred internal cash value build up, tax-free access and tax-free proceeds* build up, tax-free access and tax-free proceeds*

Avoids UBIT problemsAvoids UBIT problems* Withdrawals and loans reduce policy cash values and death benefit, may affect any policy guarantees against lapse, and may have tax consequences.



28

Funding the Benefit Funding the Benefit Using Life Insurance Using Life Insurance Can use individual or survivorship life insurance Can use individual or survivorship life insurance

policies - typically universal life policies are usedpolicies - typically universal life policies are used

Where employee turnover is a problem, can fund with Where employee turnover is a problem, can fund with a combination of term life insurance and other a combination of term life insurance and other investmentsinvestments

Welfare benefit trust is the owner and beneficiaryWelfare benefit trust is the owner and beneficiary

Cash value of policies is accessed to fund post Cash value of policies is accessed to fund post retirement medical and other selected benefits*retirement medical and other selected benefits*

Policies can be portable if permitted under terms of Policies can be portable if permitted under terms of the planthe plan

* Withdrawals and loans reduce policy cash values and death benefit, may affect any policy guarantees against lapse, and may have tax consequences.



29

What Happens if the Plan is What Happens if the Plan is Terminated?Terminated?

Accrued benefits are “frozen” in the planAccrued benefits are “frozen” in the plan

Any remaining assets may remain in the Any remaining assets may remain in the plan for future benefitsplan for future benefits

If assets are distributed, they may not If assets are distributed, they may not revert to the employer, but must be revert to the employer, but must be distributed to all the participants in a non-distributed to all the participants in a non-discriminatory manner following IRS discriminatory manner following IRS guidelinesguidelines



30

Administrative NeedsAdministrative Needs … …

Contribution CalculationsContribution Calculations Employee eligibilityEmployee eligibility Review of emerging liabilitiesReview of emerging liabilities Communication with employeesCommunication with employees Disbursement trackingDisbursement tracking Reporting Requirements: IRS, ERISA, etc.Reporting Requirements: IRS, ERISA, etc.

A specialized independent third party A specialized independent third party administratoradministrator (TPA) must be use(TPA) must be use



31

Prudential’s ToolsPrudential’s Tools … …

Producer Marketing GuideProducer Marketing Guide CE Approved Producer SeminarCE Approved Producer Seminar Market TeaserMarket Teaser Producer Sales IdeaProducer Sales Idea Customer BrochureCustomer Brochure Answers to Frequently Asked Questions Answers to Frequently Asked Questions



32

for the education of producers/brokers only. not for use with the public.1 single employer welfare...

Documents

education of producersbrokers

welfare benefits

taxfree benefits

health care benefits

single employer plan

welfare benefit plan

tax services

combination of life