INTER FACULTY ORGANIZATION

INTER FACULTY ORGANIZATION

2006 WORKSHOP

RETIREMENT ISSUES

FOR

NEW FACULTY

Presented By:

Russ Stanton, Director of Government Relations

Inter Faculty Organization

Disclaimer: This workshop is being conducted by the Inter Faculty Organization (IFO), the exclusive representative of the faculty at the Minnesota state universities, as a service to its members. The views expressed either verbally or in writing are those of the representative of the IFO not the Minnesota State Colleges and Universities (MnSCU) or any of its affiliated institutions. The IFO and its representatives do not sell or endorse any investment product or service and do not receive any fees, commissions or financial reimbursement from any vendor of investment products or services. This workshop is designed to familiarize faculty with options available to them under their retirement plans and collective bargaining contract-it is not to be constructed as financial planning. The IFO encourages all members to seek financial advice from a licensed financial planner.

TABLE OF CONTENTS

PURPOSE OF NEW FACULTY RETIREMENT WORKSHOP

MNSCU RETIREMENT PLANS FOR FACULTY

TRA VS. IRAP IMPORTANT CONSIDERATIONS

INDIVIDUAL RETIREMENT ACCOUNT PLAN INVESTMENTS PERFORMANCE

EFFECT OF TRA/POST FUND ADJUSTMENTS STARTING IN 1990

COMMON SENSE ABOUT INVESTING

TIAA-CREF RATES OF RETURN: NOMINAL VS. REAL

PROJECTED IRAP ACCUMULATIONS -- STOCKS

PROJECTED IRAP ACCUMULATIONS -- BONDS

PROJECTED ACCUMULATIONS USING VANGUARD INSTITUTIONAL INDEX FEES

PROJECTED ACCUMULATIONS USING LEGG MASON VALUE FUND FEES

VOLUNTARY TAX SHELTERING

MN DEFERRED COMPENSATION PLAN INVESTMENT OPTIONS

THOSE WHO HESITATE

RETIREE HEALTH CARE

IMPORTANT PHONE NUMBERS & WEBSITES

PURPOSE OF NEW FACULTY RETIREMENT WORKSHOP

1. To give you a general overview of your retirement programs, with particular emphasis on the decisions you must make in the near future.

2. To help you make an informed decision between TRA or IRAP as your basic pension coverage.

All new faculty members will start out in the Individual Retirement Account Plan (IRAP) as their basic pension plan.

New faculty members have up to one year to choose the Teachers Retirement Association (TRA) instead of the IRAP as their basic pension plan.

If faculty members choose TRA as their pension plan, it is irrevocable for life.

If new faculty members don’t make a choice you will remain in IRAP. If a faculty member chooses IRAP, either through an active choice or through default after one year, the decision is irrevocable for life.

The choice you make can mean the difference to you of thousands of dollars in the short term and hundreds of thousands of dollars over the course of your career. It can also affect the portability of your pension and your ability to change jobs without severe consequences to your retirement income. The IFO wants you to make a careful and informed decision that best fits your career plans.

3. To help you select appropriate investment funds under the IRAP or Supplemental Retirement programs.

Faculty in the IRAP and Supplemental Retirement programs must choose between 23 investment funds offered by three different vendors. These include a range of assets types (stocks, bonds, money market, balanced funds, etc.). The IFO wants you to select an investment strategy that is appropriate for you.

4. To inform you of some large tax shelters and tax breaks available to you through the Tax Sheltered Annuity Program, the State Deferred Compensation Program, and the Post Retirement Healthcare Savings Plan.

The Inter Faculty Organization is the union for the faculty at Minnesota’s seven state universities. The IFO is an informed, objective source of information. The IFO does not endorse or sell any products or services, or receive fees or commissions relative to retirement. Our purpose in providing this workshop is to improve the economic welfare of the faculty.

MnSCU Retirement Plans for Faculty

Level 1. Social Security

(Mandatory for all new faculty.)

Level 2. Basic Pension Plan

(All new faculty who work more than 25% time must choose-the default is IRAP.)

TEACHERS RETIREMENT OR INDIVIDUAL RETIREMENT

ASSOCIATION ACCOUNT Plan (IRAP)

- Managed for MnSCU by TIAA-CREF

- 10 TIAA-CREF funds

- 6 Vanguard Index Funds

- 7 “Best in Class” Mutual Funds

(a wide variety of asset types: stocks, bonds, real estate, fixed)

Level 3. Supplemental Retirement Plan (SRP)

(Automatic coverage for all faculty members after two years of full-time employment.)

- Managed for MnSCU by TIAA-CREF

- Same set of vendors and funds as IRAP

The current contribution is 5% of salary over $6,000 per year, up to $2250/year

This amount is matched 100% by the employer.

Level 4. Voluntary Tax Sheltered Savings Plans

Tax Sheltered Annuities AND/OR Deferred Compensation

(Also known as TSAs, 403(b) (Also known as 457 Plans)

Plans, TDAs, etc.)

- Managed for MnSCU by TIAA-CREF - Managed by MN State

- Same funds as IRAP and SRP Retirement System (MSRS)

Level 5. Postretirement Healthcare Savings Plan

- Severance Pay

- Health Reimbursement Arrangements

*The IRAP and Supplemental Retirement Plans are administered jointly by TIAA-CREF, and are referred to as the “MnSCU Defined Contribution Plan” or the “MnSCU DCR Plan”.

TRA vs. IRAP

Important Considerations

The information above on investment fund performance is taken from the TIAA-CREF web page (http://enroll.tiaa-cref.org/planperformance.aspx?planId=993). Please visit this web page and read the complete chart, including footnotes, prior to making any investment decisions.

In addition to the expense ratio (investment fees) charged by the funds, MnSCU charges a $20/person annual administrative fee to cover recordkeeping costs and management of the plan.

1. Invest for the long term. Put a sizeable portion of your investment in equities (stocks), which have a high long term yield compared to fixed interest investments and bonds. Ignore the short term volatility--you should be concerned about what has the highest average yield in the long term. You will almost certainly have times when the market goes down, but if you are young, you can ride out the downswings.

2. Diversify. Each of the investment funds available to you is diversified among many companies. However, you may want to diversify among asset types, such as real estate, bonds, and international investments, to reduce overall volatility of returns on your portfolio. How much you diversify depends on your risk tolerance and years from retirement.

3. Don’t play the markets. Pick an asset allocation strategy and stick with it. By the time information relevant to making investment decisions reaches the average investor, the markets have already adjusted to the change. People’s instincts tend to be to want to buy when the market is going up and to sell when it is going down--just the opposite of “buy low--sell high”.

4. Consider broad based index funds. Index funds tend to beat actively invested money of the same type about 85% of the time. Because they aren’t paying as much for high priced fund managers, index funds have lower fees.

5. Rebalance your asset allocations periodically. Because some asset types will increase faster or slower than others, your allocation percentages will get out of whack with your strategy. When you rebalance you asset allocations, you will be selling shares that are up in value to buy shares that are down in value--that’s a good strategy. Stick to your long term allocation strategy.

1. There are two employer sponsored voluntary tax sheltering programs available to faculty through payroll deduction:

§ The Tax Sheltered Annuity program. This plan is often referred to as the TSA plan, the TDA (Tax Deferred Plan), or the 403(b) plan (because it is authorized under Section 403(b) of the IRS code). This tax sheltering program is available under state and federal law for employees of non-profit educational and cultural institutions.

§ The State Deferred Compensation program. This plan is often called the Deferred Comp Plan or the 457 plan (because it is authorized under Section 457 of the IRS Code). This tax sheltering program is available to all public employees.

2. Because faculty members are both educational employees and public employees, they qualify for both programs.

3. The maximum percentage of salary that can be contributed to either of these plans is 100%. The dollar limit that can be tax sheltered under each program is normally $15,000 per year. The dollar amount that can be tax sheltered by participating in both programs is $30,000 per year.

4. In addition to the normal contribution limits, there are special “catch-up” provisions for people that did not maximize their contributions in the past, or that are over 50 years of age. Contact TIAA-CREF for details.

5. The funds under the TSA program are the same as under the SRP and IRAP plans. The investment options and fees for the Deferred Compensation program(s) are attached.

6. The fees under the TSA program are generally less than under the Deferred Compensation program.

7. Generally speaking, the rules governing the Tax Sheltered Annuity Plan and the Deferred Compensation plan are very similar, with the exception of early withdrawal penalties. The Tax Sheltered Annuity plan had a 10% federal withdrawal penalty for withdrawals prior to age 59 1/2---the Deferred Compensation plan does not.

Assumes a 12% annual rate of return based on an annual contribution made on the first day of the year compounded semiannually with dividends and capital gains reinvested with no sales charge. There is no guarantee that you will be able to obtain a 12% annual rate of return. This example is for illustrative purposes only and does not represent the performance of any particular investment.

Faculty members are covered by a postretirement Health Care Savings Plan. Money contributed to the HCSP is tax-free (not just tax deferred) so long as it is used for health related expenses (deductibles, co-pays, Medicare premiums, Medicare supplement premiums, eye glasses, etc.). Money in the postretirement Health Care Savings Plan is invested and earns interest.

Currently, two types of contributions go into the postretirement Health Care Savings Plan:

1) Severance pay (which is based on unused sick leave). Generally, long term faculty currently receive around $30,000 in severance pay.

2) A $600 per year employer contribution—but only if the employee has accumulated $500 or more balance in their HRA plan at years end.

All insurance eligible faculty (1/2 time or more) will receive a $600 employer contribution to their HRA account on January 1^st of each year, to cover medical expenses not covered by insurance (deductibles, co-pays, eyeglasses, hearing devices, etc.). Employees submit claims and are reimbursed from their accounts.

Unused balances in the HRA account carry forward and may be used in the subsequent year.

If at the beginning of a year an employee has less than $500 in their HRA account, the employee will have $600 added to their HRA account by the employer. If the employee has more than $500 in their HRA account the $600 will be added to their postretirement Health Care Savings Plan.

By controlling their healthcare expenses during years of employment, employees can accumulate tax-free savings for their health care expenses following separation from employment.

Employees can voluntarily set aside some of their own money through payroll deduction to pay for their uncovered medical expenses on a non-taxed basis through what are called Flexible Spending Accounts or FSAs. This is a great tax break, but FSAs have one major weakness—the balances in the FSA accounts at the end of a calendar year do not carry forward to the year—they are forfeited to the employer.

Both the HRA and FSA programs are managed by Eide Bailly, and are coordinated so that if a member has an FSA, claims will be paid first from the FSA account (because it doesn’t carry forward to the next year) and then from the HRA account (because it does carry forward). You can open an FSA account upon the start of employment or during open enrollment in November of each year. Informational materials will be sent out prior to open enrollment.

Feature	TRA	IRAP
How the plan works	TRA is a defined benefit, or formula plan. Assets are held collectively and invested by the State Board of Investment. Your benefit is based on a formula that is based on the average of your highest consecutive five years of salary. You get an annual retirement benefit at normal retirement age (the social security age for full retirement) that is equal to 1.9% of your high-5 average salary for each year of service.	You have your own individual account into which your contributions and your employer contributions are deposited. You choose where to invest your money from a list of three vendors, each offering a variety of funds, such as stock account, bond account, fixed interest, etc. Your retirement benefit is based on employer and employee contributions to your account, plus accumulated interest.
Contributions	5.5% employer/5.5% employee	6% employer/4.5% employee
Vesting	After 3 years. If you do not vest you can withdraw your own contributions, (not the employer’s contributions) and interest on your contributions at the rate of 6%.	Both employer and employee contributions plus interest are immediately vested and belong to the employee.
Portability	Not very portable unless you go to work for another public employer within Minnesota. If you change jobs and move to another state or to the private sector, you can leave your contributions with TRA and begin drawing a reduced benefit at age 55, or an unreduced benefit at age 65, but your high-5 salary will be the salary you earned before you moved, so it will be eroded by inflation. To offset this inflation erosion, TRA augments the benefit by 2.5% for each year it was deferred prior to retirement. If you withdraw before retirement you will get your own money back at 6% interest. You will forfeit the employer’s share.	Very portable. If you change jobs mid-career you can either withdraw all the proceeds of your account (employer and employee) and roll it into a IRA rollover, or transfer it to the pension plan of a new employer (if they allow it), or you can simply leave your money in the plan until you retire and it will grow at the rate of investment return.
Risk	The primary risk is that you would lose or change jobs mid-career, which can have a serious adverse affect on your retirement benefits. A second kind of risk is that your salary could grow at a slow rate. If this happens (and it happened in the last decade), “high-5” salaries increase slowly and therefore benefits grow slowly. Finally, the flip side of risk is reward: while you are protected from the market going down, you will not directly benefit from higher than normal market returns.	You bear the risk of investment. If you invest wisely you can benefit from this, but if you don’t, you bear the consequences at retirement.
Withdrawal Options at Retirement	You can only take your benefit in the form of a lifetime annuity (monthly income). You can choose from a variety of annuity options offered by TRA, such as a single life annuity, joint and survivor annuities, etc.	Very flexible withdrawal options, including annuities, lump sum withdrawals, interest only withdrawals, periodic payments, or combinations of the above.
Post Retirement Cost of Living Adjustments (COLA’s)	TRAs post retirement COLA formula is based on the rate of return on the Post-Retirement Fund. The increases have been averaging around 5.86% per year since 1980. Future increases are expected to be around 2.5% per year.	IRAP members can leave their money invested and it will grow at the rate of investment return until it is withdrawn. They can also purchase annuities with COLA’s.
Early Retirement Penalties	TRAs “normal” retirement age is tied to the social security retirement age, and is gradually increasing to age 66. If you retire earlier than the normal retirement age, your retirement benefit is reduced about 4%, for each year you retire prior to the normal retirement age. For instance, if you retire at age 55 your retirement benefit is only 55.1% of what it would be if you retired at age 66.	There are no early retirement penalties, but the earlier you retire the less money you will have accumulated in your retirement account.
Generalizations	TRA is attractive for employees who think they will work in TRA covered employment throughout their career and retire close to TRAs normal retirement age. It is an attractive alternative to people who are risk adverse when it comes to investments.	IRAP is attractive to people who think they are likely to change employers prior to retirement or who retire early. Its greatest attraction is its portability. IRAP is also attractive to people who like flexibility in investment and retirement options and who are not risk adverse when it comes to investments.

	TOTAL RETURNS		AVERAGE ANNUAL TOTAL RETURNS			Expense Ratio
	3-month Return	YTD	1 Year	5 Years	10 Years	Expense Ratio
CREF Equity Index Account	-2.08	3.03	9.14	3.12	8.23	0.41
CREF Global Equities Account	-2.00	4.73	15.60	4.77	6.61	0.50
CREF Growth Account	-5.84	-3.17	4.68	-2.41	4.16	0.50
CREF Stock Account	-1.76	4.33	12.56	4.47	8.01	0.46
Legg Mason Value Fund	-5.43	-4.59	3.72	3.62	14.55	0.69
Pennsylvania Mutual Fund	-5.22	6.12	16.40	12.95	14.19	0.90
T. Rowe Price International Growth & Income	0.96	11.24	28.25	12.75	--	0.99
Vanguard Developed Markets Index	0.81	10.19	26.81	9.90	--	0.21
Vanguard Institutional Index Fund	-1.44	2.71	8.62	2.50	8.38	0.05
Vanguard Mid Capitalization Index	-2.87	4.50	14.57	--	--	0.13
Vanguard Small Cap Index Fund	-4.72	6.94	13.92	9.07	--	0.13
Vanguard Strategic Equity Fund	-2.93	5.93	13.01	11.63	12.89	0.40
CREF Social Choice Account (#004)	-1.46	1.20	5.60	4.48	7.99	0.42
Dodge & Cox Balanced Fund	0.53	4.09	9.88	9.27	11.75	0.53
Vanguard Balanced Index Fund	-1.20	1.73	5.58	4.59	--	0.08
TIAA Real Estate Account	4.69	8.06	16.27	9.53	9.31	0.66
CREF Bond Market Account	-0.16	-0.81	-0.98	4.87	6.08	0.45
CREF Inflation-Linked Bond Account	0.36	-2.01	-2.03	6.57	--	0.47
Vanguard Total Bond Market Index Fund	-0.18	-0.89	-0.95	--	--	0.11
Western Asset Core Plus Bond Portfolio	0.24	0.02	-0.41	6.56	--	0.45
CREF Money Market Account	1.14	2.15	3.90	1.97	3.72	0.41
Vanguard Prime Money Market Fund	1.22	2.33	4.23	2.30	3.97	0.09
TIAA Traditional Account	--	--	4.25	6.25	6.77	--

Effective Date of Increase January 1	Percentage of Post Fund Adjustment	Monthly Annuity
1989		$1,500
1990	4.0%	$1,560
1991	5.1%	$1,640
1992	4.3%	$1,710
1993	4.6%	$1,788
1994	6.0%	$1,896
1995	4.0%	$1,971
1996	6.4%	$2,098
1997	8.0%	$2,266
1998	10.1%	$2,495
1999	9.8%	$2,740
2000	11.14%	$3,045
2001	9.53%	$3,336
2002	4.49%	$3,486
2003	0.74%	$3,511
2004	2.103%	$3,585
2005	2.5%	$3,675
2006	2.5%	$3,767
2007	2.5%	$3,861