S.F. 2566 (Johnson, D.E.); H.F. 2786 (Mares) amends Minnesota Statutes, sections 356.24 and 356.25, which restrict the establishment of employer-funded supplemental or local retirement plans, by including a supplemental plan organized under Internal Revenue Code, Section 401(a), that is solely and wholly funded from employee accrued benefits as an exception to restrictions on employer-funded supplemental plans and by excepting supplemental plans authorized under the supplemental plan provision from the local employer-funded retirement plan prohibition.

1. Background Information on the Regulation of Supplemental Pension Plans, Minnesota Statutes, Section 356.24

Minnesota Statutes, Section 356.24, when initially enacted in 1971 (Laws 1971, Chapter 222, Section 1), was intended to end a growing 1960s practice in local government (primarily by school districts) of creating supplemental employer-funded pension plans beyond the regularly applicable statewide pension plan for that type of public employee. At that time, public pension benefits were considerably more modest than they are currently and some of the more affluent jurisdictions were attempting to readjust their employees' pension coverage by local action, without the approval of or notice to the Legislature. The Legislature decided that this practice was inappropriate and that the creation of additional pension plans was an unwise policy. The Legislature also apparently felt that pension benefits should be as uniform as possible geographically throughout public employment. In 1973, the Legislature considerably improved pension benefits payable under the public employees primary pension coverage by moving from career average salary plans to pensions that were based on the average salary of the individual close to retirement. The intent at the time was to provide an adequate retirement benefit through the primary pension plan and eliminate the need, or the ability, to create supplemental plans. Those supplemental plans that were in effect prior to 1971 were grandfathered. Substantial statewide general employee retirement plan benefit increases occurred in 1980, 1989, 1992, and 1997.

A number of exceptions to the restriction on supplemental employer-funded pension plans have been enacted. Beyond the pre-1971 grandfathered supplemental pension plans, the 1971 legislation also excluded from its application group health, hospital, disability, or death benefits. In 1980 (Laws 1980, Chapter 600, Section 7), an exception was added for severance pay plans authorized under Minnesota Statutes, Section 465.72. In 1988 (Laws 1988, Chapter 605, Section 9), the State Deferred Compensation Program was modified to include a matching employer contribution in addition to the member's deferred compensation amount. The State Deferred Compensation Program is governed by Minnesota Statutes, Section 352.96. The State Deferred Compensation Program is the sole government sponsored retirement thrift or savings program for most public employees. Although the plan is administered by the Minnesota State Retirement System (MSRS), public employees throughout the state are authorized to participate. For purposes of the State Deferred Compensation Program, public employment includes volunteer firefighters. The State Deferred Compensation Program, akin to the somewhat similar Internal Revenue Code, Section 403(b), plans, function to encourage additional saving for retirement, supplementing income during retirement from the primary public pension plan, Social Security, or other income sources. State Deferred Compensation Program was established in 1971, by Extra Session Laws 1971, Chapter 32, Section 19. The matching employer contribution to the State Deferred Compensation Plan, authorized under Minnesota Statutes, Section 356.24, under the 1988 legislation was required to be made solely to the State Deferred Compensation Program, was required to be provided for in either a personnel plan or a collective bargaining agreement, was required to be a dollar for dollar match, and was limited to $2,000 per year per employee. While not restricted in use to fund retiree health insurance premiums, the employer matching contribution authorization was part of a broader legislative enactment pertaining to retiree health benefits, and the conferees on Laws 1988, Chapter 605, discussed the potential for the savings promoted by the employer matching contribution authorization to be used in part to defray post retirement health insurance premium costs.

In 1992 (Laws 1992, Chapter 487, Section 4), similar authority for an employer matching contribution feature for teacher tax-sheltered annuity insurance contracts under federal Internal Revenue Code, Section 403(b), was established by adding an additional exception to Minnesota Statutes, Section 356.24. The applicable tax-sheltered annuity insurance contracts are those issued by one of up to ten qualified insurance companies licensed to do business in this state, engaged in the life insurance or annuity business, determined by the Commerce Commissioner to be among the top two rating categories of a national insurance rating entity, and selected by the Minnesota State Board of Investment as providing competitive options and investment returns. Internal Revenue Code, Section 403(b), tax-sheltered annuity plans are vehicles for teachers, church workers, and certain other personnel of charitable institutions, to save on a tax deferred basis. These plans are not any public employee's primary retirement coverage; rather they act to supplement the primary plan. This permits eligible employees to have some individual control over their eventual retirement income. Internal Revenue Code, Section 403(b), investments are generally referred to as tax-sheltered annuities.

Also, in 1988 (Laws 1988, Chapter 709, Article 11), with the creation of the State University System/Community College System Individual Retirement Account Plan (IRAP), an exception for the IRAP Plan was added to Minnesota Statutes, Section 356.24. In 1989 (Laws 1989, Chapter 319, Article 12, Section 3), employer contributions to the Higher Education Supplemental Retirement Plan, established in 1965, were exempted from the application of the supplemental pension plan restriction of Minnesota Statutes, Section 356.24.

In 2001, two additional exceptions were added to the supplemental retirement plan restriction of Minnesota Statutes, Section 356.24. The exceptions are for employer contributions to a supplemental plan or governmental trust established for post-retirement health care expenses under the federal Internal Revenue Code as set in the employer’s personnel policy or set by a collective bargaining agreement and for employer contributions up to $2,000 annually to the Laborer’s National Industrial Pension Fund as set in a collective bargaining agreement.

2. Background Information on Minnesota Statutes, Section 356.25

Minnesota Statutes, Section 356.25, was enacted in 1975 (Laws 1975, Chapter 405). The provisions, which has not been substantively amended since 1975, prohibits any governmental subdivision or other entity from establishing any local pension plan or fund financed in whole or in part from public revenue, other than a volunteer firefighter relief association.

The provision, which was originally sponsored by the League of Minnesota Cities, was intended to prohibit the formation of any additional local police or paid firefighter relief associations after 1975. Minnesota Statutes, Sections 423.801 through 423.814, the Second Class City Police Relief Association law, for instance, mandates that every second class city (cities between 20,000 inhabitants and 99,999 inhabitants) establish a local police relief association. Minnesota Statutes, Chapter 424, the Second Class City Firefighters Relief Association law, similarly requires a second class city to establish a paid firefighters relief association. Minnesota Statutes, Sections 423.37 to 423.392, the Third Class City Police Relief Association law, permits, but does not require, a third class city (cities between 10,000 inhabitants and 19,999 inhabitants) to establish a local police relief association. As cities grew in population, as many suburban and regional center cities have since 1940, additional local pension plans were either mandated or authorized by these laws, which the Commission felt would complicate Minnesota’s complex system of providing pension coverage to public employees. The 48 local police and paid firefighter relief associations that were in existence in 1975 also were largely poorly funded and were the focus of much continuing attention by the Legislative Commission on Pensions and Retirement and by the League of Minnesota Cities.

S.F. 2566 (Johnson, D.E.); H.F. 2786 (Mares) authorizes various supplemental pension plans funded from the accrued benefits of employees that have recently been sold to or established by school districts and other employing units. It also clarifies the interplay between the supplemental pension plan restriction, Minnesota Statutes, Section 356.24, and the local pension plan creation prohibition, Minnesota Statutes, Section 356.25.

The proposed legislation raises several pension and related public policy issues for Commission consideration, as follows:

1. Unclear Necessity of Minnesota Statutes, Section 356.24 Amendment. The policy issue is whether or not the amendment to Minnesota Statutes, Section 356.24, excluding supplemental plans funded from accumulated sick leave pay and vacation leave pay from a restriction on the creation of post-1971 supplemental pension plans, is necessary. The Minnesota Statutes, Section 356.24, restriction on supplemental pension plans applies only to partially or wholly employer-funded supplemental pension plans. The proposed exception could apply to supplemental plans funded from accumulated sick leave pay and accumulated vacation leave pay, which, although unpaid, was already accrued as a liability of the employing unit and has become an asset of the various applicable employees and, as such, would be employee contributions rather than employer contributions. The Attorney General’s office, in an October 1, 2001, opinion letter to Independent School District No. 2144 (Chisago Lakes), responds to a question of whether the school district has authority to establish an Internal Revenue Code Section 401(a) defined contribution plan for its employees by indicating that the Attorney General’s office was unable to provide a definitive answer, but indicates that the authority of a school district to contribute public funds to a supplemental pension plan is "severely limited" under Minnesota Statutes, Sections 356.24 and 356.25 (copy of letter attached). The Attorney General’s office opinion letter continues that the sole applicable exception to the Minnesota Statutes, Section 356.24, restriction is for severance pay plans, which the office suggests could not simultaneously comply with the applicable Internal Revenue Code provisions and with Minnesota Statutes, Section 465.72, governing local government severance pay plans. The Attorney General’s office opinion never attempts to address the issue of the character of the funds for contribution into the plan, obviously assuming that they are employer funds, perhaps because the school district request characterized the funding for the supplemental plan as employer funding. While the employer would have legal title to the assets representing an employee’s accumulated sick leave pay or accumulated vacation leave pay, clearly the applicable employees have beneficial title to those amounts and that should be sufficient to change the character of the funds from employer or public funds to employee or member amounts. If the requested exception is not actually needed, it is a potential waste of Commission and other legislative resources to process it and the enactment of a factually unnecessary exception to the Minnesota Statutes, Section 356.24, restriction on supplemental pension plans could produce undesirable confusion or even mischief.

2. Appropriateness of Generalized Reference to "Accrued Benefits."  The policy issue is the appropriateness of the reference to the highly generalized phrase "accrued benefit" in creating an additional exception to the restriction on the creation and funding of supplemental pension plans. The proposed legislation attempts to permit teachers and other public employees to transform other benefit amounts earned from their current form into defined contribution plan type funding for a supplemental pension plan. Under the general language used in the proposed legislation, the Legislature may be authorizing a larger or more substantial transformation than it might perceive at this time. For instance, under the generalized reference, if some new form of employee benefit or pay is created, it will automatically be included as a permissible source of pay or type of pay for use in funding the supplemental pension plan. The Commission may wish to consider whether that should automatically occur. The Commission may conclude that it is better to review each of these cases as they occur. If that is the Commission’s position, it may be better to specifically refer to accumulated sick leave pay, accumulated vacation leave pay, and accumulated severance pay. Also, the language is vague. "Accrued benefits" could be interpreted as referring to more benefit practices than some form of deferred or otherwise earned pay. Someone could make an argument that it includes the monetary value of life insurance, health care coverage, or any other benefit provided as a result of the public employment. An employee’s "accrued benefits" also is not clearly limited to accumulated benefits funded by the employee. If the Commission wishes to specifically delineate the accrued benefits available for this proposed transformation into supplemental pension plan coverage, Amendment LCPR02-026 would restrict the exception to "accumulated sick leave, accumulated vacation leave, and accumulated severance pay."

3. Appropriateness of a Lack of Any Dollar Contribution Limitation in the Proposed Exception.  The policy issue is the appropriateness of permitting any level of employer contributions, without limit, to the supplemental pension plan proposed for exception in the proposed legislation. If any or all of the funding to be directed to these accumulated sick leave pay and vacation leave pay supplemental pension plans proposed for in exception to the Minnesota Statutes, Section 356.24, restriction actually can be properly characterized as employer money or public funds, the proposed exception would allow for an unlimited amount to be contributed into the supplemental plan. Most Minnesota Statutes, Section 356.24, supplemental pension plans are limited to an employer-funded contribution of $2,000 annually, while the Higher Education Supplemental Plan is limited to $2,700 annually and the newly permitted post-retirement health coverage plans have no limitation amount. It is unclear, factually, whether the proposed supplemental pension plans would receive annual contributions or only one contribution at the time of separation from active employment, and a clarification of the factual circumstances would argue for different treatment. If annual contributions are anticipated, a $2,000 annual limit per employee on employer contributions would appear appropriate, barring convincing contrary testimony. Amendment LCPR02-024 implements an annual $2,000 employer-funded contribution limit. If a single contribution is anticipated, a limit of $2,000 multiplied by the number of years of employment, would appear to be an appropriate adaptation of the current general limit. Amendment LCPR02-025 implements a one-time employer-funded contribution limit of $2,000 multiplied by the total number of years of employment by the employee with that employing unit.

4. Expanded Supplemental Plan Governing Authority.  The policy issue relates to the Internal Revenue Code provision under which a supplemental plan proposed for exemption is organized and whether it would be appropriate to include plans operated under section 403(b) of the federal Internal Revenue Code. While the Commission staff has not been able to conclusively verify the federal Internal Revenue Code authority, legal counsel from Education Minnesota has informed the Commission staff that the Economic Growth and Tax Relief Reconciliation Act of 2001 (EGTRRA), enacted in June 2001, does permit 403(b)-based supplemental plans as well as 401(a)-based supplemental plans, and requests the inclusion of 403(b)-based supplemental plans in the proposed legislation. Amendment LCPR02-027 includes Internal Revenue Code section 403(b)-based supplemental plans in the exception if, in fact, they are permitted under the federal tax code. The Commission may wish to take testimony from Education Minnesota and others on this point to determine their desires and to clarify the applicable federal law.

5. Need to Validate Past Supplemental Pension Plans and Past Sick Leave and Vacation Leave Contributions. The policy issue is the question of whether or not there is a need to ratify the creation of any past sick leave/vacation leave supplemental pension plans and the previous contribution of any accumulated sick leave pay and vacation leave pay. It appears that some vendors have been selling these types of supplemental pension plans to various governmental employers in Minnesota. If the proposed legislation is needed because some of all of the contributions actually were employer contributions or actually involved public funds, then these past supplemental plans and past contributions violated Minnesota Statutes, Section 356.24, and their continued existence would taint any future activity by these employers and any accumulations in these plans. To avoid that potential problem, the past creation of plans that are consistent with the amendment to Minnesota Statutes, Section 356.24, contained in Section 1 and any past contributions to those plans are proposed to be validated to avoid any future adverse actions by the Office of the State Auditor or otherwise. For the Commission to meet its obligations for due deliberations and fact-finding, the Commission should consider taking testimony on the extent of these past supplemental pension plans that are being proposed for ratification. Thus, in ratifying these plans, the Commission is doing so knowledgeably.