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88 Cards in this Set
- Front
- Back
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Provide examples of what policy documents might be written for
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there might be policy documents for:
• plan design principles, • approach towards selection of providers, • minimum governance principles that might be required at a local level • company’s attitude to risks and investment decisions |
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Purpose of policy documents
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guide the various stakeholders as they make decisions around the operation of employee benefits and to ensure a consistent approach. In other words, the policy documents help to define the strategy of the company and then support managers in the day to day operational management of the employee benefits at a local country level.
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Governance committee: who's typically represented? what do they typically focus on?
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This
committee will therefore bring representatives from Finance, HR as well as maybe Risk and Legal together. The exact remit, agenda and operation of these committees varies by company and will reflect the internal culture and delegations of authority operated by the company. However, typically the committee focuses on the most important issues and is often focused primarily on the financial risks of the largest pension schemes. The committee will though most likely also take into account broader issues such as less important financial risks as well as supporting and refining the company’s benefit policies. A governance committee would also have a direct interest in legislative changes and the issues that may impact on their benefit arrangements. |
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Provide examples of committees set up by Board of Directors
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An Audit Committee with responsibility for reviewing the company’s financial controls, financial statements
and working with external and internal auditors • A Remuneration Committee with responsibility for determining the company’s policy for remunerating senior executives (including pay, bonus, other incentives and pension arrangements), approving the creation of employee share schemes and determining targets for bonus or performance share scheme • A Nominations Committee with responsibility for reviewing the structure of the Board, recommending any changes to the Board and finding new Board members • A Risk Committee with responsibility for monitoring the company’s risk management activities and approaches to deal with risk. Risk Committees are often found in financial service companies. |
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Explain changes brought about by Sarbanes Oxley
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The Act introduced major changes to corporate governance practices for major companies. It brought a new legal and regulatory focus on internal controls, made the CEO and CFO responsible for these controls, required the CEO and CFO to certify on a regular basis that the controls were working, and required companies to
produce an internal control report which has to be reported on by the company’s external auditors. As a result of Sarbanes-Oxley, US-listed companies have changed the way that information is reported to company directors and that decisions are made. In relation to pensions, this has resulted in greater scrutiny on international benefit programmes and the selection of US GAAP accounting assumptions. |
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Explain what facets of an organization are affected by a company's decision to expand operations beyond single home country jurisdiction
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marketing, distribution, manufacturing, packaging, financial reporting and human resources.
Consumers in one market will respond to different advertising, product features, packaging and colour schemes than those in another. Financial reporting and disclosure requirements are different in most countries. Local legislation may impose tariffs on goods manufactured outside the country or economic alliance (e.g. the European Union). Transportation and distribution costs may be very different from those in the company’s home country. There are many differences between countries in the field of human resource management. Approaches to recruiting that may be successful in one jurisdiction may fail completely in another. Customary emuneration elements will differ dramatically. Terminology that sounds similar or familiar can have different technical meanings in two different jurisdictions. This is true, even in different jurisdictions where the language is the same. A form of benefit that may be favoured in one jurisdiction and may even be more valuable than a customary local alternative may not be well received in the local jurisdiction. |
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What other benefits might a Global Benefits Committee have responsibility for?
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• Monitoring and controlling the company’s total spend on employee benefits
• Setting policies for the benefit design across the company; • Determining how benefits should be financed, including the insurance arrangements (including the use of a multinational pool and a captive); • Agreeing the level of benefits to be provided to senior executives and internationally mobile employees; • Approving the treatment of employee benefits in M&A situations; and • Appointing global providers and/or preferred suppliers |
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Why would a Global Benefit Committee be set-up?
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• Pension and employee benefit risks are seen as substantial business risks and need to be managed in the same way as other business risks
• Multinationals have expanded, e.g. by buying other businesses, and now have significant legacy pension arrangements across a range of businesses • Companies have increased focus on corporate governance, e.g. as a result of Sarbanes-Oxley in the USA • Changes to accounting standards have meant that there is greater visibility of pension costs and liabilities • Companies are becoming more centralised with more decision making and policies being made at head office level rather than at local level |
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What considerations are given when allocating responsibilities between local and corporate management of benefits?
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• corporate resources and skill sets;
• local resources and numbers of employees; • the nature of local business activities and the number of jurisdictions involved, and • the fact that certain functions lend themselves more naturally to corporate or local management. |
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What benefit management functions are more appropriately carried out at a corporate level?
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• financing, auditing and financial reporting;
• management of risk and asset pooling; • management reporting; and • legal compliance/oversight. |
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When are benefit management functions more appropriately shared between corporate and local management?
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• administration and/or selection of local administration service providers;
• communication to employees; • governmental reporting; and • selection of local professional advisers. |
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Benefit strategies will differ for multinationals based on what factors?
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• Business Strategy: do they compete on price or is innovation of product offering how they differentiate themselves?
• Presence: a company mainly present in Europe will place a different emphasis on benefits than one in Asia • Attitude to Risk: this will impact not only the type and level of benefits provided but how these are financed (e.g. the extent to which insurance is used) • Size of the organisation and local resources: a large organisation with sufficient local benefit management resources will need less centralised policies and be able to exploit economies of scale • History: Does the company have employees in a mixture of arrangements as a result of its history and any previous acquisitions? • Employee relations: Is the company unionised and does it participate in any collective labour or collective bargaining arrangements? |
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Provide 5 examples of different approaches and emphasis in benefit policies
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1. A small but cash poor company may emphasise the need for employees to take on risk in their benefit
provision (e.g. through Defined Contribution pension plans or a share award scheme). 2. A company competing on price will emphasise cost efficient and relatively low benefit provision. 3. A company who wish employees to stay only a short period of time will emphasise short term benefits (e.g. softer benefits); a company which invests in employees’ training with a long pay back period for example will need to put in place benefits that encourage retention of these key employees. 4. A company who wish to minimise risk will aim for Defined Contribution provision and a high level of insurance of benefits 5. A decentralised company will provide greater autonomy to its local offices and the strategy will have fewer “Global Standards”; a company wishing to support a high degree of employee mobility will need to ensure benefit consistency between offices to facilitate the transfer of employees. |
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What are the primary objectives of pension plan funding?
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1. Maintain the long term viability of the plan;
2. Provide security of member benefits; 3. Provide stability of company cash flows; 4. Take advantage of positive accounting effects, and 5. Take advantage of tax incentives for the company and / or plan members. |
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What are the available methods of mitigating pension risk?
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- buy outs
- buy ins - hedging strategies - increasing the funding level - granting the plan a charge over the assets of the sponsor. These options should be considered against the risk objectives and risk tolerances of the business as a whole, so that any risk management strategies within the pension plan are aligned with the business’s overall risk strategy. |
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What are the steps of pension plan risk management?
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• Plan design taking into account long term funding risks and sponsor appetite for risk.
• Staff training. • Maintaining registers of risk. • Cashflow controls. • Plan policies covering, for example, investment strategy, exercise of discretionary powers, funding policy and member disclosures. • Use of professional advisers, and details of the regular review of these advisers. • Managing conflicts of interest. • Sponsor covenant assessment. • Clear and documented audit trail of key decisions, e.g. written advice from advisors, meeting minutes of the plan’s governing body. • Service level agreements with key suppliers. • Independent audits. |
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What are the most common ways of monitoring risk in pension plans?
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Valuations and funding updates are the most common way of monitoring risk in pension plans, but the underlying risks can also be monitored e.g. through regular fund monitoring or investment managers performance reports.
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What are the primary advantages of insuring pension risk?
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• Cost certainty for the sponsor and minimal risk that further contributions are required (although this
depends on the nature of the benefit promise and the agreement with the insurer). The insurer takes on the risk of unanticipated increases in life expectancy and inflation, investment performance, medical expense costs etc. • If the benefit promise is between the insurer and employee then the employer and/or trust may have no direct liability in respect of these benefits. That limits the employer’s risk exposure. • The insurer may be able to provide cost efficient related services, such as making payments to members, administering records and providing relevant professional advice. • It may be cheaper to outsource the provision of a benefit to a company specialising in that area, as the third party may be able to benefit from economies of scale that the employer cannot. |
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Why would an employer or benefits trust retain and fund a pension itself?
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• Retain control of the benefits. Benefits cannot easily be amended once insured. An insurer will have their
own administration arrangements for the employees’ benefits, but the employees may regard their employer as ultimately responsible for how those operations are carried out. • Reduce cost. Insuring benefits involves a risk transfer for which the insurer will levy a charge within their premiums. Insurers are usually subject to more stringent regulatory requirements, requiring them to hold lower risk (and lower returning) assets than occupational benefit schemes. An employer may therefore be able to provide the same benefits at lower overall cost to itself by retaining the investment and liability risks. |
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Which countries have traditional DB plans where pension funds must be set up as separate legal entities that aren't tied to or treated as life insurance companies?
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Canada
Ireland Japan UK Switzerland US |
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Give examples of countries where the pension fund may underwrite any deficits
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Industry wide funds in Denmark and Pensionskassen in
Germany utilise a form of life insurance. In Norway, Finland and Sweden pension funds are set up as insurance companies In Iceland and the Netherlands pension funds are regulated similarly to insurance companies |
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Which countries have book reserve financing of pension plans?
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Austria
Germany Sweden |
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What are recent trends in pension funding?
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• Funding relief measures. Following the recent economic recession in 2007/8, regulators in some
jurisdictions adopted emergency funding relief measures to ease the financial burden of substantially higher funding requirements placed on plan sponsors following the recession. Most of the relief measures, while temporary, concentrated on extending the amortisation periods over which funding shortfalls would be funded. As an example, in March 2012, the U.S. Senate passed a law which allows defined benefit pension plans to base their contribution calculations on interest rates over a 25-year average rather than current market interest rates. This had the effect of lowering the contributions that companies needed to pay into their pension plans. • Letters of credit (LOC). LOCs are purchased by the plan sponsor from a bank to cover all or a portion of the plan’s solvency shortfall in the event of default by the plan sponsor (i.e. the bank would pay the face amount of the LOC under certain circumstances). LOCs would be held in the pension fund and counted as an asset for solvency funding purposes thereby reducing the plan sponsors funding obligations in respect of the portion of the deficit covered by the LOC. • No benefit improvements if plan is underfunded. New legislation in certain jurisdictions would forbid benefit improvements in severely underfunded plans or require full funding of any benefit improvements so that the overall funded position of the plan does not decrease. • More constructive approaches to overfunding. Some countries such as Canada, US and Japan set a maximum limit on the allowable funding level, requiring contributions to stop or cease being tax deductible when a specific funding level is reached. However, allowing overfunding would provide a buffer in the event asset values plunge. The problem is made more complicated because surplus assets may not be recoverable by the plan sponsor. While these and other countries have recognised the problem and some constraints have been relaxed, no simple and effective solutions have been developed. • Risk based approach to supervision. Under a risk based approach to the supervision of pension plans, funding requirements would reflect the specific risk factors faced by the pension fund and its various stakeholders. Risk factors would include the key financial risks operating on the plan (i.e. market, longevity and insolvency risks), the flexibility to adjust the benefit promise up or down and the flexibility of contributions by the plan sponsor and plan members to cover deficits. |
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A successful governance framework that mitigates financial risk and volatility involves the following:
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• Effective committees with the appropriate skills and knowledge to be effective in their decision making.
• Written policies or guidelines, e.g. covering exchange of information with members and plan managers; managing conflicts of interest; policy for benefits relating to corporate transactions; and review process for advisors and service providers. • Appropriate accountability, including clear roles, responsibilities and authorities. • Rigorous supervision and monitoring (i.e. of administrative processes, investment management and legal and regulatory developments). • Effective information flow between all stakeholders. • Consistent company view on benefits issues and provision. • Clear understanding on risk taking and the respective roles and objectives of the sponsors, plan members and plan managers (such as trustees). |
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Provide examples of a typical plan investment objective
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• Return based objective – to achieve a 100% funding level on a specified basis over the next ten years;
• Risk based objective – limit the chance of breaching an 80% funding level on a specified basis to a 1 in 20 chance over the next ten years. These are more suitable than traditional objectives used in the past, which may have been expressed in terms that have no relationship to the underlying liabilities, such as performance relative to other pension funds, or to a market index. |
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What's the typical goal of an investment policy?
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To set an asset mix that will meet the investment objectives within an acceptable degree of volatility. The asset mix is defined as the broad, long term allocations to the major asset classes (i.e. equities, bonds, alternatives investments, cash, etc.) The split between equities and bonds is perhaps the most critical decision.
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Considerations of asset allocation include:
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• Split of equities between domestic/foreign equities and the region/sector mix. At last part of a plan’s assets
are likely to be in a different currency to the plan’s liabilities and therefore measures to manage the currency risk need to be put in place. • Split of bonds between government bonds (gilts), index-linked bonds and corporate bonds. Index-linked bonds can provide a better hedge if a portion of the plan’s liabilities are linked to inflation. Corporate bonds have higher expected risk/return than government bonds and provide a better match with the companies accounting liabilities. • Role of alternative asset classes (i.e. property, hedge funds, private equity, commodities). Alternatives can provide the plan with a higher level of diversification which can reduce market risk. |
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In setting a target asset allocation for a pension plan, it's important to establish the plan sponsor's investment philosophy with respect to:
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• Extent of the equity risk premium
• Efficiency of various markets • Merits of active versus passive management • Diversification potential of foreign equity investment • Risk of foreign currency exposure • Active management value added expectations • Asset mix management value added expectations |
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What characteristics of the plan impact asset allocation decisions?
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• Type of plan (final average, career average, hybrid, etc.);
• The plan’s time horizon (ongoing or winding up); • Whether the plan is still open to new entrants and/or future benefit accruals; • The funding position; • The maturity of the plan’s liabilities (i.e. ratio of active to inactive liabilities); • The financial strength of the plan sponsor. |
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What are the risks for DB plans?
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• Investment risk – turbulence in the equity markets results in a poor match between equity assets and pension liabilities
• Bond risk – movements in interest rates can expose any mismatch in the duration of assets and liabilities • Longevity risk – this is the risk of underestimating the length of time plan members will spend in retirement collecting pension benefits from the plan. • Inflation risk – this is the risk that inflation is higher than anticipated; many plans have benefits that are linked to inflation such as post retirement benefit increases; for pensioners inflation risk represents the erosion of the purchasing power of fixed pensions due to inflationary increases in the cost of living. • Credit risk – this is the risk of the company defaulting on its obligations to funding the plan. • Currency risk – this is a significant risk for multinationals that have operations in several countries with various currencies; currency risk represents the changes in either domestic or foreign currencies leading to changes in the value of the plan’s assets and/or liabilities when expressed in domestic terms. • Regulatory risk – this is the risk that government will impose new costs on employers (particularly in respect of accrued pensions) that were not a feature when the plan was first established. |
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What's the purpose of a benefits policy?
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• Sets out the overall corporate philosophy and guiding
principles for the level of benefits provided to employees • Identifies the degree to which benefit design should involve risk sharing between the company and employees • Sets out the retirement benefits the company wants to offer its employees • Sets out the process for considering benefit improvements or reductions and the degree to which plan design can be used to mitigate risk and achieve acceptable levels of risk for all stakeholders |
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What are the different types of hybrid schemes?
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• Cash balance plans – benefits are calculated on the basis of a notional individual account that earns a
specified rate of return, which can be a fixed percentage, the return on a specified index or the return on several funds selected by the member. Benefits can be paid in a lump sum or converted into an annuity. • Nursery arrangements – younger employees join a DC plan and when they reach a fixed age, they have the option to switch into a DB plan. • Defined Contribution top up – members receive defined benefit accrual on their pay up to a limit defined in the plan rules, and defined contribution benefits above that level. • Defined Benefit underpin – the benefit at retirement is the higher of the annuity that can be purchased by an accumulated DC fund and the accrued defined benefit. |
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Explain how different international accounting standards are specific to employee benefits accounting
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• IAS 19 for companies reporting under IFRS; It should be noted that a revised version of IAS 19 has been
issued with first mandatory application in periods ending after 1 January 2013. • FAS 87, 88, 106 and 132(R) (collectively referred to as “FAS”) for companies reporting under US GAAP. These standards have recently been reissued under the heading “ASC 715-30” (Accounting Standards Codification 715-30) • FRS 17 for companies reporting under UK GAAP. |
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What's the objective of international accounting standards, and main principle?
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The objective of these different standards is to prescribe, for employee benefits, valuation methodology, assumptions guidance, accounting principles and disclosure requirements.
The main principle underlying each of these standards is that the cost of providing employee benefits should be recognised in the period in which the benefit is earned by employees, rather than when it is paid or payable. |
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What are the two basic concepts underlying the accounting for DB pension plans?
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1. Net asset or liability reported on balance sheet. A value is placed on the sponsoring entity’s long term
benefit promises that have built up to date and the corresponding assets used to back those liabilities. The Net Asset or Liability representing the difference between the assets and benefit obligations is reported on the balance sheet. 2. Pension cost reported on income statement. This section reconciles changes in the balance sheet assets and liabilities over the accounting period and records the costs, losses and profits to be recorded for that period in respect of the benefit arrangements. These items might be recognised in different areas or under different headings in the accounts, including the profit and loss statement (“P&L”), the Statement of Total Recognised Gains and Losses (“STRGL”) or Statement of Other Comprehensive Income (“OCI”) depending on the accounting standard concerned. |
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What are "DBO" and "PBO"?
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The defined benefit obligation (“DBO”) under IFRS and projected benefit obligation (“PBO”) under FAS is
the present value of expected future payments required to settle the obligation resulting from employee service in the current and prior periods calculated under the projected unit credit cost method. |
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Assumptions used for the purpose of valuations must meet these criteria:
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• Each assumption must be management’s best estimate.
• Assumptions must be internally consistent (or “mutually compatible”). • Financial assumptions (discount rate, salary) are based on market expectations at the measurement date for the period to maturity of the benefits while other assumptions are long term best estimates. |
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What's the difference between 'value of projected benefits', 'expected funding cost', and 'cost of discharging sponsor's liabilities'?
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Value of projected benefits - the theoretical portfolio of corporate bonds that would be expected to meet
benefit payments Expected funding cost - will usually be determined in part by the investment strategy of the plan Cost of discharging the sponsor’s liabilities - cost to discharge liabilities to an arms length third party entity such as insurer (since their pricing basis will not be exclusively based on corporate bond yields) |
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What inefficiencies arise when a multinational purchases insurance policies in many countries?
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• margins are built in to protect the insurer from adverse experience
• underwriting restrictions applicable to smaller groups of employees • minimum premium tables, or tariffs, set up by local supervisory authorities, though these are reducing in number • legal or commercial barriers to experience rated policies. |
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What barriers are faced by multinationals that establish regional or global insurance policies?
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• Some markets require insurance to be placed with local carriers;
• Most countries offer tax incentives to local policies, and international policies therefore suffer significant tax disadvantages against local alternatives, such as benefit in kind tax for employees on the premiums and tax on benefits on payment. |
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What is the EU Freedom of Services regime?
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broadly allows insurers based in one EU country to obtain a license to write business in another EU country on a basis equivalent to that of a local insurer in the latter country. A small number of so-called pan-European risk contracts have been
established, allowing a multinational to cover life and disability benefits for its employees in multiple EU countries through a single contract, though these are subject to a number of restrictions. |
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What's the definition of multipooling?
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‘The linking together of group insurance contracts, effected in two or more countries by subsidiaries of a
multinational corporation, for the purpose of combining claims experience under these contracts.’ |
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Under a pooling arrangement, what is included in income? in outgo?
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• Income, for example:
- Premiums paid to the insurers - Investment income - Decrease in reserves • Outgo, for example: - Claims paid by the insurers - Taxes payable locally - Commission payable locally - Profit sharing - Increase in reserves - Local administration and risk charges (e.g. reinsurance) |
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Describe the Loss Carried Forward System
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Any overall loss is carried forward to the account for the following year, to be offset against any surplus arising in the second year. A positive overall balance at the end of the second year (after deduction of the year 1 loss carried forward) will be paid out as an international dividend. A negative overall balance will
be carried forward to the third year, and so on. There can be several variations of loss carried forward: • unlimited loss carried forward • with a maximum amount of loss carried forward • with a limit on the time period for carry forward of a loss arising in a particular year, and • with a contingency fund, under which the network withholds a proportion of surplus in a fund to be used to help finance any future losses; the effect is to aid the smoothing of any fluctuations in experience. Most loss carried forward systems also incorporate ‘catastrophe’ cover, which has the effect of limiting the amount charged to the account in respect of the total claim arising from a single event. |
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Describe the Loss Free System
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There isn't any built-in insurance protection, whether
in the form of stop loss or catastrophe cover. If the experience balance is negative at the end of the accounting period, then the deficit is recoverable by the network from the contract holder, together with interest as specified in the agreement. It is thus “loss free” to the insurance network and not to the contract holder. The advantage of the loss free system to the contract holder is that there is no risk charge, and the contract holder can then purchase reinsurance protection matched as precisely as possible to the pool’s ‘exposure to loss’, either through the network or outside the network from reinsurers. The ultimate objective of the Loss Free system is for the organisation to retain risk. In this respect, the purpose of a Loss Free pool is similar to that of Self-Insurance and Captives |
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What risks are borne by insurance carriers under a multinational stop loss policy?
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The network has to meet the cost of an overall loss immediately at the end of the accounting period. Most networks will base the risk charge on an amount that corresponds to the probable risk of loss involved in the pooled contracts, although a few may use a ‘proportion of surplus’ method, whereby a percentage of surplus in the account is retained to cover the stop loss charge and the insurer’s share of profits.
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What risks are borne by insurance carriers under a carried forward system?
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The charge for risk of loss can still be based on statistical principles. However, a major risk, which has to be borne by a network, is the cancellation of the contract by the contract holder while there is still a deficit in the account. Exposure to this risk is at its greatest in the simplest form of the loss carried
forward system where there is no provision for cancellation of losses by the insurer in any circumstances. |
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The advantages of multinational pooling include:
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• Cost savings from favourable experience over the assumptions made in the premium basis for claims,
investment income and expense of administration. • Coordinated financial information for each policy in the pool. The account is invaluable for comparing the costs in each country and identifying potential areas of concern (e.g. excess claims). • Liberalised underwriting terms; evidence of health requirements often being based on the world wide total of covered employees. This may mean that no underwriting is required in practice when the sums assured do not exceed the “free cover” level calculated based on the global population. • Facilitation of transfer of staff across borders with automatic continuation of coverage on the same underwriting terms. • Greater influence with local insurers because a network will exert its influence with its associated carriers to ensure that even small plans receive good service. • Employee benefit information provided by the network in respect of local social security systems and occupational benefit practice. |
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The disadvantages of multinational pooling include:
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• The network insurer may not offer equivalent cover.
• The network insurer’s premium rate and/or policy terms and conditions may not be competitive to local alternatives. • The service standards of the local network insurer may be perceived as poor. • There may be a reciprocal business relationship between the subsidiary and the current insurer. • Close personal relationships may exist between members of the management of the subsidiary and staff of the current insurer. |
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What are the three principal ways in which captives are used to support the provision of employee benefits for a multinational?
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• Passive Agreement – the captive becomes a substitute for the multinational and as the multinational pooling
contract holder receives the multinational dividend. • Captive Retention - the captive acts as a reinsurer to the multinational pool, i.e. it accepts risk, typically under a Loss Free pooling approach. Liability for a loss by the pool is transferred from the insurance network to the captive. • Active Captive Solution – premium and risks are transferred to the captive using a treaty reinsurance approach. The captive takes all or part of the direct underwriting risk of the insured contracts. Under the Active Captive Solution, the multinational establishes a pooling approach to manage the local fronting requirements. For each network a single reinsurance contract is established between the network and the captive. Premiums continue to be paid at the local level, typically annually in advance (as opposed to other local patterns of payment), are collected net of local expenses by the network, and ceded (paid over), net of central expenses, to the captive. The captive can then invest these amounts in line with other captive assets. All claims are paid locally as under a pooling arrangement. On a quarterly basis the network prepares a report, the “bordereau”, showing income and outgo, and the captive reimburses the network for claims paid. In addition, where possible under local regulations, reserves previously held locally may also be transferred to the captive, as bearer of the risks. |
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What's required of a successful captive solution?
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• Review of local requirements – permission to transfer reserves and premiums may be subject to type of
benefit plan, local governance and captive domicile. In general premiums and reserves on life, disability, accident and medical benefits can be transferred. Reserves on Retirement pensions and corresponding assets are not typically transferred to a captive. • A strong central mandate for the implementation of a single solution • Commitment to ongoing management and governance • HR, Risk and Finance within the multinational to work together as a team • Strong communication - To all stakeholders, of the business goals and issues, financial and non-financial benefits and offsetting costs - Of the roles and responsibilities: Captive/ Risk manager, local HR, Corporate, broking and renewal cycle • Management of local considerations, including the type of benefits offered (employee contributions, local dividends), adjustment of the premium payment cycle |
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Provide examples of state-sponsored DC programs in Asia Pacific
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• In Singapore and Malaysia, there are mandatory, centrally run, Provident Funds that are effectively the equivalent of Social Security.
• In Australia, every employer must contribute a certain amount of pay (known as the Superannuation Guarantee Charge) into an approved (but privately operated) Superannuation plan. The choice of Superannuation plan rests with the employee. • The Mandatory Provident Fund legislation in Hong Kong sets out a basic employer-sponsored regime. Typically, defined contribution arrangements provide a lump sum at retirement; as a consequence, actual pension provision is less common within the region. |
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A basic checklist regarding benefit provisions for an IME should include:
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• Basic employee data
• Assignment details, including any commitment the employer may be making about status on return, or indeed how the extension or continuation in the Host country is to be handled (e.g., localisation after an initial period) • Details of existing benefit provision, the proposed benefit provision while on assignment, and any commitments which the employer may be making; intentions with respect to Social Security coverage may be discussed but no promises made outside the employer’s control • Which company will be the employer during the assignment, and copies of employment contract, assignment letter, termination by mutual agreement (where relevant to the transfer) |
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Key items included in an Assignment Letter include:
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• Term, location, and conditions of the assignment, especially where these will vary from those applicable
under the current employment contract • Details of the assignment role and reporting lines, including, where applicable, continuing relationships with the Home employing company • Details of the compensation package and allowances • Details of the benefit package during the assignment |
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If an employee remains in the 'Home' country plan during his assignment, key issues include:
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—how pensionable salary is to be determined (and how this may relate to actual earnings in the host country)
—benefit implications if the employee does not return home to work at the end of the assignment (such as termination or onward further assignment) —how, if at all, employee contributions and additional voluntary employee contributions can be made —the income tax and company tax implications for such continued participation —and special terms and conditions for risk benefit coverage |
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If an employee is being transferred to a 'Host' country plan, key issues include:
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—how the new plan operates and level of benefits to be expected for the relevant transfer period
—income tax and company tax implications —how the benefits accrued to date in the Home country plan will be treated, and what the position would be for these benefits on return home —benefit position in the event of an onward assignment during or after the transfer period, on return home or on leaving service |
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If an employee is joining an IPP as a Global Nomad, key issues include:
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—how the IPP operates and level of benefits to be expected
—income tax and company tax implications, especially any negative impact (eg loss of tax relief) —how the benefits accrued to date in the Home country will be treated, for example, will they be vested deferred or available for transfer to the IPP —What happens to the accrued IPP benefits on return home, transfer to another location, or leaving service |
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What are the challenges of an international assignment?
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How best to organise medical coverage? In almost all cases (with the notable exception of the United States), most medical care is arranged either through the State system or through nationally-based private insurance. Home country systems rarely extend any benefit to an employee who is expatriated away from that Home country and, if they do, as with the EU/EEA, only at the basic care level. While a Host-based provision may be
substituted during an assignment, there will often be ‘gaps’ in cover to be considered—if there is a serious accident or illness, the family will most likely want to return home where there may no longer be any cover in place; also, on returning home at the end of assignment, an employee rejoining a medical insurance arrangement may be treated as a new joiner with coverage restrictions or higher premiums involved. A suitable International Medical Policy may be the appropriate route to ensure continuity of coverage and medical repatriation. What happens if the assignee overstays beyond the initial period envisaged? Although some mobility policies address the issue, most assignment letters fail to do so. The usual provision and the usual intent of employers is to “localise” the employee if he stays beyond the assignment period; this can raise employment contract concerns and may imply termination at a cost. From the benefits perspective, the employee would join the benefit plans of the Host country employer, at a time when most employees will want to remain in the Home country plans (particularly the retirement plan). |
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What countries offer the potential of a partial or total refund of contributions on subsequent departure from the assignment location in exchange for benefit rights which would otherwise be lost?
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China
Germany India Japan |
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What are the three principal designs of an SSA?
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• The totalisation model, where each country provides for eligibility for benefits to be determined by the total
service credited in each of the countries, and for benefits to be determined using that total service credited and then pro-rated in proportion. Example: within the EU, each Member-State has agreed that any internationally-mobile employee will receive a benefit from each country in which the employee has service credited based on the total of service among all the relevant countries, with the benefit to be paid by each country to be equal to the higher of (a) the benefit accrued based on actual service in that country, or (b) the benefit using the total service reduced pro rata to the actual service in that country. • The reciprocal credit model, where each party agrees that in respect of an internationally-mobile employee who works in the other country and returns, the Home country will pay the benefit as if the employee had never left the country (e.g., UK-Canada, Brazil-Portugal). • The contributions-only model, where the foreign national does not have to pay contributions in the country of assignment (e.g., UK-Korea), but the SSA itself does not deal with benefits. |
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What are the primary purposes of SSAs? Secondary purpose of an SSA?
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Primary Purposes
• avoiding the potential for double contributions (in Home and Host countries simultaneously), and • ensuring that benefits accrued in respect of partial careers are protected. A secondary purpose of SSAs is to “carve out” those employees who are working temporarily in the other country to enable them to be retained in their Home country system during the assignment, thereby continuing to credit service in the system to which it is intended they will return, and to avoid paying contributions in a system where the service credited will likely be small. The objective is to treat the employee, on their return, as if they had “never been away”. |
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What's required for a 'carve out' employee to be retained in their Home country system?
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• The employee is currently in the Home country system
• The employee is being assigned by the employer resident in the Home country to work in the partner country • The assignment is limited and must not be intended to exceed a specified period, usually between 2 – 5 years (most agreements do not provide for renewal at the end of the period, although there may be discretion to extend that temporarily by the authorities involved if it is the best interest of the employee). |
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In trying to achieve a goal of Home Country 'retention', an examination should be made of what two aspects?
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• Do the rules of the Home country legislation and those of the plan itself permit such retention?
• How will that participation be treated in the Host country from a regulatory and tax perspective? For the first, the legislation allowing plan participation is often employment-driven, so any change of employment may disqualify continued participation. In some limited cases, such as the US, a change of residence may disqualify the employee, unless the plan rules specifically have been extended to cover such situations. In the second, rules with respect to mandatory plan participation may be in place—although there may be exceptions for temporary employees or for those covered elsewhere, and, indeed, may mirror the treatment under Social Security. |
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In the case of Host Country adoption, what might companies do to protect the transferring employee?
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• allow past Group service (i.e. with other subsidiaries of the multinational employer) to count towards eligibility and vesting rules in the Host country plan.
• Where it is clear that a loss of benefit will result from the transfer, take steps where possible to enhance the benefits accruing in the Host country plan or supplement the deferred benefit in the Home county plan, or both, to avoid or to minimize this loss. • An alternative for more permanent transfers is to consider whether the deferred benefit in the former Home country has to be frozen, or whether it may be available to transfer. Some countries require transfer values to be taken (e.g. Switzerland), while others permit transfer values to be taken but do not require it (e.g. Belgium). There are cases where a domestic transfer is possible but where the same possibility, or the same tax and regulatory treatment, is not available in the case of an international transfer, although if a country were to attempt to impose this within the European Union, the European Commission would very quickly start legal action on the grounds of discrimination (as it did with Denmark). For those that do allow an international value transfer, there may be restrictions on the types of plans permitted or the benefits that can be provided. |
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When might a Direct Unfunded Pension Promise be the best alternative to Home Country Retention or Host Country Adoption?
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• A pension promise may be attractive where there is perceived to be a gap in provision and no decision as
to how to fill it has been decided upon • It can be useful where only small numbers of employees are involved and establishing a formal funded arrangement is seen as uneconomic • It is typically used also where funding a benefit may present tax, investment or administrative challenges. |
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Why do companies create IPPs?
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• Internationally Mobile Employees
• Employees in countries where local retirement arrangements are considered unsatisfactory for a variety of motives e.g. political instability, weakness of currency or lack of local competent or trustworthy service providers • Special arrangements for senior managers, often motivated by the need to provide tax efficient saving plans • Unusual individual cases, possibly unique to a particular company |
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What's the definition of an IPP?
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“A retirement plan containing members from two or more countries specially created to serve certain special needs of its members or the sponsoring employer which are not adequately met by national retirement plans.“
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What criteria are used in selecting the location of an IPP?
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• There is a relative lack of regulatory
restrictions other than the minimum needed for protection of pension fund assets. • The location is free of local taxes (potentially important given that the location of the IPP is usually neither the Home nor the Host country for the employee) or at least offers a benign and attractive tax regime for the IPP as far as local taxes are concerned. • Political stability • Flexibility and sophistication of local law; for example, if a trust structure is desired, the location should have a well established trust law regime (Bermuda, the Channel Islands and the Isle of Man are examples of jurisdictions with well-established trust law regimes). • Availability of competent and experienced local service providers • Reputation as a sophisticated financial service centre • Freedom from local taxes, but also, ideally, tax recognition by the home countries where members are tax resident—it should be noted that, typically, home countries will not recognise the pension regimes of these offshore “tax haven” locations for tax purposes • Freedom from exchange controls • Linguistic ability e.g. multilingual staff retained by service providers. (Luxembourg, Switzerland and Liechtenstein are good locations from this point of view) |
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Where are IPPs typically located?
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• Bermuda
• Channel Islands (Jersey and Guernsey) • Isle of Man • Hong Kong |
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Which European countries have been considered as suitable offshore locations and are now either governed, or affected, by the EU IORP (Institution for Occupational Retirement Provision) Directive?
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• Luxembourg
• Ireland • Liechtenstein • Malta • Cyprus |
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Factors favoring creation of an EU IORP for IMEs include:
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All countries within the EU and EEA are required to recognise a properly established IORP for tax purposes and will grant it the tax privileges normally offered national plans. Therefore, contributions should be tax deductible and fund accruals not subject to current taxation. This is a considerable advantage.
• Situation where the majority of members live in Europe • Tax recognition and tax privileges offered by European states are considered of paramount importance. • Desire for multilingual service providers and culture |
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Factors favoring creation of a traditional IPP for IMEs include:
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• Situation where many members live outside the EU.
• Desire for maximum flexibility and freedom from regulatory restraint. • Defined benefit arrangement desired • Tax recognition and receipt of tax privileges from European states not considered of vital importance. |
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What are some typical design elements of an IPP?
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• IPPs may be defined benefit, defined contribution or hybrid, although most IPPs being established are currently defined contribution.
• Plans may be used for more creative reward solutions, such as deferred compensation and bonus sacrifices. • It is also not uncommon for the plan design to adopt a Provident Fund approach whereby the plan benefits are available as a lump sum (rather than having to administer a continuing income), and the benefit is distributed at a specified retirement age, or even, on leaving service (leaving no administration tail, i.e. the only plan members are active employees, as members leave the plan as soon as they cease active service). |
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Summarize the investment and legal vehicles of an IPP
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International pension plans are usually funded using either
• mutual funds/UCITS (Undertakings for Collective Investment in Transferable Securities) managed by fund managers, or • life insurance policies provided by insurance companies (often simply referred to as ‘insured plans’) The choice of the investment vehicle is usually governed by the legal vehicles available in the jurisdiction selected to host the IPP, although to a certain extent the jurisdiction selected and the legal vehicle selected may be interdependent, since it is often the nature of the particular investment vehicle which attracts the sponsor to the given jurisdiction in the first place. Locations historically linked to Britain and employing English common law, such as Ireland, Bermuda and the Channel Islands, generally offer trusts as the standard legal vehicle; while Continental European jurisdictions employing civil law and where the concept of a trust does not exist in national legislation, such as Luxembourg, offer non-profit associations (e.g. ASBLs) or foundations as the legal platform for IPPs. In both cases, these legal vehicles typically invest in mutual funds/UCITS. |
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What benefit plan issues should be considered in the event of a business transaction?
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Insurance Policies
Membership of Multi-Employer Benefit Plans Buyer Participates in the Benefit Plans of the Sellers Benefit Plans to Transfer to Buyers “Carve-outs” of Benefit Plans Increases or Reduction in Benefits Triggered by the Transaction |
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What is a "reverse carve-out" in the case of a benefit plan passing to a buyer as part of a transaction?
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Where the primary sponsor of the benefit plan is a legal entity that will be sold, then the benefit plan will usually
pass to the buyer as part of the transaction. In this case a “reverse carve-out” may be required in the event that some employees who are remaining with the seller participate in the plan. These employees will therefore need to be transferred into another seller’s plan. |
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Define 'participation period' in the context of a Benefit Plan "Carve-Out"
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If employees of both the buyer and seller participate in a benefit plan, then usually only the employees of the group “owning” the plan will be able to remain as active members of the plan. The other employees will need to leave the plan (to be “carved out”). Sometimes a limited transitional period of grace is granted to provide sufficient time for consultation and the establishment of a replacement arrangement. This period is referred to as a participation period.
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Provide 2 examples of special payments that are made if an employer ceases to participate in a multi-employer plan
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• A multi-employer plan that is not fully funded. Here are two specific cases: in the US, an employer leaving
a multi-employer plan is generally required to make a special contribution equal to its share of the deficit measured on an accounting-type of basis; in Germany, the public sector pension plan, VBL (Versorgungsanstalt des Bundes und der Länder), is only partially funded, and an immediate contribution is required upon leaving the plan, calculated essentially on an insurance type of basis. • A seller’s pension plan in the UK, where a participating employer is being sold. In this case the Trustees of the pension plan are able to demand a payment from the company leaving the plan equal to its proportionate share of the estimated deficit on the basis that all the liabilities of the plan were to be secured by insurance policies. |
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Actual level of benefit promised to an employee can be directly impacted by a transaction unless special provisions are made to stop this happening, for example:
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• Employees may be forced to leave a benefit plan before their benefits have fully vested
• Even if accrued benefits have fully vested, the treatment as a deferred member may be worse than as an active member (e.g. linking to future salary increases may be lost) • A collective agreement may apply in the company into which employees are being transferred giving employees entitlement to membership of a different plan • The transaction may trigger special payments to some employees that would be included within the definition of pensionable pay, unless specifically communicated otherwise • Stock options may be worthless based upon the market value of the seller’s shares at the particular time of the transaction, and hence have no value if the employees only have the option to exercise them at that time (i.e. the time value of the option is lost) |
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What employee benefit obligations may impact the expected synergies from a reduction in headcount that are part of restructuring?
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• Some pension plans provide for enhanced benefits upon redundancy, resulting in additional costs
• Some benefit plans provide benefits early on redundancy (e.g. the termination indemnity “Abfertigung” in Austria) • In many countries, a social plan will need to be agreed in the event of collective redundancy. A social plan will set out the scale of redundancies and the process to be followed to determine which employees are selected for redundancy. Often such a selection is made on the basis of a points system, with points being awarded for such things as age, years of service, degree of disability, number of dependents. The social plan may also provide for enhanced benefits for those impacted. |
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Describe a 'change of control' clause
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Some (particularly very senior) employees may have “change of control” clauses in their employment
agreements. “Change of control” clauses are generally triggered if the employee leaves service within a short period of a transaction involving a change of control of his/her employing company. Such contracts may provide for cash payments and/or improvements to pension plan benefits, and may make it harder for a buyer to retain such employees. |
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What does 'pensions' due diligence often include?
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Often “pensions” due diligence is understood to encompass all long-term employee benefits including not just pension plans but also long service awards, retiree medical plans, termination indemnities, early retirement plans, death and disability plans.
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In the event of a business transaction, what obligations are generally missing from an IFRS or USGAAP definition?
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Any additional liabilities triggered by the transaction itself, or obligations that are permitted to be carried off balance sheet, such as membership of certain multi-employer plans, even though it may be well known that significant deficits exist.
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Describe Vendor Due Diligence Reports and Fact Books
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Vendor Due Diligence Reports are due diligence reports that are usually ultimately addressed to the buyer of the business, even though they are commissioned by the seller. They should be prepared as if the client is the buyer (although in practice the seller will often exert some influence over the way in which issues are presented).
Fact Books are generally addressed to the seller and are prepared based entirely upon the information supplied by the seller, without further comment on whether the figures or accounting treatment are correct or appropriate from the perspective of a prospective buyer. |
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What are the benefits of Vendor Due Diligence Reports and Fact Books?
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The seller will have the opportunity to review the findings of the report, and can plan how it wishes to deal with the issues raised. In some cases, the issues raised will be sufficiently material to change the intended strategy in some respects.
In situations where multiple bidders are expected, the provision of a Vendor Due Diligence or Fact Book can reduce the time and expense required for potential bidders to reach the stage of being able to make an indicative offer quite considerably. The number of questions to the seller should also be reduced, allowing them to invite more potential bidders to the process. |
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A sale agreement will at a minimum define:
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• precisely what is being sold,
• the price being paid, • any pre-conditions that need to be satisfied and the timing at which the sale legally takes effect (“closing”), • the obligations of, and the promises made by, the buyer and seller • how any failure to satisfy any of the agreed conditions will be dealt with • the process to deal with any resulting disputes. |
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The terms of what services are usually set out in a Transitional Services Agreement?
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HR or payroll support in countries where the buyer does not previously have a presence
The ability to remain in the seller’s benefit plans for a limited period (e.g. 6 months) after closing |
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What's the purpose of a Joint Venture?
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Joint Ventures are set up most commonly to bring together non-core business resources and intellectual property from two organizations with the intention of growing value and ultimately selling the business.
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