What In The World Is Going On With Lawyer Retirement Planning?

In Part One, the author provided an overview of what lawyers (and their firms) were doing about retirement planning, including a discussion on firms that do not use unfunded obligations ' The First Camp. Part Two examines firms that use unfunded retirement obligations, and the current trends in partner retirement planning.

The Second Camp: Firms That Use
Unfunded Retirement Obligations

Next are two examples of large firms that still believe (with some dissent) in significantly supporting partners' retirement beyond the use of contributory qualified plans.

The first firm is one of the largest firms in the country. It has a partnership agreement-based guaranteed retirement income plan that the firm believes is manageable given the firm's strong earnings and the maintenance of some reserves.

The firm also has in place for its partners and staff (but not associates) the same combined 401(k) Plan and Profit Sharing Plan structure discussed above. There is a mandatory retirement age and policy at this firm.

(Several firms seemed sensitive about discussing mandatory retirement policies, citing the Equal Employment Opportunity Commission suit against Sidley, Austin, Brown & Wood pending in the Northern District of Illinois, but a managing partner of one firm dismissed the case as a “waste of government resources.”)

This firm's retirement payment obligation is described as “modest” compared to the firm's average profits per-partner per-year that exceed $1 million. The firm describes the partnership's obligation as unfunded though it does maintain “some reserves” to help cover future obligations.

Second in this camp is another national firm of several hundred lawyers which has a similar plan but which describes its retirement plan in a much more structured way, employing a clear-cut plan with three components.

The first component begins at a mandatory retirement age of 65 that triggers a 5-year “semi-retirement” phase. During this phase, the partner still maintains an office in the firm and is expected to decrease his activities and work on transitioning out of the firm, receiving a salary of a percentage of former income based on the average of the prior 3 years' compensation. A partner who is a member of the firm's committee dealing with retirement did say there can be exceptions to both the semi-retirement compensation formula and to the mandatory retirement age in the appropriate case.

The second component is a 401(k) Plan and Profit Sharing Plan combination to which partner contributions are “mandatory out of profits” (ie, the firm, an LLP, makes “close to the maximum” allowable contribution). The firm maintains a separate 401(k) Plan for associates with a small level (1.5% of compensation) of matching contribution by the firm.

The third component is an un-funded obligation of the firm to make payments to retired partners who became equity partners before a certain date specified in the partnership agreement. The firm's formerly universally applicable unfunded retirement component was eliminated some years.

The retirement payment under this component is calculated pursuant to a precise formula. For those senior partners still covered by this element of the firm's plan, at each eligible partner's retirement, the partner is entitled to a defined annual dollar amount for life that is a specified dollar amount per year of service with the firm. The annual payment is actuarially reduced if the partner retires before age 65.

Significantly, and unlike the other large firm in this camp, the annual payment is also reduced by the amount of the annual payments under a hypothetical single life annuity that the partner's mandatory contribution account in the tax-qualified Profit Sharing Plan could purchase if it were used to purchase an annuity at retirement.

He also stated that the firm's retirement committee is presently studying whether to recommend changes in the semi-retirement and retirement policies of the firm, including the mandatory retirement age (currently 65).

The partner was, however, critical of the concept of unfunded retirement structures in general, and presumably at his own firm. He also cited the difficulty of making changes in general to established retirement plans.

The Trends In Partner
Retirement Planning

It does not appear unfunded retirement obligations have much of a presence or future for law firms. Even those firms who seem to have one are wary to extremely critical of such arrangements and either are or will probably will be phasing them out.

In “So long, but not goodbye” (Business Law Today, September/ October 2003), Stuart Pachman wrote about such un-funded retirement obligations:

“… [A] retirement provision, particularly one that is overly generous, can sow the seeds of destruction for the firm. When partners sign the firm's agreement containing a retirement provision, each probably views himself or herself as the prospective retiree with the rest of the firm carrying on and paying benefits. Twenty years later, when several partners retire at about the same time and the base of lawyers remaining in the firm has not grown sufficiently wide, the retirement payout may overwhelm the firm's revenue.”

Several lawyers responding to the survey expressed negative opinions about unfunded plans, even where their firms have no such plans. One noted his firm was the beneficiary of lateral acquisition of partners departing firms out of dissatisfaction with such obligations at their former firms and said head hunters recruit clients from such firms where there is dissatisfaction with the burden of un-funded retirement obligations.

Trend: Planning Opportunities

Besides the abandonment of “traditional” firm funded retirement plans, the clear trend is for firms to put in place qualified plan combinations designed to take maximum advantage of current tax advantaged tax planning.

The two large firms used as examples in this “First Camp” discussion in Part One last month (no unfunded retirement obligations), and the proactive actions of the second firm mentioned in the “Second Camp” discussion, evidence the “overwhelming trend” among firms today, according to Barry Young, principal actuary at Retirement Consulting Actuaries, Inc., in Atlanta, which counts many law firms throughout the country among its clients. He insists many large and smaller law firms are quickly moving to the combined Profit Sharing Plan and 401(k) Plan structure (to maximize qualified retirement funding) and that those with unfunded components to their retirement plans are moving to modify or eliminate them.

While the details can be tedious and are beyond the scope of this article, according to Young, the combination of a 401(k) Plan and a Profit Sharing Plan allows the absolute maximum contribution allowed by law in a defined contribution plan ($42,000). The non-discrimination rules may require generous contributions for staff of as much as 10%-11% of compensation if the firm uses a “safe harbor” plan, Young says, but by using “cross tested” plans, lawyer contributions can often be at the $42,000 limit with staff contributions as low as around 5% of pay. (“Safe harbor” plans do not have to be cross-tested for discrimination, but are more costly).

According to Young, in spite of greater opportunities for tax-advantaged retirement saving, several points are evident:

1. A realistic assessment of retirement standard of living is necessary.

2. Legal limits on contributions make it difficult for highly paid lawyers to adequately fund their retirement needs.

3. Congress, the IRS and the retirement industry have created new or clarified rules and plans that in many cases can lead to much higher savings opportunities for professionals and business owners with proper planning.

Some of the opportunities, trends and ideas he identified include:

• “Cross tested” retirement plans which can allow for much larger contributions as a percent of pay for older key employees than younger staff employees.
• The reemergence of defined benefit pension plans allowing highly paid individuals to defer on a tax-favored basis in excess of the $42,000 limit on defined contribution plans.
• Cash balance-type pension plans that allow for an efficient plan design for professional firms in particular.
• Significant increases in benefit, compensation and deductibility limits provided for in the 2001 Tax Act.
• Safe harbor 401(k) Plans that allow unrestricted contributions to highly compensated employees with a 3% vested contribution to non-highly compensated employees.

These alternatives point strongly to Conclusion No. 6 in Part One of this article – professional assistance is essential to effective retirement planning, as almost every survey respondent agreed.

'Delay Not Caesar; Read It Instantly.'
' Julius Caesar, Act 3, Scene 1

Of all that can be said on the subject of retirement planning, the most urgent comment heard from virtually every attorney interviewed was the hope that younger lawyers would hear and heed the sage advice of their elders: start retirement planning now.

But most also feared the young are not listening. This warning is found everywhere one looks in financial planning books, articles, Web sites and the ubiquitous radio and cable television shows on the topic. Yet in spite of all this information and the attendant warnings, many do not seem to listen.

For a historical example of what happens if one does not heed warnings, take the case of Julius Caesar. How many warnings did Caesar receive that he needed to do things differently? Yet, in spite of many warnings, what happened to him?

First, a month before he found out quite suddenly that his “retirement plan was not going to vest,” a soothsayer warned Caesar: “Beware the Ides of March.” Caesar remarked to this first warning, “He is a dreamer; let us leave him; pass.” (Sit down with a 28-year-old associate to talk about retirement, and see if you don't get the same response.)

Next, on the Ides of March itself, Caesar's wife pleaded that he not go to the Senate that day, and augurers Caesar consulted even cautioned Caesar not to venture out of his home because, “plucking the entrails of an offering forth, they could not find a heart within the beast.” Caesar left for the Senate anyway.

On his way to the Senate, Caesar again encountered the soothsayer and confidently quipped, “The Ides of March are come!” as if to mock the earlier warning. The soothsayer cryptically replied, “Aye Caesar. But not gone.”

Finally, waiting along Caesar's path to the Senate was Artemidorus who had prepared a note. He pleaded, “Delay not Caesar; read it instantly.” The note warned Caesar to beware, take heed of, come not near, have an eye to, trust not and mark well several named conspirators. The note concluded: “If thou beest not immortal, look about you: security gives way to conspiracy. The mighty gods defend thee!”

Caesar spurned Artemidorus' offer, the fifth warning he received in a month, the fourth that day.

If Caesar had only read the note, or heeded the soothsayer's warnings, or listened to Calpurnia or relied on his counselors' entrail reading ability, things might have turned out differently, and Caesar might have enjoyed a comfortable retirement rather than the fate he suffered moments after exchanging witticisms about the Ides of March with the Soothsayer. Basically, as Artemidorus said, if Caesar “beest not immortal,” he should have taken more care. And earlier that day Caesar had acknowledged his own mortality, yet still took no care, even in the face of many warnings. He had admitted, “Death, a necessary end, will come when it will come.” He might have said the same about retirement ' it will come when it will come, ready or not.

Young lawyers, as you can see by Caesar's example, and from the urgings of those who have gone before you, there is no excuse to defer retirement planning and danger if you do. Your elders are not dreamers. What they say is not based on augury or the saying of sooths. Do not let their warnings pass. The Ides of March have come but not gone. Beware the future, at least if thou beest not immortal.

In Part One, the author provided an overview of what lawyers (and their firms) were doing about retirement planning, including a discussion on firms that do not use unfunded obligations ' The First Camp. Part Two examines firms that use unfunded retirement obligations, and the current trends in partner retirement planning.

The Second Camp: Firms That Use
Unfunded Retirement Obligations

Next are two examples of large firms that still believe (with some dissent) in significantly supporting partners' retirement beyond the use of contributory qualified plans.

The first firm is one of the largest firms in the country. It has a partnership agreement-based guaranteed retirement income plan that the firm believes is manageable given the firm's strong earnings and the maintenance of some reserves.

The firm also has in place for its partners and staff (but not associates) the same combined 401(k) Plan and Profit Sharing Plan structure discussed above. There is a mandatory retirement age and policy at this firm.

(Several firms seemed sensitive about discussing mandatory retirement policies, citing the Equal Employment Opportunity Commission suit against Sidley, Austin, Brown & Wood pending in the Northern District of Illinois, but a managing partner of one firm dismissed the case as a “waste of government resources.”)

This firm's retirement payment obligation is described as “modest” compared to the firm's average profits per-partner per-year that exceed $1 million. The firm describes the partnership's obligation as unfunded though it does maintain “some reserves” to help cover future obligations.

Second in this camp is another national firm of several hundred lawyers which has a similar plan but which describes its retirement plan in a much more structured way, employing a clear-cut plan with three components.

The first component begins at a mandatory retirement age of 65 that triggers a 5-year “semi-retirement” phase. During this phase, the partner still maintains an office in the firm and is expected to decrease his activities and work on transitioning out of the firm, receiving a salary of a percentage of former income based on the average of the prior 3 years' compensation. A partner who is a member of the firm's committee dealing with retirement did say there can be exceptions to both the semi-retirement compensation formula and to the mandatory retirement age in the appropriate case.

The second component is a 401(k) Plan and Profit Sharing Plan combination to which partner contributions are “mandatory out of profits” (ie, the firm, an LLP, makes “close to the maximum” allowable contribution). The firm maintains a separate 401(k) Plan for associates with a small level (1.5% of compensation) of matching contribution by the firm.

The third component is an un-funded obligation of the firm to make payments to retired partners who became equity partners before a certain date specified in the partnership agreement. The firm's formerly universally applicable unfunded retirement component was eliminated some years.

The retirement payment under this component is calculated pursuant to a precise formula. For those senior partners still covered by this element of the firm's plan, at each eligible partner's retirement, the partner is entitled to a defined annual dollar amount for life that is a specified dollar amount per year of service with the firm. The annual payment is actuarially reduced if the partner retires before age 65.

Significantly, and unlike the other large firm in this camp, the annual payment is also reduced by the amount of the annual payments under a hypothetical single life annuity that the partner's mandatory contribution account in the tax-qualified Profit Sharing Plan could purchase if it were used to purchase an annuity at retirement.

He also stated that the firm's retirement committee is presently studying whether to recommend changes in the semi-retirement and retirement policies of the firm, including the mandatory retirement age (currently 65).

The partner was, however, critical of the concept of unfunded retirement structures in general, and presumably at his own firm. He also cited the difficulty of making changes in general to established retirement plans.

The Trends In Partner
Retirement Planning

It does not appear unfunded retirement obligations have much of a presence or future for law firms. Even those firms who seem to have one are wary to extremely critical of such arrangements and either are or will probably will be phasing them out.

In “So long, but not goodbye” (Business Law Today, September/ October 2003), Stuart Pachman wrote about such un-funded retirement obligations:

“… [A] retirement provision, particularly one that is overly generous, can sow the seeds of destruction for the firm. When partners sign the firm's agreement containing a retirement provision, each probably views himself or herself as the prospective retiree with the rest of the firm carrying on and paying benefits. Twenty years later, when several partners retire at about the same time and the base of lawyers remaining in the firm has not grown sufficiently wide, the retirement payout may overwhelm the firm's revenue.”

Several lawyers responding to the survey expressed negative opinions about unfunded plans, even where their firms have no such plans. One noted his firm was the beneficiary of lateral acquisition of partners departing firms out of dissatisfaction with such obligations at their former firms and said head hunters recruit clients from such firms where there is dissatisfaction with the burden of un-funded retirement obligations.

Trend: Planning Opportunities

Besides the abandonment of “traditional” firm funded retirement plans, the clear trend is for firms to put in place qualified plan combinations designed to take maximum advantage of current tax advantaged tax planning.

The two large firms used as examples in this “First Camp” discussion in Part One last month (no unfunded retirement obligations), and the proactive actions of the second firm mentioned in the “Second Camp” discussion, evidence the “overwhelming trend” among firms today, according to Barry Young, principal actuary at Retirement Consulting Actuaries, Inc., in Atlanta, which counts many law firms throughout the country among its clients. He insists many large and smaller law firms are quickly moving to the combined Profit Sharing Plan and 401(k) Plan structure (to maximize qualified retirement funding) and that those with unfunded components to their retirement plans are moving to modify or eliminate them.

While the details can be tedious and are beyond the scope of this article, according to Young, the combination of a 401(k) Plan and a Profit Sharing Plan allows the absolute maximum contribution allowed by law in a defined contribution plan ($42,000). The non-discrimination rules may require generous contributions for staff of as much as 10%-11% of compensation if the firm uses a “safe harbor” plan, Young says, but by using “cross tested” plans, lawyer contributions can often be at the $42,000 limit with staff contributions as low as around 5% of pay. (“Safe harbor” plans do not have to be cross-tested for discrimination, but are more costly).

According to Young, in spite of greater opportunities for tax-advantaged retirement saving, several points are evident:

1. A realistic assessment of retirement standard of living is necessary.

2. Legal limits on contributions make it difficult for highly paid lawyers to adequately fund their retirement needs.

3. Congress, the IRS and the retirement industry have created new or clarified rules and plans that in many cases can lead to much higher savings opportunities for professionals and business owners with proper planning.

Some of the opportunities, trends and ideas he identified include:

• “Cross tested” retirement plans which can allow for much larger contributions as a percent of pay for older key employees than younger staff employees.
• The reemergence of defined benefit pension plans allowing highly paid individuals to defer on a tax-favored basis in excess of the $42,000 limit on defined contribution plans.
• Cash balance-type pension plans that allow for an efficient plan design for professional firms in particular.
• Significant increases in benefit, compensation and deductibility limits provided for in the 2001 Tax Act.
• Safe harbor 401(k) Plans that allow unrestricted contributions to highly compensated employees with a 3% vested contribution to non-highly compensated employees.

These alternatives point strongly to Conclusion No. 6 in Part One of this article – professional assistance is essential to effective retirement planning, as almost every survey respondent agreed.

'Delay Not Caesar; Read It Instantly.'
' Julius Caesar, Act 3, Scene 1

Of all that can be said on the subject of retirement planning, the most urgent comment heard from virtually every attorney interviewed was the hope that younger lawyers would hear and heed the sage advice of their elders: start retirement planning now.

But most also feared the young are not listening. This warning is found everywhere one looks in financial planning books, articles, Web sites and the ubiquitous radio and cable television shows on the topic. Yet in spite of all this information and the attendant warnings, many do not seem to listen.

For a historical example of what happens if one does not heed warnings, take the case of Julius Caesar. How many warnings did Caesar receive that he needed to do things differently? Yet, in spite of many warnings, what happened to him?

First, a month before he found out quite suddenly that his “retirement plan was not going to vest,” a soothsayer warned Caesar: “Beware the Ides of March.” Caesar remarked to this first warning, “He is a dreamer; let us leave him; pass.” (Sit down with a 28-year-old associate to talk about retirement, and see if you don't get the same response.)

Next, on the Ides of March itself, Caesar's wife pleaded that he not go to the Senate that day, and augurers Caesar consulted even cautioned Caesar not to venture out of his home because, “plucking the entrails of an offering forth, they could not find a heart within the beast.” Caesar left for the Senate anyway.

On his way to the Senate, Caesar again encountered the soothsayer and confidently quipped, “The Ides of March are come!” as if to mock the earlier warning. The soothsayer cryptically replied, “Aye Caesar. But not gone.”

Finally, waiting along Caesar's path to the Senate was Artemidorus who had prepared a note. He pleaded, “Delay not Caesar; read it instantly.” The note warned Caesar to beware, take heed of, come not near, have an eye to, trust not and mark well several named conspirators. The note concluded: “If thou beest not immortal, look about you: security gives way to conspiracy. The mighty gods defend thee!”

Caesar spurned Artemidorus' offer, the fifth warning he received in a month, the fourth that day.

If Caesar had only read the note, or heeded the soothsayer's warnings, or listened to Calpurnia or relied on his counselors' entrail reading ability, things might have turned out differently, and Caesar might have enjoyed a comfortable retirement rather than the fate he suffered moments after exchanging witticisms about the Ides of March with the Soothsayer. Basically, as Artemidorus said, if Caesar “beest not immortal,” he should have taken more care. And earlier that day Caesar had acknowledged his own mortality, yet still took no care, even in the face of many warnings. He had admitted, “Death, a necessary end, will come when it will come.” He might have said the same about retirement ' it will come when it will come, ready or not.

Young lawyers, as you can see by Caesar's example, and from the urgings of those who have gone before you, there is no excuse to defer retirement planning and danger if you do. Your elders are not dreamers. What they say is not based on augury or the saying of sooths. Do not let their warnings pass. The Ides of March have come but not gone. Beware the future, at least if thou beest not immortal.