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How the Pension Protection Act of 2006 Changed Retirement Planning

Protection Act Made Several Key Retirement Tools Permanent, Boosted the Power of Others

By David Fisher

(LifeWire) - The Pension Protection Act of 2006 changed the playing field considerably for retirement investors, mostly in investors' favor.

In broad strokes, the nearly 1,000-page bill made several important retirement plan rules permanent and increased the pressure on employers to fully fund their pension plans if they still offer them.

The changes were sweeping enough to prompt the financial analysis firm CCH to label the act "the first comprehensive pension legislation in more than 30 years," trumping everything that came after the landmark Employee Retirement Income Security Act of 1974 that created such stalwarts of American retirement planning as the 401(k).

Among the highlights:

Pension Plans

The act required employers who offer traditional pension plans to fully fund them over a span of years, starting with a 92% funding requirement by 2008 and ratcheting up to full funding by 2010. Prior to the act, employers were required to show proper funding for only 90% of their expected obligations, and many had fallen below that level.

In practical application, the act had mixed results. Many companies stepped up and moved toward providing full funding for their existing plans, while others dropped them altogether or reduced benefits.

Roth 401(k) and 401(b) Plans

The act made several provisions of retirement act laws permanent, overriding previous acts that would have made them disappear in 2010.

Chief among these was making Roth 401(k) and Roth 403(b) plans permanent. It also permanently allowed the conversion of traditional 401(k) and 403(b) plans into Roth accounts, allowing investors to gain the power of tax-free withdrawals for life by paying income taxes on their traditional retirement plans.

Such conversions, however, are still limited by a $100,000 cap on  modified adjusted gross income until 2010.

Contribution Limits

The act increased the contribution limits on several types of accounts, including 401(k)s, 403(b)s and on all forms of IRAs, and it indexed future increases to inflation. The amounts allowed for catch-up contributions for those age 50 and older were also increased.

Vesting

The act required employers to vest their employees more quickly in the employer's matching contributions. Cliff vesting, which gives the employee 100% ownership in the matching amounts at a certain date, was limited to three years after hire; graded vesting schedules, which give employees a little more ownership for each year of employment, were limited to six years.

Beneficiaries

The act allowed non-spousal beneficiaries, as well as spouses, to roll their inherited qualified retirement plan money into their own IRAs, avoiding the need to pay immediate income taxes.

Hardship Withdrawals

The act expanded the list of reasons that investors could invoke to take penalty-free hardship withdrawals from their 401(k)s and other qualified retirement accounts before age 59 1/2. In general, the rules were expanded to allow withdrawals that benefit beneficiaries as well as the main account-holders for such things as education expenses.

Savers Credit

The act made the savers credit permanent. The credit gives moderate- to low-income wage earners a tax credit of up to $1,000 on the amounts they contribute to their IRAs or employer-provided retirement plans.

LifeWire, a part of The New York Times Company, provides original and syndicated online lifestyle content. David Fisher is a freelance writer based in Bend, Ore. In addition to 25 years as a reporter and editor, he has worked as a professional financial adviser.

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