What is cash balance plan
TheNJ Star-Ledger Archive COPYRIGHT © The Star-Ledger NJ 1999
Date: 1999/10/31 Sunday Page: 001 Section: BUSINESS Edition:
Older Workers Are Agitating as Companies Move to Portable Pension Plans
By Sam Ali STAR-LEDGER STAFF
The time-honored pension. For many workers, it's a sacred covenant between employee and employer, one of the last remaining vestiges of a kinder,more paternalistic era in corporate America.
Stick with a company for a long time, employers promised, and you would retire not just with a gold watch and a pat on the back, but a big retirement nest egg. But now, a new kind of pension plan is taking the business world by storm, and it's blowing all the old pension rules to bits.
It's known as a cash balance plan, and for many mid-career workers, it can reduce long-promised pension benefits by as much as one-third to one-half and dash hopes of an early and comfortable retirement.That's because the cash balance plan is missing one key - and extremely popular - ingredient: that high-octane boost in pension benefits most employees bank on getting at the end of their careers.
Little wonder then that older and mid-career workers who have been playing by the old rules for so long are decidedly miffed.
Indeed, the uproar from mid-career workers has been near deafening as more corporations sweep aside traditional pension plans and embrace these newfangled ones. An estimated 20 percent of Fortune 500 companies, representing more than 10 million workers nationwide, currently offer these plans. The backlash is turning the normally humdrum world of pensions into a veritable war zone, pitting older workers against younger ones, employees against their bosses and now even Congress against Big Business.
"You put in a number of years with a company, with a number of expectations, and just when you're about to earn the most valuable part of the plan, they tell you it's not there anymore," said David Certner, senior coordinator for economic issues at AARP.
Companies contend these new plans offer the bulk of their workers a better and more flexible retirement benefit. But, in dollars and cents, the losses in expected - though not yet earned - benefits can cut deep.
Consider this: Because traditional pension plans calculate benefits based on years of service and average pay in an employee's final working years, as much as half the pension is typically earned in the homestretch of a career. Those are usually the years when an individual's salary is at its highest.
Cash balance plans turn that mathematical formula on its head. Under these plans, all employees, regardless of age or tenure, accrue pension money evenly over time based on a percentage of their pay, typically 4 percent, and a guaranteed fixed interest rate, typically 5 percent.
A cash balance pension also is portable, a feature that appeals to today's young and mobile work force, companies say. Whenever and wherever you go, it goes with you. No more late-career sweeteners that reward longevity and encourage a here-for-life mentality.
So far, the loudest and most publicly acknowledged outcry in this rancorous debate has come from IBM employees - an outcry that has riveted federal lawmakers and sparked a national debate on the fairness of cash balance conversions. But the employee backlash is spreading like wildfire at other companies as more workers whip out their pension calculators and do their own math. At AT&T, Elaine McDermott, 59, is one employee who's feeling the sting.
McDermott, a resident of Portland, Ore. has spent 21 years at AT&T and was looking forward to a monthly pension of $3,042 when she retired in six years.
But in January 1998, the telecommunications giant converted its $10.6 billion pension plan for management to a cash balance plan and McDermott saw a good chunk of her projected future pension earnings vaporize over night. Now her monthly benefit is frozen at $1,901. And McDermott, a project manager in AT&T's growth markets division, is outraged.
"I cannot project the lost balances without wanting to scream," she said. "We've been punished for being old. These would have been the years that my pension really grew."
McDermott's frustration was echoed by several AT&T managers from New Jersey, who did not want to be identified.
Like many managers at AT&T, McDermott feels like a victim of a double standard. In 1998, AT&T union members voted to convert their pension plan to a cash balance too - with one striking difference.
Under the union plan, any employee with 15 or more years at the company gets to choose if they want to switch to a cash balance plan or stay in their old plan. And they don't have to make that choice until they retire - a choice non-union employees like McDermott wish they had, too.
The pension conversion is at the heart of a lawsuit brought by Phillip Engers, 52, and other AT&T employees accusing the company of age discrimination.
Engers, a data network consultant at AT&T in Maryland, saw his future pension earnings shrink by nearly 32 percent when the company officially switched to a cash balance plan.
At the time of the switch, Engers was entitled to a yearly pension of $40,294 - a figure he was told would remain frozen until 2007 as a result of the conversion.
"The message to the older workers was, you've basically gotten all the benefits you're going to get for the next 10 years so why don't you think about leaving?" said Stephen R. Bruce, a Washington attorney representing Engers.
Engers did leave the company last year. The suit is pending, and AT&T has so far filed three motions to dismiss the charges.
"We believe the implementation of our plan was done by the law and it was administered squarely," said AT&T spokesman Burke Stinson.
In fact, it may have been.
When employers switch to cash balance plans, they must first establish an opening account balance for every employee. To do that, employers typically convert each employees' old pension benefit to its current value. While many employees assume their opening account balance is equal to their old pension benefit, they're wrong. In fact, it's often lower because the new cash balance account is based on a worker's career average pay - not the average of the final years of a career.
In Engers' case, his opening cash balance account came to $27,600 - far less than the $40,294 he had already accrued under the old pension plan. It's not that he lost the other $13,000, but the math sure makes it look that way at first.
While federal law prohibits companies from cutting already earned pensions, companies are free to alter their plans going into the future anyway they see fit.
other words, if you've already earned a $40,000 or $50,000 or even a $100,000 pension under an old plan, no one can take that away from you. And because employees are free to choose the higher of the two plans when they ultimately leave the company, no one is actually losing any benefits they've already earned, companies argue.
Older workers who decide to continue working at the company, however, may never see another dime in future pension earnings from their company.
That's because it will take many years of pay credits and interest before a new cash balance accounts - Engers' $27,600 - catches up to the old pension benefit figure and eventually surpasses it. This unpopular feature is sourly referred to by employees as ""wear-away."
In its defense, AT&T says it enhanced its employees' old pensions by 27 percent on average before the conversion to help offset any future losses, said Alan Sefcik, human resource director at AT&T.
"That's essentially worth five additional years of service," said Sefcik.
But for employees nearing retirement, like Engers or McDermott, that's not nearly enough to make up for the better pension they would have received under the old plan. By the time McDermott is 65, for example, she will still be earning $1,100 less in pension benefits than she would have if AT&T had never converted to a cash balance plan.
Not every company follows AT&T's model, of course. Each designs its own conversion plan, experts say. At Boeing, for example, all workers start with an opening cash balance account of zero. Meanwhile, old pension benefits continue to earn interest in a separate account.
The bottom line is this: Don't rely on future pension earnings always increasing, said Lawrence Sher of PwC Kwasha Lipton Group, an employee benefits consulting firm based in Teaneck.
After all, once upon a time, companies promised their workers job security and fully funded health benefits - promises that also have gone by the wayside over the years.
"It's presumptuous to look down the road with a calculator and project your salary and bonus and your pension," said AT&T spokesman Stinson. "It would almost be as presumptuous as saying this year my stock investments increased 37 percent and project that they will do the same over the next 10 years. It would be nice and very comfortable, but this is not a slide rule life that we're living in."
Still, to ease the transition, many companies do sweeten the pot for their long-term workers following a conversion.
For example, companies like Citigroup automatically allow long-term employees to stay in the old plan. Kodak allows all 35,000 of its covered employees to choose between the two plans.
Still others make bigger contributions to older workers' accounts to make up any difference. Some beef up existing 401(k) plans or offer their employees stock options.
While the controversy surrounding cash balance plans is a fairly new phenomena, these plans actually have been around for years.
The concept was pioneered nearly 14 years ago by BankAmerica Corp. and was designed by PwC Kwasha Lipton Group.
Today, AT&T is just one of several hundred companies that have converted their traditional pension plans to cash balance plans - their popularity coinciding with the rising prevalence of 401(k) plans, another portable, employee-steered retirement plan.
Among the converts last year alone: Kodak, Motorola, Avon, CBS Corp. SmithKline Beecham PLC, IBM, AT&T, Citigroup and Aetna.
For their part, employers cite convenience and competition - not cost savings or a desire to boot older workers out the door - as the reasons for switching plans.
A study conducted by the American Society of Actuaries this year found that two-thirds of workers actually fare better under cash balance plans - particularly women, who tend to have shorter job tenures.
In today's competitive job market, companies say these conversions are necessary to attract and retain younger workers - people who prefer cash balance plans because they are more apt to change jobs, either voluntarily or involuntarily, a number of times during the course of their careers.
Consider this: Only 9.5 percent of people in the work force have been with their current employer 20 or more years, according to Jack VanDerhei, a fellow at Washington-based Employee Benefit Research Institute.
At AT&T, for example, only one in eight employees historically works a full career of 25 years or more, said Sefcik, AT&T's human resource director.
The end result: Many people effectively forfeit their right to earn a big retirement nest egg under traditional pension plans.
However, under a hypothetical cash balance plan, a 30-year-old worker who's making about $30,000 a year would earn close to $5,443 in pension benefits after only five years on the job, as opposed to a measly $1,785 in a traditional plan, according VanDerhei.
Assuming that same person stayed at the same job for 10 years, he would accumulate $14,317 in a cash balance account vs. $5,808 in a traditional plan.
On the downside, a 50-year-old worker who is suddenly switched mid-career to a cash balance plan gets the worst of both plans. They don't get to enjoy the yearly compounding growth of a cash balance plan, plus they lose the jet-propelled boost in their final earning years promised under traditional plans.
Another reason employers cite for adopting these plans, en masse: They are exceedingly simple for employees to understand compared to conventional pension plans.
"People like the simplicity of cash balance plans, knowing what the value is at any point in time," said Sefcik.
Suddenly, the pension is immediately gratifying and relevant, not some vague, far-off promise.
Ironically, while protests from older workers have caused quite a stir in corporate boardrooms and in the halls of Congress, a survey released Oct. 18 shows that the majority of workers actually like cash balance plans by a margin of 2 to 1.
The telephone poll, conducted by The Third Millennium, a New York-based research organization representing young Americans, surveyed 800 people age 21 and older.
Still, it's important for companies to be honest and upfront with their employees when they switch their plans, in case there is a shortfall, according to Wayne Bogosian, president of Personal Financial Education, a Massachusetts company that businesses hire to counsel workers on pension changes.
How else, he questions, can employees make up the difference and secure their financial future?
"If, in fact, transition benefits are not going to be enough, the employer is obligated morally to tell their workers so they can do something about it," he said. ""That's called truth in advertising. It's the right thing to do and the fair thing to do.
"And if they don't, Congress will make sure they do."Source: www.erisapensionclaims.com